There are several major oil exporters which are at or past their peak levels of production. This is a very serious problem, and a recent report by the International Energy Agency (IEA) forecast that world oil demand is likely to outstrip world oil capacity with in 5 years. Of course, in reality, demand can not exceed supply or the market will not clear. However, prices would have to rise to the point where demand is suppressed enough to match the available supply, and that number is likely to be far higher than what we are seeing today, in real prices.
Oil demand is highly correlated with economic growth and prosperity. So let's consider what happens if some of the major oil producers get to the point where their production starts to fall. Let's assume for the sake of convenience that the exporting country is consuming 50% of its production, so it produces two million barrels a day and exports one million. Now let's assume that its production falls by 5%. Given that total world production capacity is tight, that 5% decline in production would cause prices to rise by more than 5%. Oil prices are very inelastic in the short term. The net result is that even though its volumes are falling, the country is getting richer. With that increased prosperity will come more domestic demand. So let's assume that domestic consumption rises by 2.5% per year. What is the net effect? Well exports will fall to zero within nine years. How realistic is this? Well the U.K. went from peak oil production from the North Sea to being a net oil importer within six years.
One has to assume that even the most dictatorial regime will value domestic consumption over exports. The price of gasoline might be cheap in the U.S. relative to say Europe, but relative to places like Venezuela, Iran and Russia it is very expensive. Democratic societies which happen to be oil exporters (short list, Norway and Mexico come to mind) will without a doubt be more concerned with the interests of their citizens for relatively cheap oil than they will be about the welfare of oil importing countries. From the point of view of oil importing countries, such as the U.S. it is the availability of oil export capacity is more critical than total production capacity. How real are the concerns about falling production? Well lets just go through the list of countries which had lower production in 2006 than 2005. For some clearly the cause was natural field declines, in others above ground problems played a significant role. However, the list is pretty scary, Mexico -2.2%, Venezuela -2.9%, Nigeria -4.9%, Norway -6.9%, the U.K. -9.6% and finally Saudi Arabia, -2.6%. It's real hard to make the case that it was unprofitable for those countries to have been producing in 2006 and thus decided to restrain their production.
Folks, we have a real serious problem coming. However, this problem will allow those who are well positioned for it to make a boat load (supertanker) worth of money. The probability of oil (in real terms) being above $150 a barrel is far higher than the probability of it being below $50 a barrel five years from now. Over weight energy in your portfolios. A list of tickers to look at and strongly consider adding to your portfolios would include: Chesapeake Energy CHK, ConocoPhillips COP, Comstock Resources CRK, Denbury Resources DNR, Diamond Offshore DO, EOG Resources EOG, Grey Wolf GW, Halliburton HAL, Marathon MRO, National Oilwell NOV, Patterson-UTI PTEN, Valero VLO and Exxon Mobil XOM.
ConocoPhillips analyst report
Chesapeake Energy analyst report
Comstock Resources analyst report
Denbury Resources analyst report
Diamond Offshore analyst report
EOG Resources analyst report
Grey Wolf analyst report
Valero analyst report
Halliburton analyst report
Marathon analyst report
National Oilwell analyst report
Valero analyst report
Exxon Mobil analyst report
Patterson-UTI analyst report
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