July 1999 Vol. 220 No. 7  Production

Perry A. Fischer,  Engineering Editor

A report from the King; Brothers-in-arms and $10 per Mcf gas?

Perhaps due to recent oil-price volatility, there has been an escalation in the age-old debate between economists and geologists about the size and nature of the world’s oil resources base. In the April newsletter from the M. King Hubbert Center for Petroleum Supply Studies, its author, Joseph P. Riva, asks the question, "Is the world’s oil barrel half empty or half full?" Here are a few of the more interesting excerpts:

"Economists are encouraged by the current low oil prices and rising, reported world oil reserves. To add to the economists’ argument, past oil shortages, as predicted by geologists, failed to materialize, so there is an often-cited credibility gap."

"Economic experts said the Asian markets wouldn’t crash. They crashed. They said that the crisis would not spread. It spread, and all attempts for an economic fix have failed. A credibility gap is not only a problem for geologists."

"Geologists, whose careers depend upon putting numbers on oil accumulations, feel that the barrel is half empty and that world oil production will soon peak. Economists optimistically feel that oil reserves will be created (by geologists) out of a resource whose limits we do not know and will never know. Nothing is impossible (unless you have to do it yourself)."

"Geologists know several things about the world’s oil:

• Less than 5% of the world’s oil fields originally contained about 95% of total world oil.
• The giant oil fields, because of their anomalous geology, are usually discovered early in an exploration cycle and provide enormous amounts of oil rapidly from a relatively small number of wells.
• The geology of the world’s currently unproductive basins is generally unfavorable for the formation of giant fields, nor can many be expected to remain undiscovered in maturely explored basins.
• The unconventional oil deposits, such as tar sands and oil shales, cannot replace giant field production on a volume-per-time basis."

"Reported world oil reserves have increased by more than 300 billion bbl over the past 20 years. The major factor in this increase is the more than 250 billion bbl added to Middle Eastern reserves between 1986 and 1989. During that period, reported oil reserves in the region increased by about 65%."

"Since OPEC production quotas are partly determined by reserve size, it was more than a coincidence that each country chose this time of market-share competition to increase reported reserves. A more important consideration, however, is whether the reserve increases were political or real."

Brothers-in-arms? Venezuela and Cuba are talking about a joint venture to explore, produce and refine oil in Cuba, which gets much of its crude from Russia under an oil-for-sugar-swapping deal that will expire this year. Cuba has the Cienfuegos refinery, built in 1991, but it was based on obsolete Russian technology and is too costly to operate, so it now sits idle. It was reported that Venezuela might be considering upgrading the refinery as part of a long-term oil-supply contract.

Venezuelan Energy and Mines Minister Ali Rodriguez, a former communist rebel in the 1960s, hinted that the discussions involved an oil-supply contract shared by Venezuela and Mexico. Companies risk possible sanctions by the U.S. if they invest in Cuba. The U.S. is Venezuela’s biggest customer, and Venezuela is its largest supplier. Venezuela already sells substantial volumes of refined oil products to Cuba.

However, in a report from Reuters, former Venezuelan Energy and Mines Minister Humberto Calderon Berti, along with other industry experts, played down the talks, saying they were driven by politics and made little commercial sense. "I do not understand how PDVSA would reduce exploration here in Venezuela, seek foreign partners arguing it lacks resources, and then make the decision to go to Cuba to run risks," said Calderon.

Castro and newly elected President Hugo Chavez are reportedly mutual admirers of one another. After all, both men attempted a violent overthrow of their respective governments: Castro was successful; Chavez, who failed in his coup attempt, had to wait another 7 years before attaining enough popular support to win Venezuela’s election. Brothers-in-arms? Perhaps that’s the real impetus behind the talks.

Ten-dollar gas? According to a report from Raymond James & Associates, there is a "high likelihood that Henry Hub spot gas prices this winter could move above $10 per Mcf." The prediction is based on an empirical, "reasonably close inverse relationship between ending winter-storage levels and winter spot gas prices, i.e., low storage levels mean high spot gas prices. Further, sensitivity analysis bearing our key three supply-and-demand inputs suggests that there is a greater than 70% chance that spot gas prices this winter could move (above $10)."

Additional assumptions were that imports from Canada would be at half of capacity and that U.S. production would decline 2%; this was based on the decline in rigs (as of June 4, U.S. rig count stood at 555, with 76% drilling for gas).

The report says the weather has masked the true gas-demand growth that has occurred in the U.S.; "Many analysts underestimate the impact of two of the three warmest winters in the past century." A return to normal cold (which was predicted last year by almost everyone, but didn’t happen) should result in an 8% increase in winter gas demand, which was assumed in the forecast.

If one also assumes a normal winter, completely full Canadian import pipelines and a U.S. production increase of 2%, the highest gas-storage level forecasted was 735 Bcf (March 31, 2000), which is quite low and should still result in a nice spot-price upturn. At the other extreme, gas-storage levels become negative.

Before running out to invest in gas futures, the reader should remember the prophetic words of everyone’s best friend, Louis Rukeyser, paraphrased: The future price of commodities will continue to go up. And down.

Copyright © 1999 World Oil
Copyright © 1999 Gulf Publishing Company