Sure, it's easy to be an energy bull now--after seven years of rising prices. But it was a lonely job in the late 1990s, when a barrel of crude oil changed hands in the $10-to $20-range.
It's another story in the 21st century. History's first triple-digit close arrived just this past February, and no one saw it coming--certainly no one back at the end of the 20th when talk of supply glut dominated the energy conversation.
Well, almost no one. For years, a few mavericks have bucked the conventional wisdom and advised that cheap energy wasn't long for this world. One of the contrarians was Matthew Simmons, chairman and CEO of Simmons & Co. International, a Houston energy-focused investment bank. Simmons and a handful of other analysts started warning in the 1990s that raising global crude production would become increasingly difficult. The challenge, they correctly predicted, will be compounded by strong demand growth driven by China and the developing world
Simmons' forecasts draw on analysis of the world's oil fields. He has routinely said the data paints a troubling picture of declining discovery rates, particularly among the world's giant fields. Meanwhile, demand keeps rising.
Simmons has supplemented his research with a deep focus on Saudi Arabia, the world's single-biggest national source of crude oil and the hub of global production. No wonder that most projections for inexpensive oil are culled from optimistic forecasts for Saudi production. But Simmons has long been skeptical, citing his meticulous investigation of the country's aging oil fields. The bottom line: Saudi production is nearing a peak, a forecast he detailed publicly in Twilight in the Desert: The Coming Saudi Oil Shock and the World Economy (Wiley, 2005).
There are many who disagree, of course. The optimists say that there is still plenty of oil left, and that supply growth will match demand in the years ahead. Their reasons include the relatively untapped resources of so-called tar sands oil in Canada and elsewhere. And technology, they say, will also help squeeze more oil out of existing fields than was possible in the past.
Perhaps, although Simmons' sober outlook is finding a more receptive audience these days. Nor does it hurt his credibility that global crude production hit a peak in May 2005 at 74.298 million barrels a day, according to data published by the U.S. Energy Information Administration. As we go to press, the 2005 pinnacle still stands.
So, what is Simmons thinking now? In a recent interview with Wealth Manager, he speaks candidly, including a forecast that the bull market for oil still has a long way to go.
What has been the reaction to your book's somber view of Saudi Arabia's oil supplies?
I've had tons of feedback from people with various aspects of involvement in this story. That includes a surprising number of people who finally broke the silence within Saudi Aramco [Saudi Arabia's government-run oil company] by contacting me.
About six months after the book came out, I'd heard that there had been an edict that if I was speaking at a conference, no one from Saudi Aramco could be on the program; I was persona non grata. Then, at last October's Oil and Money Conference in London, I had an interesting encounter at the annual oil-man-of-the-year award. Mr. Jum'ah, CEO of Aramco, was being honored. I asked the conference host if I should show up because I thought I'd be a Darth Vader there. But he said, yes, of course you should come. And Jum'ah could not have been more charming to me. He said, "I'm so honored you could come. We know you're our friend. Some of us don't necessarily agree with all of the interpretations in your book, but you didn't do it maliciously. You're worried about us." And in the middle of the award dinner, a guy comes up to me and says, "I'm the vice president in charge of all the new projects at Saudi Aramco, and I've got to tell you, I just finished your book and it's fabulous."
That's surprising, considering that your book directly questions Aramco's optimistic outlook for its crude oil production.
What I've heard, from a variety of people, is that [Saudi Aramco executives] had heard and told each other that some stupid guy in Houston wrote a book that said Saudi Arabia had no oil left and through stupidity and incompetence, the country destroyed its oil fields. Of course, the book doesn't say that. It says that Saudi Arabia's oil fields are too few, and they're too old, and they're applying more technology than anyone's ever done to fight falling oil production.
The other thing I've heard from a fair number of other people is that the culture within Aramco--and you could say the Middle East generally--is one of secrecy. Nor does anyone want to report bad news. In Aramco, going back to Dhahran [where Saudi oil was first discovered in the 1930s], the culture has been: Don't talk to your neighbor about what you're doing in the field. As a result, all of the people working on specific challenges [related to increasing oil production] didn't have any idea that their problems weren't unique, but instead were systemic to all the great fields.
Nonetheless, doesn't Saudi Aramco still disagree with your book's core thesis?
The [Saudi] petroleum minister certainly does. But let me tell you about Dr. [Sadad Ibrahim] Al Husseini (a retired Saudi Aramco executive), who spoke at the Oil and Money Conference last fall. Afterward, someone asked me if I wrote his speech! Dr. Al Husseini was, until three years ago, the executive vice president of Saudi Aramco in charge of E&P [exploration and production]. He's got a Ph.D. from Brown, and he's been quietly saying that the world needs to realize that the Middle East is basically at its [oil-producing] peak.
What do you make of the relatively optimistic projections from Cambridge Energy Research Associates (CERA), an influential energy consultancy in the U.S.? The firm recently forecast that the decline rate in global oil production will be a relatively modest 4.5 percent, which is quite a bit lower than other predictions. The implication is that replacing old fields with new discoveries will be easier than you and some others expect.
CERA's view so starkly contrasts with my analysis that it's almost like they're talking about oil on Mars, and I'm talking about oil on Venus. I can't understand where they get their numbers; I can't reconcile what they report. They say the average worldwide decline rate is only 4.5 percent. Meanwhile, I did an exhaustive study...and one of the big conclusions is that we're down to about 110 oil fields [in the world] that each produce 100,000 barrels of oil per day [bpd] or more. What's more, very few [of the big fields] are new. But according to CERA's study, they found 400,000 fields that produced on average 90,000 bpd. So one of us is totally wrong.
Any thoughts about why there's such a chasm in your view versus theirs?
Maybe they found some data that no one else has seen. But I've been a student of tracking field-by-field decline rates. We had a vivid reminder of the challenge when the chairman of Pemex [Petr?leos Mexicanos, Mexico's state oil monopoly] gloomily predicted that by the end of next year, production from Cantarell [one of the world's largest oil fields] would be down to just over 1 million bpd from its peak of 2.2 million bpd in May 2005. [Cantarell's November 2007 output was 1.28 million bpd.] By the way, in the same month, the world set an all-time record for global crude oil production at 74.3 million bpd [based on conventional crude output]. But I don't think it's possible to raise crude oil production.
Another interesting fact is the stunning pattern that shows that we haven't made any giant field discoveries that can produce 500,000 bpd, let alone 1 million bpd. The last 1 million bpd discovery was Cantarell in 1975, which ironically is now the second-largest field that's declining most vividly. In fact, it's been a long time since we've discovered a 300,000-bpd field. The last three great basins were discovered more than 30 years ago: Western Siberia in 1967, Alaska's North Slope in 1968 and the North Sea in 1969. Meantime, all three have peaked.
A more optimistic school of thought reasons that the low oil prices in the 1990s were a disincentive to search for new supplies, and so we're still dealing with that legacy. Meanwhile, the high prices of late are now spurring efforts to find new reserves, and therefore, higher production is coming.
That was the case for a long time, but we've basically been back in the clover for seven years.1
What about Saudi Arabia's potential? Some analysts say that it has not been fully explored, and the possibility for big discoveries still exists.
That's true in a sense. Saudi Arabia can still explore in its deep waters and the Red Sea. They can still explore along their border with Iraq. And they say that they can still explore in their empty quarter, but so far the gas exploration there has been dismal. In the rest of the Arabian peninsula, they've searched as diligently as they can and, yes, they've found structures. But despite all the spending, none of the new structures discovered have hit the radar screen in terms of developing them.
Why is that?
They must not have any potential for hydrocarbon production.
Meanwhile, global demand keeps growing.
Despite a 10-fold increase in oil prices, demand didn't slow. But demand growth in the United States is going to come to a dead halt because we literally can't bring any more oil into our system, meaning our refineries, our import structure, pipelines. We're basically capped out right now.
And that means...
It means that prices will go up because inherent demand is greater than supply. The system is constrained. The big danger is that we keep doing what we've done too much of recently, which is basically drawing down our petroleum inventories to bridge the gap.
If the U.S. oil infrastructure is capped out, as you say, does that imply a ceiling on the country's economic growth?
No, it can still grow, but it's going to have to shift into some other forms of growth. Our economic growth and oil demand growth aren't necessarily highly correlated as they are in the developing world. It was only few years ago that economists said that if we ever had $30 oil, we'd have a recession. Do you remember that recession?
We seem to be in one now.
If we are, it's because of the subprime mortgages; it's not because of $100 oil. We were kidding ourselves that we always had to have low oil prices to sustain demand growth. In fact, high oil prices didn't impact demand.
Is that because the previous oil crises have been triggered by supply shocks whereas the latest bull market in oil is demand driven?
Yes, and also because of the stealth growth that we didn't see coming, which used up all our spare capacity. So now we don't have any wiggle room.
Did you see the statement [in mid-January 2008] when President Bush was in Saudi Arabia? Bush publicly asked for higher Saudi oil production. Then [Saudi Arabia's oil minister] Ali al-Naimi gave Bush a big lecture that the markets don't need any more oil, that the markets are well served, that demand will fall in the spring, etc. A couple of wire services reported something along the lines of, al-Naimi blows off Bush. That night on ABC's "Nightline," according to the transcript I read, Bush was asked why he didn't tell the Saudis to give us the damn oil. And Bush said, you can't force someone to give you something they don't have. My guess is that Bush has been briefed that they [the Saudis] don't have any spare capacity. They're out.
So your book's warning about Saudi production nearing a peak remains intact?
Yes. We shouldn't be surprised when these fields go into decline. The uniqueness is their size; but they're not a reservoir that never gets old. They've been working those fields as hard as they can. They should rest them. They bought into the same technology miracle that mesmerized the major oil companies. It was only five years ago that the major oil firms as a unit were telling analysts that they'd grow production by 5 percent to 7 percent a year-- forever--and now their production growth is negative. They didn't understand their decline curves.
Does the market agree with your general outlook?
No. If it did, oil would be $200 a barrel.
Will we get to $200 oil?
Sure, but I don't know when. Meanwhile, I keep telling people that $100 for a barrel of oil is cheap. And they ask, "How can you say that?" Well, it's 15 cents a cup. Do you know of anything else we can buy for 15 cents a cup?
James Picerno (jpicerno@highlinemedia.com) is senior writer at Wealth Manager.
