Where Nuclear Failed, Oil Succeeded
In a continuation of our series on the state of the oil industry we look at some of the other ramifications of what we are labeling the Oil Renaissance in the US, and around the world for that matter. This phrase was first proposed regarding the potential Nuclear turnaround here in the US, where companies like NRG Energy Inc (NYSE:NRG), Toshiba Corp (TYO:6502) and many more players all along the supply chain were positioning themselves for the Nuclear Renaissance of cheap, and abundant Nuclear energy for the next 50 years.
Well, the natural disaster in Japan changed that movement in the span of a week of just untenable radioactivity readings coming out of Japan. An already uphill battle for changing public sentiment towards the dangers of nuclear energy became an impractical fight from an investment standpoint that relied upon large DOE loan guarantees to attract private investment.
It is ironic, but all these companies spent a lot of time and effort from lobbying to developing strategic partnerships with each other, and in the end, most of that 7 year effort had to be written off by firms. It really shows how firms have to get the industry right; Oil was so much the smarter play. Higher margins, better technology, much easier safety hurdles, and even the environmental fight is much more manageable.
Not to mention the number of jobs created is far more with an Oil Renaissance as opposed to a Nuclear Renaissance, even with a complete buildup of the entire nuclear supply chain. Nuclear projects are just not scalable like oil projects are from a numbers standpoint due to the regulation, lead times for components, inspection, build times, and many more constraints.
No DOE Loan Guarantees: The Free Market at Work
We are going to have a Renaissance in this country, it just happened under everyone`s nose. The free market of high oil prices for the last 10 years made it happen all on its own without government subsidies, and part of the reason that things are going to get real tough for the alternative energy folks over the next 5 years as those government subsidies wind down. They will not make sense from an economic standpoint once oil prices come down considerably, and from a budgetary perspective we can no longer afford this propping up industries that cannot sustain themselves on their own merit in the free market. A 16 trillion dollar debt and climbing means the environmentalists will now be facing an uphill fight on Capitol Hill to have their cause funded by the American taxpayer.
Technology Changes: Heart Surgery meets the Oil Patch
The technology changes alone in the oil industry are amazing; just watch a horizontal drilling or fracking video and it is like all the advances made by the medical community for endoscopic procedures and advanced heart surgical techniques have been applied to the oil industry. And the cost is far more manageable than the medical field with all the added insurance costs, out of control bureaucracy, and government intervention all but eliminating any sense of free market principles.
Sure these constraints exist in the oil industry, but the healthcare industry is on a planet of its own and worse from a cost efficiency standpoint by a factor of at least a 100. There is not an ounce of free market in the healthcare industry!
We haven`t seen anything yet as this new technology being refined and implemented here in the US will then be fully scalable around the globe, and the amount of new projects that will come online globally with this new technology over the next ten years has yet to be priced into any market intelligence models.
Natural Gas Industry as the Model
The natural gas industry is much smaller than the oil industry, and because of the new technology firms were actually continuing production with $2 natural gas because of much lower overall project costs relative to the size of the gas exploitable and other derivative products made along the way enabling these projects to be profitable.
The oil industry is much more scalable from a cost standpoint, and once these upfront costs have been committed, the size of the industry and scalability means that projects can continue and be highly profitable even with much lower oil prices.
I previously have thought that this technology would suffer as prices drop, but I am rethinking this assumption with natural gas as my guide in a much less scalable industry. So I now believe that this technology and these projects will continue and be cost effective even with oil dropping to $45 a barrel for both Brent and WTI.
|Slant & Horizontal Drilling
It won`t happen overnight, but under one scenario prices will just steadily trend down like natural gas prices, and before we realize it we have the equivalent of $2 natural gas prices for the oil industry.
The China Factor: Use less Commodities for Next Decade
My assumption about the trajectory of oil prices also relies on the China factor that many analysts have been toying with for the last couple of years, but the IMF and others have done some nice research on and applied some hard numbers to the conceptual idea that China has overinvested for the last decade by a large degree, and most of the previous forecasts for China`s growth trajectory from an infrastructure standpoint for the next 10 years are far too optimistic.
My conclusion is that China will use far less commodities than they did the past decade going forward for the next decade. They are coming into the constraints of large numbers where you have built for the sake of building, and you can no longer build another large new city every year because the demand just isn`t there. Basically, the easy, low hanging fruit has been eaten. Most of the new project benefits will not justify the cost based upon infrastructure constraints, logistical incongruities, and actual demand & societal need for said projects.
The societal costs outweigh the societal benefits and the projects evaluated in total become a net drag on growth and GDP in the overall calculus. China can go ahead with these projects but the law of diminishing returns, means the country will pay a heavy price to do so. China will continue to grow, but they will grow in a more sophisticated way from a social perspective from within, i.e.