<![CDATA[PEDEVCO Corp. (Pacific Energy Development) Corporate Website - BLOG]]>Mon, 08 Feb 2016 17:23:25 -0800Weebly<![CDATA[A World Without Shale?]]>Mon, 08 Feb 2016 13:00:01 GMThttp://www.pacificenergydevelopment.com/blog/a-world-without-shaleGeoff Styles - Managing Director of GSW Strategy

Like most revolutions, the US shale boom is producing unintended consequences. After President Obama's rejection of the Keystone XL Pipeline and on the heels of the Bureau of Land Management's decision to suspend new coal leases on federal land, some public figures, elected officials and a couple million petitioners are now calling for an end to offshore drilling.  It's hard to imagine any of these efforts, including a new "Keep It in the Ground" movement, being taken seriously without the changes in the economic and political landscape that shale development has helped bring about.

Consider the financial, employment and energy security impact of shale since 2007, when this revolution was just emerging. That year, the US trade deficit in goods and services stood at over $700 billion. Energy accounted for 40% of it (see chart below), the result of relentless growth in US oil imports since the mid-1980s. Rising US petroleum consumption and falling production added to the pressure on oil markets in the early 2000s as China's growth surged. By the time oil prices spiked to nearly $150 per barrel in 2008, oil and imported petroleum products made up almost two-thirds of the US trade deficit.


Today, oil's share of a somewhat smaller trade imbalance is just over 10%. Since 2008 the US bill for net oil imports--after subtracting exports of refined products and, more recently, crude oil--has been cut by $300 billion per year. That measures only the direct displacement of millions of barrels per day of imported oil by US shale, or "tight oil" and the drastic reduction in global petroleum prices resulting mainly from that same displacement. It misses the trade benefit from improved US competitiveness due to cheaper energy inputs, especially natural gas.

Compared with 2007, resurgent US natural gas production is saving American businesses and consumers around $100 billion per year, despite consumption increasing by about 20%--in the process replacing  more than a fifth of coal-fired power generation. $25 billion of those savings come from lower natural gas imports, which were also on an upward trend before shale hit its stride.

The employment impact of the shale revolution also contributed to making energy less of a hot-button issue in US politics. Following the financial crisis and recession of 2008-9, job creation understandably became the main focus of government policy. The key metric of the 2009 stimulus was "jobs created or saved." Analysis of federal and state employment data indicates that shale development played an important role in reducing US unemployment that peaked at 10% in 2009, on its narrowest measure.

From 2007 to the end of 2012, US oil and gas employment grew by 162,000 jobs, ignoring the "multiplier effect" frequently cited for stimulus projects. That broader impact is evident at the state level. US states with active shale development appear to have lost fewer jobs and added more than a million new jobs from 2008-14, while "non-shale" states struggled to get back to pre-recession employment. That effect was also visible at the county level in states like Pennsylvania, where counties with drilling gained more jobs than those without, and Ohio, where "shale counties" reduced unemployment at a faster pace than the average for the state, or the US as a whole. The loss of some of these jobs in today's challenging oil market, as stressful as that is for those affected, does not negate their contribution in the crucial period following the recession.

Now imagine what things would be like today if the shale revolution had never gotten off the ground. US oil production would be around 5 million barrels per day lower, and OPEC would be in the driver's seat, rather than fighting for market share and engaging in a price war with non-OPEC producers like the US and Russia. The price of oil would assuredly not be in the low $30s, but much likelier at $100 or more, extending the situation that prevailed from 2011's "Arab Spring" until late 2014.

In such a world oil, and increasingly natural gas, would dominate the trade deficit. The US would have taken longer recovering from the Great Recession, with fewer states and counties leading the way back to growth, and everything that implies for home values, tax revenues and the federal deficit. Energy efficiency efforts would be thriving, driven by scarcity, and we might have a little more renewable energy than we do now. However, wind and solar power, which in 2015 were together equivalent to just 27% of the natural gas output of Pennsylvania's portion of the Marcellus shale, could not have grown fast enough to fill the resulting energy gap.

In effect, then, the environment in which a US president could block a major oil pipeline from America's most reliable foreign supplier without incurring serious political consequences depended on the success of an "all of the above" energy policy that was implicitly a bet on shale gas and oil buying years for renewables to scale up.  Absent this energy abundance, to which offshore drilling contributes significantly, how long would it take for public sentiment to reach the point at which calls to "Drill baby, drill" drowned out any notion of leaving anything in the ground?

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<![CDATA[Was 2015 a Turning Point For Energy]]>Fri, 08 Jan 2016 06:18:47 GMThttp://www.pacificenergydevelopment.com/blog/was-2015-a-turning-point-for-energyGeoff Styles - Managing Director of GSW Strategy

It's customary at this point in the year to look back at the one that has just concluded and ahead to what the new one might hold. When I started reviewing energy developments in 2015 I was surprised by the number of references to it as a turning point, whether for the oil industry, the response to climate change, coal-fired electricity generation, or renewable energy. To this list I am tempted to add the decision to allow unrestricted exports of US crude oil for the first time in 40 years.

Major turning points are best identified with the passage of time, and with so many legitimate candidates it might seem a bit deflating to note, as the chart below reflects, that the growth pattern for US energy supplies in 2015 looks a lot like the one for 2014. Despite low prices, oil and gas posted solid gains, while wind and solar power contributed modestly, when compared on an energy-equivalent basis.

There are sound reasons to think that next year's graph should look quite different, starting with oil. The petroleum industry is still in turmoil from the major turning point in late 2014, when OPEC declined to cut its output quota to restore the global oil market to balance. In North America and much of the world, drilling and investment in new projects are down sharply, and US oil production is retreating from the 44-year peak it reached in April. The subsequent decline would have been even more pronounced without the contribution of new deepwater platforms  in the Gulf of Mexico that were planned long before oil prices fell.

However, anyone identifying 2015 as the start of a global shift away from oil must contend with some contrary statistics. Global oil demand appears to have increased by around 2%--equivalent to the output of Nigeria--in response to a 70% drop in oil prices. And despite a lot of media coverage, electric vehicles--the leading contender to replace the internal-combustion cars that are the main users of refined oil--have yet to catch on with mainstream consumers.

Based on data from Hybridcars.com, US sales of battery-electric vehicles (EVs) grew slightly faster than the 6% pace of the entire US car market in 2015 but still accounted for less than 0.5% of all new cars. In fact, the combined US market share of hybrids, plug-in hybrids and full EVs fell by 18%, compared to 2014, to below 3%. This is a respectable start, but it's not much different from the beachhead hybrids alone occupied in 2009.

Although we might look back on this situation in a few years as a turning point, I believe that will depend on the condition of OPEC and the global oil industry, as well as the level of global oil consumption, when supply and demand come back into balance and today's high oil inventories are drawn down.

At the launch of API's latest State of American Energy report earlier this week I had the opportunity to ask Jack Gerard, the President and CEO of API, how he thought the current situation could change the industry, and whether it would push it even farther towards shale development, including outside the US. His response focused on ensuring that policies will allow US producers to compete globally and build on the advantages of US resources, capital markets and rule of law to increase their share of the market.

As for US natural gas production, rising per-well productivity and growth in the Utica shale and Permian Basin offset less drilling in general and output declines in the Marcellus shale and elsewhere.  The continued expansion of gas is remarkable, considering that natural gas futures prices (front month) averaged just $ 2.63 per million BTUs for the year and dipped below $2 in December. The LNG exports set to begin this month look very timely. 

Renewable energy, mainly in the form of wind and solar power, continues to grow rapidly as its costs decline. US renewables got an unexpected boost in December when the Congress extended the two main federal tax credits for wind, solar and other technologies by five years, including retroactively reinstating the lapsed wind Production Tax Credit (PTC).  They should also benefit from the implementation of the EPA's Clean Power Plan, and from the effect of the Paris climate agreement on the investment climate for these technologies.

We may not know for some time whether the Paris Agreement was truly a turning point for climate change, as many have suggested. Another prescriptive agreement with legally binding targets, along the lines of the Kyoto Protocol, was never in the cards. However, the Paris text is replete with tentative verbs, along the lines of, "requests, invites, recognizes, aims, takes note, encourages, welcomes, etc. "  It remains up to the participating countries whether and how they fulfill their voluntary Intended Nationally Determined Contributions and financial commitments.

This could turn out to be the necessary framework for firm steps by both developed and developing countries to reduce emissions and adapt to climatic changes that are already "baked in", or it could shortly be overtaken by other events, as previous climate change measures were in the aftermath of the financial crisis. The current financial problems of the world's largest emitter of greenhouse gases--arguably the most important signatory to the Paris Agreement--are not a positive sign.

With so many uncertainties in play, we should consider all of these potential turning points as signposts of changes that depend on other interconnected factors, if they are to lead to a future that breaks with the status quo. There are enough of them to make for a very interesting 2016, even if this wasn't also a US presidential election year.

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<![CDATA[OPEC and Oil Price]]>Thu, 10 Dec 2015 01:02:46 GMThttp://www.pacificenergydevelopment.com/blog/opec-and-oil-priceGeoff Styles - Managing Director of GSW Strategy

The price of oil has been testing its lows from the 2008-9 financial crisis, in the aftermath of another inconclusive meeting of the Organization of Petroleum Exporting Countries. For all the attention and speculation devoted to OPEC-watching at such times, the question we should be asking about OPEC is whether the current situation shares enough of the elements that defined those periods in the past when the cartel's actual market control lived up to its reputation.

That reputation was established during the twin oil crises of the 1970s. US oil production peaked in late 1970, and to the extent there was then a global oil market, the key influence in setting its supply--and thus prices-- passed from the Texas Railroad Commission to OPEC, which had been around since 1960.  From 1972 to 1980, the nominal price of a barrel of oil imported from the Persian Gulf increased roughly ten-fold, with disastrous effects on the global economy.

Just a few years later, however, oil prices collapsed.  OPEC's control was undermined by new non-OPEC production from places like the North Sea and Alaskan North Slope and a 10% contraction in global oil demand. The turning point came in 1985. Saudi Arabia, which had successively cut its output from 10 million barrels per day (MBD) in 1981 to just 3.6 MBD, introduced  "netback pricing" as a way to protect and recover market share.

That move helped set up nearly 20 years of moderate oil prices, during which OPEC's most successful intervention came in response to the Asian Economic Crisis of the late 1990s, when together with Mexico, Norway, Oman and Russia, it sharply curtailed production to pull the oil market out of a tailspin.

The proponents of today's "lower for longer" view of oil prices may see compelling parallels in the circumstances of the mid-1980s, compared to today's. Production from new sources, mainly US "tight oil" from shale, has created another global oil surplus. In the 1980s nuclear power and coal were pushing oil out of its established role in power generation. Now, renewables and electricity are beginning to erode oil's share of transportation energy,  while the slowdown of China's economic growth and concerns about CO2 emissions raise doubts about the future growth of oil demand.

However, these similarities break down on some fundamental points. First, the production profile of shale wells is radically different from that of large, conventional onshore oil fields or offshore platforms. Once drilled, the latter produce at substantial rates for decades, while tight oil wells may deliver two-thirds of their lifetime output in just the first three years of operation. Sustaining production requires continuous drilling. In fact, new projects similar to the ones that underpinned oil-price stability from 1986-2003 make up a large proportion of the $200 billion of investment that has reportedly been cancelled in response to the current price slump.

Another major difference relates to spare oil production capacity. During most of the 1980s and '90s, OPEC maintained significant spare capacity, much of it in Saudi Arabia. This is what allowed OPEC to absorb the loss of around 3.5 MBD from Kuwait and Iraq in 1990-91 while continuing to meet the needs of a growing global market. The virtual disappearance of that spare capacity was a key trigger of the oil price spike of 2004-8. (See chart below.)  A little-discussed consequence of OPEC's current strategy to maintain, and in the case of Saudi Arabia to increase output has been a decline in OPEC's effective spare capacity, to just over 2 MBD, compared to 3.5 MBD in the spring of 2014.

As a result, global spare oil production capacity is essentially shifting from Saudi Arabia, which historically exhibited a willingness to tap it to alleviate market disruptions, to Iran, Iraq and US shale. All of these are subject to large uncertainties. Iran's production capacity has atrophied under sanctions, and it isn't clear how quickly it can ramp back up once sanctions are fully lifted. Iraq's capacity and output have increased rapidly, but key portions are threatened by ISIS.

Meanwhile, US tight oil production is falling, although numerous wells have been drilled but not completed, presumably enabling them to be brought online quickly, later--effectively spare capacity. How that would work in practice remains to be seen, and their output would in any case remain locked within the US until Congress or the administration lifts the 1970s-vintage oil export restrictions. After inventories return to normal levels, a world of lower or more uncertain spare capacity is likely be a world of higher and more volatile oil prices.

Oil prices were largely unshackled from OPEC's influence last year, after Saudi Arabia engineered a new OPEC strategy aimed at maximizing market share. However, with oil demand continuing to grow and millions of barrels per day of future non-OPEC production having been canceled-- and unlikely to be reinstated any time soon--and with OPEC's spare capacity approaching its low levels of the mid-2000s, the potential price leverage of a cut in OPEC's output quota is arguably greater than it has been in some time.  

If that doesn't cast doubts over "lower for longer", it at least raises questions about the long-term aims of OPEC's biggest producers.

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<![CDATA[ Shrinking the Strategic Petroleum Reserve ]]>Thu, 05 Nov 2015 18:55:36 GMThttp://www.pacificenergydevelopment.com/blog/-shrinking-the-strategic-petroleum-reserveGeoff Styles - Managing Director of GSW Strategy

The recently agreed Congressional budget compromise includes plans to sell 58 million barrels of oil from the US Strategic Petroleum Reserve, beginning in 2018. This decision raises serious questions. The world has changed enormously since the SPR was established in the 1970s, but the realignment of such an asset for the 21st century deserves a full strategic review and debate. Leaping ahead to treat the SPR like an ATM  seems unwise on multiple grounds.

My initial reaction was that the sale would result in the US government effectively buying high and selling low. However, on a last-in, first-out (LIFO) basis the 2011 SPR release (Libyan revolution)  should have removed any barrels purchased as prices surged past $100 per barrel (bbl) to over $140, prior to the financial crisis. The oil slated to be sold in 2018-25 was likely injected between December 2003 and June 2005, when West Texas Intermediate crude oil averaged around $44/bbl. The Treasury should at least break even on these sales, allowing us to dispense with judging the trading acumen of the Congress and focus on the strategic aspects of this decision.
The good news is that the combination of revived US oil production and lower domestic petroleum demand effectively doubled the notional import protection that the SPR provides. Yet as Energy Secretary Moniz  and a growing body of experts have concluded, the SPR's present configuration is inadequate to deal with whole categories of plausible oil-supply disruptions.

Today's SPR consists entirely of crude oil stored in caverns near the major refining centers of the Gulf Coast, to which it is connected via pipelines. However, while crude oil imports into the Gulf Coast have fallen dramatically, the long-tem decline of oil production in Alaska and California has forced West Coast refiners to import 1-1.5 million bbl/day of oil, including more than half of California's crude supply, much of it from OPEC producers. In the event of an interruption of those deliveries, and under current oil-export restrictions, getting SPR oil from Texas and Louisiana to L.A. and San Francisco would pose enormous logistical challenges.

We have also learned that natural disasters such as hurricanes Katrina and Rita in 2005 and Superstorm Sandy in 2012 affect refinery operations, as well as oil deliveries.  A crude oil SPR is of little value if its contents can't be processed into the fuels that consumers and industry actually use.  The newer Northeast heating oil and gasoline reserves were intended to address that limitation, though on a much smaller scale.

It is thus fair to say that the SPR established in the Ford Administration and filled by the next five US presidents to a level now equivalent to 137 days of US crude oil imports is not diverse enough in its composition or locations, and too big for our current needs. If we could count on a continuation of cheap, abundant oil for the next two decades, selling off some of the SPR's inventory wouldn't create much cause for concern. Yet the purpose of such a reserve is to mitigate the risks of uncertain and inherently unpredictable future conditions and events. That should be factored into any decision to shrink the SPR.

We don't have to look far to find reasons to suspect that oil prices might someday be higher and more volatile than today--perhaps as soon as the 2018-25 legislated SPR sales period--or to worry that oil supplies from the Middle East might become less secure.
Consider the consequences of the oil price collapse that began over a year ago. Low oil prices have indeed put pressure on the highly flexible US shale sector, where production is now expected to drop by around 500,000 bbl/day by next year. The impact on large-scale, long-lead-time capital investments in places like Canada, the North Sea and Gulf of Mexico has been even more profound. Over $200 billion of new projects and exploration activity have been deferred or canceled. Unlike shale, most of these projects could not be revived quickly if prices rebounded.

As production from existing fields declines without replacement, the current global oil surplus will gradually dissipate, bringing the market back into balance. However, that balance is likely to be more precarious than before, since OPEC's strategic shift to protect market share instead of managing prices entails the shrinkage of its "spare capacity." That means that in a future crisis, Saudi Arabia and other OPEC producers would have less flexibility to increase production to make up for lost output elsewhere.

Barring an unforeseen reduction in global  oil demand, the scenario that is starting to take shape, including the prospect of rising US oil imports, increasing reliance on OPEC, and the growth of ISIS in the world's oil "breadbasket", fits the  pattern of risks the SPR was originally intended to address. In that light it is hard to justify reducing the size of the SPR without a clear plan for making the remaining volume more effective at shoring up future vulnerabilities in US energy security.

In their haste to reach a deal, Congressional negotiators may also have overlooked some SPR-related alternatives that could generate revenue without draining inventories. These might include allowing other countries to buy into the reserve by means of "special drawing rights," or simply selling long-dated call options backed by the SPR, to be settled in the future by delivery or cash, at the government's discretion. 

Together, these strategic and geopolitical concerns should provide ample motivation for the next Congress and administration to revisit the SPR sales provisions of the 2016 budget deal, before they go into effect.
 

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<![CDATA[Diesel's Future on the Line]]>Fri, 02 Oct 2015 23:07:20 GMThttp://www.pacificenergydevelopment.com/blog/diesels-future-on-the-lineGeoff Styles - Managing Director of GSW Strategy

​Whether or not Volkswagen's diesel deception proves to be "worse than Enron" as a Yale business school dean commented, it is more than just the business scandal du jour. Its repercussions could affect many other carmakers, especially those headquartered in Europe. And if it triggered a large-scale shift by consumers away from diesel passenger cars, that would have major consequences for the global oil refining industry, oil and gas producers, and sales of electric and other low-emission cars.

The scale of the problem ensures that it will not blow over quickly. Nearly 500,000 VW diesel cars in the US were equipped with software to circumvent federal and state emissions testing, and the company has indicated that 11 million vehicles are affected, worldwide. Even if Volkswagen's retrofit plan passes muster with regulators in the US, Europe and Asia, the resulting recall could take years to complete.

It's also still unclear whether VW's diesel models are unique in polluting significantly more under real-world conditions than in laboratory testing. Regulators in Europe appear to suspect the problem is more widespread. Other companies use essentially the same emission-control technologies--from the same vendors--to control the NOx and particulates from smaller cars equipped with diesel engines. The French government announced plans to subject 100 diesel cars chosen at random from consumers and rental fleets to more realistic testing.

So aside from the investigations and lawsuits that VW faces in multiple countries, the claims of every carmaker selling "clean diesels" and the reputation of a technology that European governments have long viewed as a crucial tool for reducing CO2 emissions and oil imports are likely to be under a cloud for at least the next few years. How consumers react to all this will determine the future, not only of diesel cars, but of the future global mix of transportation fuels and vehicle types.
 
Start with oil refining. As long ago as the early 1990s, when I traded petroleum products in London, the European shift to diesel was creating a regional surplus of motor gasoline and a growing deficit of diesel fuel, or "gasoil" as it is often called there. For a while trade was the solution: The US was importing increasing volumes of gasoline to meet growing demand and had diesel to spare. The fuel imbalances of the US and EU were well-matched, in the short-to-medium term.

As this shift continued, the wholesale prices of diesel and gasoline in the global market adjusted, affecting refinery margins on both sides of the Atlantic. Marginal facilities in Europe shut down, while others invested in the hardware to increase their yield of diesel and reduce gasoline production. US refiners also invested in diesel-making equipment.

The aftermath of the financial crisis and recession increased the pressure on Europe's refiners, as did the rapid growth of "light tight oil" production in the US. Europe's biggest export market for gasoline dried up as fuels demand slowed and US refineries reinvented themselves as major exporters of gasoline.

Diesel cars still make up less than 1% of US new car sales but have accounted for around 50% of European sales for some time. If governments and consumers were now to lose their confidence in diesels and shifted back toward gasoline, it would wrong-foot Europe's refineries and leave them with some big, underperforming investments in diesel hardware.  A persistent slowdown in diesel demand could alter corporate plans and strategies even faster than refinery profits. In the meantime, US refineries would stand to benefit from a bigger outlet for their steadily rising gasoline output.    

If consumers did retreat from diesel passenger cars--trucks are unlikely to be affected--the shift back to gasoline could be less than gallon-for-gallon, because competing technology hasn't stood still since 2007, when the US Congress enacted stricter fuel economy standards and the Environmental Protection Agency's tougher tailpipe NOx standard went into effect.

New gasoline cars are closing the efficiency gap with diesels, thanks to direct injection, hybridization and other strategies. At the same time, the number of new electric vehicle (EV) models is growing rapidly, their cost is coming down, and infrastructure for EV charging is sprouting all over.

EVs still accounted for less than 1% of the US car market last year, but the combined sales of the Chevrolet Volt, Nissan Leaf, Tesla Model S and over a dozen other plug-in hybrid and battery-electric models nearly matched those of the standard Prius hybrid "liftback". EVs are still not cheap, even after government incentives that mainly benefit high-income taxpayers. Most still come with a dose of "range anxiety", but they are greatly improved and getting better with each new model.

Even in Europe, where EVs haven't sold very well outside Norway, a big shift away from diesel would surely help EVs gain market share. If European consumers bought 9 gasoline cars and one EV for every 10 new diesels they avoided, European refiners would soon see not just a shift, but a net drop in fuel sales. Nor would refineries be the only part of the petroleum value chain to be affected. Global oil demand would grow more slowly as well, bringing "peak demand" that much closer.

For now, this scenario is hypothetical. VW may solve its technical problem, bringing the 11 million affected vehicles into compliance with pollution standards and performing more-or-less as advertised. Meanwhile, regulators could find that most other carmakers have been in compliance all along, particularly those selling cars that use the urea-based Selective Catalytic Reduction NOx technology; the rest might only need a few tweaks.

​In that case, the scandal might eventually die down without putting small diesel cars into the grave, as a mock obituary in the Financial Times recently suggested. Carmakers would have a hard time increasing diesel's penetration of markets like the US, but loyal diesel customers around the world might still conclude that these cars provide them the best combination of value, convenience and drivability. Having driven a number of diesels as rentals and at auto shows, I wouldn't dismiss that possibility too easily. The jury is likely to be out for a while.
 

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