PEAK OIL
The Major Media Accepts The Concept
by Joe Duarte, MD
Joe-Duarte.com & IntelligentForecasts.com
May 30, 2008

Editor�s note: The peak oil concept is familiar to Financial Sense News Hour listeners. Both Dr. Duarte and Jim Puplava have discussed the topic numerous times, both on the air, and in print. In this installment of the series, Dr. Duarte looks at two key concepts in the ongoing saga: the mainstream media�s acknowledgement of the concept, and the potential for the end of the bull market in oil.

Oil producers can no longer keep up with demand, says the Wall Street Journal, giving the "Peak Oil" theory a de facto nod of authenticity.

Citing figures from the U.S. Department of Energy, the Journal reported:

"Fresh data from the U.S. Department of Energy show the amount of petroleum products shipped by the world's top oil exporters fell 2.5% last year, despite a 57% increase in prices, a trend that appears to be holding true this year as well."

According to the data, Saudi oil production is down over 600,000 barrels per day, some 7.6%, while Mexico's output has fallen over 17% per day, Venezuela's 8%, and Norway's nearly 10%. In all, the world's major oil producers are delivering a million barrels less per day than they were at peak production. Making matters worse, consumption remains steady to slightly higher at 86 million barrels per day.

Indeed, the old "perfect storm" cliche' applies to the situation as "Soaring profits from high-price crude have fueled a boom in oil demand in Saudi Arabia and across the Middle East, leaving less oil for export," while "At the same time, aging fields and sluggish investments have caused exports to drop significantly in Mexico, Norway and, most recently, Russia." Adding fuel to the fire is the fact that "The Organization of Petroleum Exporting Countries also cut production early last year and didn't move to boost supplies again until last fall."

The end result being that there is not enough oil to meet current demand, and the prospects for future production increases are uncertain.

The Journal added: "In all, according to the Energy Department figures, net exports by the world's top 15 suppliers, which account for 45% of all production, fell by nearly a million barrels to 38.7 million barrels a day last year. The drop would have been steeper if not for heightened output in less-developed countries such as Angola and Libya, whose economies have yet to become big energy consumers."

Indeed, despite China's highly publicized role in increasing global oil consumption, it's the Middle East that is becoming the swing player in the equation as "Saudi Arabia, United Arab Emirates, Iran, Kuwait, Iraq and Qatar -- curbed their output by 544,000 barrels a day." Yet, "their domestic demand increased by 318,000 barrels a day, leading to a loss in net exports of 862,000 barrels a day."

In fact, the diversification of the Saudi economy is as important a factor as any in the changing picture of global oil consumption as "as the country pushes to put its oil riches to greater use. The kingdom is in the middle of a major investment campaign to become a world player in petrochemicals, aluminum and fertilizers, all of which will require huge amounts of oil and natural gas."

Perhaps the most striking development is what this trend is expected to do to the supply-demand scenario in the not too distant future. According to the report:

"Since 2004, Saudi oil consumption has increased nearly 23%, to 2.3 million barrels a day last year. Jeffrey Brown, a Dallas-based petroleum geologist who studies net export numbers, said that at its current growth rate, Saudi Arabia could be consuming 4.6 million barrels a day by 2020."

The net effect would be a major cut in Saudi exports "even as the world looks to its largest oil supplier to help manage rising demand."

There is an interesting angle to the situation, as a shortage of natural gas may be a central part of the problem. Natural gas is injected into the oil reservoir in order to increase pressure inside the well, which in turn increases oil production.

As natural gas is increasingly used for heating and cooling, it's not as available for this one particular use, "undercutting oil production, further reducing exports."

From a strategic standpoint, the U.S. has a major problem, as Mexico's output is plummeting as "net exports dropped 15% in 2007. Mexican officials announced Monday that output from the country's once-mighty offshore Cantarell field had plunged by a third in less than a year."

And although there is some help on the way, it's not coming very rapidly, as any increases in production could take several years to come on line.

Conclusion

Peak oil, or some version of it is here. If you don't believe it, just look at the statistics, consumption is steady to rising and production is falling.

Key players, and consumers are paying for their folly, as the lack of investment is catching up to them both. But that's not all, consumption patterns are changing, and the dynamics of the natural gas market are also adding to the situation.

What is not certain is whether this is a temporary or permanent phenomenon, and whether this is a natural or manmade situation, given the influence of politics and ideology on the oil market.

The industry's mantra is that there is still plenty of oil out there. And there is evidence that there is indeed a significant amount of supply that is untapped, such as the Orinoco River basin in Venezuela, and some significant finds and developments in Siberia and elsewhere.

Brazil has made some major finds of late. And there are reports of tankers full of oil sitting in Iranian ports.

Yet, oil in the ground or in full tankers going nowhere, isn�t usable oil, which means that for all intents and purposes, peak oil, temporary or otherwise is starting to creep up into the real world.

If there is a major hurricane season this year, and a repeat of the Katrina situation develops for the U.S., we could have a very nasty situation develop.

Has Oil Finally Topped Out?

The oil markets are getting that top heavy look that precedes a significant correction. But after a nearly seven year bull market, we've seen enough pullbacks to know that calling a major top in this sector is nearly impossible.

Yet, there is plenty of evidence in the way that the oil market is behaving that normally goes along with a major top in any sector.

For example, as we noted here yesterday, the mainstream media is now alluding to Peak Oil as a possibility. Sure, The Wall Street Journal didn't say we were at Peak Oil, but it did note that production is falling while demand is rising, and that producers can't seem to keep up with demand any more.

The Journal clearly cited many of the same factors that we, along with Jim Puplava at the Financial Sense News Hour, and others have been noting both recently and for many years, such as the lack of investment in Saudi Arabia and Venezuela, and Mexico's plunging production. (Editor's note: Hear Dr. Duarte on the Financial Sense News Hour this weekend at www.financialsense.com)

Any time the major media finally acquiesces on something as controversial as Peak Oil, you have to take notice and think like a contrarian. If Drudge runs a "Peak Oil" headline, we may actually have something of a good reason to short oil.

For now, we can say that we have more evidence of a market that's topping out. Yesterday, when the U.S. energy data was released, supplies fell by over 8 million barrels. Yet the market fell hard, and continued to fall overnight.

If oil supplies are low, and falling, and it's going to take years to get enough production back on line, then why are prices falling all of a sudden?

There are only two possibilities. One is that the market is just pulling back because it's overbought. That scenario would mean that the market will fall to some point, such as $120 or $115, for example, build a base and start right back up again. It's done that plenty of times over the last six years, and it could well do it again.

The other possibility is that the global economic squeeze has finally gotten to the point where demand is starting to fall enough for there to be an actual glut of oil out there somewhere which has no buyers.

The second scneario is hard to fathom, although there are reports of Iranian ports being full of tankers waiting for prices to climb some more before delivery.

More interesting, though, is the plausibility that a scenario we put forth several years ago, is actually coming to pass. And that would be that the U.S. housing crisis has finally put enough of a squeeze on the Chinese economy to dampen oil demand in China, one of the major oil demand centers in the world, as China's export driven economy drifts lower.

But China's economy is difficult to gauge, due to its sheer size and scale, along with the fact that the government still controls a good deal of it.

Other areas of the world have also picked up their oil demand. For example the Middle East, especially oil producing economies that are swimming in petrodollars and are starting to diversify into other sectors of the oil economy, such as chemical production.

So what we have at this point is a notion that must be observed, and a feeling that must be nurtured.

Conclusion

The big question now is whether we are truly in the midst of Peak Oil, or are we at a major top in the long running bull market in oil.

At this point, we have seen nearly a 10% decline in prices from the recent top. But oil remains in a long term up trend.

Oil stocks have also pulled back, but also remain in a long term up trend.

Is it a good time to buy on a dip? No yet, and maybe not at all. But, it's too soon to tell where we are, as there are too many variables at work here.

The best policy at this point is to watch, wait, and see what develops. If we continue to see a chart pattern of lower highs, and lower lows, we may be onto something.

© 2008 Joe Duarte, M.D.
Dr. Duarte's Bio and Archive

Joe Duarte M.D. is founder and Editor in Chief of Joe-Duarte.com. Dr. Joe Duarte's Daily Market I.Q. is a premium service that provides daily intelligence, trading strategies, and technical analysis at www.joe-duarte.com. Duarte offers free analysis and news coverage at www.intelligentforecasts.com . Dr. Duarte is a board certified anesthesiologist, a registered investment advisor, and President of River Willow Capital Management. He is author of "Successful Energy Sector Investing" and "Successful Biotech Investing" (Prima/Random House). Duarte's analysis appears regularly in major outlets including CBS MarketWatch and Investor's Business Daily.