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Saudi America in Sight?

By: Stephen Johnston | Thursday, January 17, 2013

Recently I have been seeing breathless articles surface in the popular press that the US is set to become an oil exporting nation by 2020 - Saudi America so to speak - and that WTI (West Texas Intermediate) will fall to $45/barrel and stay there. At the risk of disappointing people who are trying to find some good news to report there are a number of problems with these predictions.

On the first point even the always optimistic US Energy Information Administration (EIA) is not supportive, predicting US crude production to only reach around 7.5 million barrels per day in 2020 (up from around 6 million prior to tight oil fracking) and then declining thereafter to stabilize back around 6 million bopd - an impressive increase but hardly the 16-18 million bopd required to make the US an exporter.

On the second point simple math must play a part - surely it is the marginal cost of production that sets the price for any good. A considerable amount of the North American oil production base would be unprofitable at $45/barrel. Projects quickly get shut-in (especially the small wells which fracking produces and which represent the majority of the US production base) once they become loss making. Estimates are that fracked tight oil wells need $70-$80/barrel to generate a positive return on capital. In addition, according to Cambridge Energy Research Associates 15-20 million barrel/day of global production requires prices higher than $65/barrel just to break-even.

Therefore, when predicting sustained $45/barrel oil prices you are effectively saying one of two things 1) global demand drops by more than 20% or the marginal global cost of production drops by almost 50% - clearly neither of these two assumptions is impossible but surely they are implausible.

Certainly oil production is increasing in the US which when combined with the natural gas story will reduce the amount of US wealth that is shipped to oil exporting nations every day. But let's not forget that the US is still connected to the global oil market by 8 million barrels/day of imports today and even at the peak predicted by the EIA by around 6 million barrels/day. So despite some short-term infrastructure issues at Cushing and tight oil production increases, it is useful to remember that oil remains a global market and the US is not completely isolated from it or from its economic drivers and prices.

Regards,

 

Author: Stephen Johnston

Stephen Johnston - CIO
Petrocapita Income Trust & Agcapita Farmland Investment Partnership

Stephen graduated from London Business School and is the founder of one of Canada's largest farmland investment funds, Agcapita, and Petrocapita Income Trust an energy investment fund. Petrocapita and Agcapita are built around the core premise that the world is in a bull market in commodities driven by inflation and a step-change increase in demand and, accordingly, that investments with direct or indirect exposure to commodities in a politically stable environment such as Canada will provide above average returns. Agcapita holds a diversified portfolio of farmland and Petrocapita holds a diversified portfolio of low risk, producing energy assets.

Stephen has over 15 years experience as a fund manger - working for organizations such as the European Bank for Reconstruction and Development, Societe Generale and Baring Brothers. Stephen has appeared on Business News Network and CBC News and been quoted in such media outlets as Fortune, the Financial Times and The Globe and Mail.

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