Thursday, October 25, 2007

2015 Futures

I don't remember seeing any press release on this, but for several months now it has been possible to buy December 2015 futures on NYMEX. That's a full 8 years out. Prior to this it was only possible to buy futures 5 years out (CLZ12). Why is that significant? Conventional wisdom is that it takes about 5 years from discovery to commercial production in an oil development, so when you could only accurately price and fix your revenue five years out, you really couldn't hedge against a price drop. Even with oil at $90 a barrel, it was still risky (essentially a peak oil bet) to produce oil that would cost you $50, $60 or more a barrel. Now that it is possible to sell futures 8 years out (currently the CLZ15 is trading at $77/barrel), it becomes a much more conservative financial move to start a project with a projected cost/barrel to produce of $50. On the flip side, this distant future allows fuel consumers to better hedge against future fuel costs.

So, if there are alternatives or expensive-to-produce oil reserves out there, there seems to be less of an excuse than ever. Lots of alternatives claim to be profitable at $50/barrel oil (though I have my doubts based on simultaneously rising metal prices, etc.). If this is true, the ability to sell 2015 futures means there are no more valid excuses to getting those into production today. I've heard people talk about Canadian tar sands, or Colorado oil shale. If these really are profitable at $50/barrel oil, why aren't we seeing more projects starting up? Where are they? Have these people realized that the ability to produce Colorado oil shale at less than $50/barrel is in part predicated on $30/barrel oil as an input (hence a constantly sliding 40% differential on the value above oil that oil shale is profitable)?? Maybe I'm just being pessimistic, but show me the projects!

6 comments:

Myke said...

Good analysis.

I think the energy marketplace has so many cross currents creating so much uncertainty that no one is confident on making long-term "bets".

Rice Farmer said...

It's interesting that you should mention oil inputs because I have always thought that reasonably priced oil is an assumption underlying not only the production of nonconventional oil, but also the development of renewables. For example, wind farms and PV arrays don't appear by magic. The equipment must be manufactured, transported, installed, and maintained. Same goes for nuclear power, including the fuel. And how about the infrastructure already in place? Roads, bridges, tapwater systems, electrical grids, public buildings, and what have you are falling apart, and colossal sums are being quoted for their repair. Road networks especially were built with oil that costed a fraction of current prices. Perhaps I am being too pessimistic, but the situation looks grim.

Jeff Vail said...

I agree--I think that most people vastly underestimate the huge accumulation of petroleum-based energy embodied in the infrastructure, tools, factories, everything that lets us do what we do economically (one reason why I advocate "price-estimated EROEI", but I won't go too far into that now). I like a thought experiment that I call the von Neumann Machine island experiment: using only PV solar for power, build an "expeditionary force" to colonize an island that has all the necessary resources. Can purely solar powered machines mine the minerals, refine the minerals, build the infrastructure, build the factories, machine tools, support structures, and photovoltaic pannels (no fossil fuels of any sort may be used at any point) etc. to create a complete replica of themselves that will then be capable (again only PV powered) to go an colonize another island, etc.

I don't think it happens. Yet this is, in a manner of speaking, what people who are proposing a perpetual industrial-consumption economy powered by things like PV (or wind turbines, etc.) are proposing...

Dan Bartlett said...

I'm glad other people are seeing this. People seem to be coming to terms with "oil" problems, but are not linking this to larger and primary energy problems that will affect virtually everything we use and how we live. I think that's a good reason to promote EROEI's for assessing new technologies, and of course whether we can actually fix and maintain these new technologies, without reliance upon a hierarchical oil-fuelled distribution system.

Anonymous said...

"so when you could only accurately price and fix your revenue five years out, you really couldn't hedge against a price drop."

Producers could fix their revenues out 5 yrs well before this listing. 1st, most large hedgers are likely to use calendar averaging swaps, not futures (which impose onerous variance margins, ie ongoing cashflow swings .) Swaps are cash settled against an index (typically NYMEX but often Platts) and are secured by an ISDA agreement and the balance sheets of the contarcting parties. Margin isn't assessed day to day so often it amounts to a long term loan.

The interbank market has quoted long dated swaps in these tenors for some time. Morgan Stanley and J. Aron are two of the larger market makers, but any highly rated investment bank would likely quote something out that far.

Anonymous said...

Maybe I'm just being pessimistic, but show me the projects!

There are dozens of projects afoot in Canada and oil sands currently account for something like 50% of canadian exports. A list of them (totaling 100 bn USD+ in capex) would be very long.

More generally, many oil sands players arent eager to hedge their production for a few reasons. like you some of them have a view on oil prices and want the commodity risk. Suncor stopped hedging in 2004 for this reason. also, hedging at $79-80 when the prompt is 14 dollars higher isnt a compelling value. collars are even more adversely priced (crude oil puts command a very steep premium to calls in the long term.) Also some of the largest oil sands players (Sinopec, Shell) are end users as well as producers through refining and chemical operations. perhaps most significant is the accounting attached to hedge instruments... unless they can demonstrate a reliable correlation between their long terms swaps or futures and their prompt crude exposures, they may not qualify for hedge accounting. This means that they have to declare their oil swaps as an asset or liability on their balance sheet, with all kinds of implications there.