[Rhodes22-list] Alternative Energy

[brad haslett]

For those of you interested in alternative energy,
here is a link to a site I get regular e-mail updates
from: 

http://www.renewableenergyaccess.com/assets/newsletter/

Read the article on European bio-diesel production. 
ADM's stock price has recently run-up on the ethanol
shortage.  I still think corn based ethanol is a loser
but sugar based ethanol is another matter (read the
article on Brazil). ADM is also big in biodiesel in
Europe. In 1979 when oil got to $80+ per barrel in
today's dollars, I bought a VW diesel Rabbit that got
50 mpg.  Couple that with an electric hybrid drive and
you could get 90 mpg.  This is off the shelf
technology.  When oil gets to $100 per barrel (it
will), the technology will come off the shelf. Below
is an excerpt from a paper I wrote two years ago (oil
was at $55).  I'm not precient, a seventh grader could
have guessed where oil markets are heading.  There are
only two things one needs to know about worldwide oil
demand - China and India.

Brad

.....    The latest run-up in crude oil prices was not
as lucrative for some mid-level producers as one would
think because many companies hedged their production
at price levels far below the eventual high mark of
$55 per barrel. This should encourage airlines in the
short run because oil producers do not think the
current prices will remain at their present level. 
The longer-term forcast is not as comforting. Oil
price forcasting is a tricky and often an elusive
pursuit, however, observing how oil companies have
responded to the most recent upturn in prices should
give airline managers some insight to how the
suppliers of the second most expensive input to
airline operations think the market will behave. 
While oil companies are currently enjoying substantial
profits from the rise in crude oil prices, few have
stepped up discovery budgets far beyond what was
previously budgeted.  This would indicate that they
think the current situation is temporary and prices
will return to “normal” in the near future. The bulk
of both large and small production companies have used
the excess cash from earnings associated with high oil
prices to pay down debt, buy back stock, and reward
shareholders with increased dividends rather than step
up exploration.  While this should encourage airline
managers that fuel prices are falling, the longer-
term outlook in the oil industry should be cause for
alarm.

The concept of  “peak oil”, that is the eventual high
point of worldwide oil production, has been discussed
since Colonial Drake’s first oil well.  A Shell Oil
geologist and later professor emeritis of geology at
Princeton University, L. King Hubbert, wrote a
scientific paper in 1956 which was derided by his
employer and peers and became known as “Hubberts
Peak”.  Hubbert theorized that oil production lags oil
discovery by roughly forty years.  Since discovery
peaked in the US in the thirties, he predicted that
production would peak in the early 1970’s. US domestic
oil production did in fact peak in 1970.  His later
prediction was that since world oil discovery peaked
in the sixties, world oil production would peak
shortly after the turn of the century.  While it is
still too early to tell with certainty, there is much
evidence to indicate that his second prediction is
eerily accurate as well.  As production peaks, crude
oil prices will rise with a constant demand.  With the
rapid modernization of China, and to a lesser degree
India, world oil demand is rising rapidly at the same
time production capacity is falling.  The history of
oil prices has been one of a fairly stable trend line
with wild but short lived swings away from the mean. 
If Hubbert’s Peak prediction holds true, we may see a
shift away from the fundamental futures forcasting
models and a substantial rise in the baseline price
range for crude oil.  This should give pause to
airline executives and further encourage them to adopt
hedging operations to smooth fuel cost fluctuations
and earnings swings.  A majority of oil industry
analysts believe that there is a fundamental paradigm
shift in oil price trends.  Where in the past,
volatility was due primarily to geo-politics; future
price swings will be more a function of geology.  This
new paradigm can be seen by looking at the reserve
life index (RLI) of global oil reserves, a
simple-to-calculate metric: total reserves divided by
total production.  Simply put, the higher the RLI, the
greater the oil market’s long-term growth potential. 
The current situation does not look encouraging.  In
the past 30 years, RLI has dropped from 119 years in
1970 to 47 years in 2004.  This trend is not reversing
but in fact seems to be accelerating with some
estimates that RLI will only be 20 years by 2020. 
This has a very ominous meaning for airline
executives.  Where in the past oil prices have been
determined by short-term political and economic
factors, future prices will be a result of market
recognition of the structural imbalance between demand
and supply.  Detractors from this theory will point to
“un-discovered” oil fields as the weakness in the
Hubbert’s Peak argument but the oil industry’s
reluctance to substantially increase discovery efforts
during a period of high oil prices should give little
comfort.  Most of the large and medium sized oil
companies have chosen growth through merger and
acquisition rather than the drill bit.  

The rising world demand for crude oil with a flat or
declining supply of the raw product will have serious
impacts across a broad spectrum of industries but
perhaps none more so than airlines.  While many
industries can switch to other sources of energy and
raw materials, there is no substitute for crude oil
derived jet fuel and no alternative fuels are expected
for decades.  Prudent airline managers would be wise
to closely follow investment and performance of oil
companies to guage what direction long-term jet fuel
prices are heading.  While no amount of hedging will
stop this long term trend, the volitility of oil
prices will most likely increase with more aggressive
market speculation by traders as the spector of
increasing demand along with falling supply
develops.....


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