The first is to have at least 5-10% of your portfolio invested in precious metals. (Or more, if it helps you sleep at night.) That’s gold, G-O-L-D. Or silver, S-I-L-V-E-R. Take delivery. Don’t entrust your gold and silver to somebody else. An ETF like streetTRACKS Gold (GLD: NYSE ARCA) is good for trading in your account. But it ain’t real gold. It’s a CLAIM on somebody else’s gold. And somebody else might say “no” one of these days.

This is Gold 101: For absolute monetary safety, you want real metal under your control. Remember the old expression, “Gold is money.” Some people — economists, mostly — disagree with that. OK, buy their gold. Smile. Say thank you. Walk away briskly with the gold. Don’t look back.

Here’s the second: Accumulate positions in solid, cash-rich gold miners. Sure, some of the junior mining guys are great speculations. Eventually, the really good explorers and mine developers will get bought out by the large companies. That’s how it works. Eventually. But for now, especially if you are just getting into owning gold miners, go with the ones that have large reserves, strong operations and plenty of cash flow.

Here are some of the best gold miners. Look at AngloGold Ashanti (AU: NYSE), Agnico-Eagle Mines (AEM: NYSE), Goldcorp (GG: NYSE), Kinross Gold Corp (KGC: NYSE), or Yamana Gold (AUY: NYSE).

I like all of these companies. All of them have good management, reserves, operations, technical ability, cash flow and sheets. Are there any risks? Yes, the stock prices tend to track the price for gold. So if the price of gold falls, these stocks take the hit.

Also, if the stock market has another round of selling, the gold miners may go down in the suction. That’s bad. What happens is that when the market tumbles, some players have to raise cash in a hurry. So they sell their winners, which of late have included many gold miners. Or their broker sells them out at the end of a trading session to meet a margin call. So moving down with the market is a chance we’re taking by owning shares in any stocks at all. Even owning good gold miners has risk.

The third thing you ought to do is be sure to assemble positions in good, solid energy plays. I noted above that gold is money. Let me add that energy is wealth. Really, it’s hard to do very much in this world without energy supplies. You can live in a cave and freeze your butt off, maybe. So the view from my perch is that well-run companies with energy reserves and good cash flow ought to hold up over the long term.

Until we meet again,
Byron King

April 9, 2009

Three Important Pieces of Advice from a Gold Bug was originally featured in the Penny Sleuth.

Global oil demand is not going to “plummet.” And for the FT to say so is just plain silly, if not irresponsible. OK, I know. There’s an old saying that they teach in journalism schools. “You have to sell newspapers.” But this declaration by the FT highlights the perils of letting a headline-writer do your thinking for you. It’s what I call “arguing a screaming conclusion.” And a wrong conclusion at that.

Oil Demand – Down, Then Up

But let’s move past the headlines. The Financial Times article explains that the World Bank has just issued a new study. The World Bank believes that the world is entering into the toughest economic times “since the Great Depression.” Thus overall world oil demand may fall by about half a million barrels per day in 2009. That’s what the World Bank states in its report.

Only half a million barrels? Heck, the total world demand for oil in the past year was about 87 million barrels per day (a fact that the FT article fails to note). By comparison, the Saudi oil tanker that recently was hijacked off the coast of Somalia held two million barrels of crude oil. And despite this act of piracy oil prices still fell over the next couple of weeks, even without that tanker plying its route across the deep blue seas.

So if the world experiences the next “Great Depression” (Release 2.0, I guess), a reduction in overall oil demand of half a million barrels per day is down in the statistical noise. And what the World Bank is saying about the grim future of the world economy is not the equivalent of “plummeting” demand. At least, not half a million barrels of lower usage.

Built-In Oil Demand

In both the developed and developing worlds, there’s a lot of oil demand built into the economic and social energy system. That’s what modern development is all about. That’s how the system was built over the past 100 years or so. Yes, you can wish that the system were different. You can even try to change the system – and risk collapsing it in the process.

Whatever you do, you can’t change the system very fast. To paraphrase a former Secretary of Defense, “You live in the world with the energy system you have. Not the energy system you might wish you had.” 

So at best, if you want to change things you are looking at a generational shift. If you have a generation. Do we have a generation?

What Will OPEC Do?

Let’s try looking at some different numbers. How about 7 million barrels of oil per day? That’s the amount of output that OPEC might have to shut-in if it wants to get prices headed back upwards in to the range of $75 per barrel or so. At least, that’s according to Philip Verleger, a long-time industry player as quoted recently in Platt’s industry newsletter The Barrel.

Current daily oil output from OPEC is about 32 million barrels per day. Verleger thinks that OPEC’s output ought to be more like 25 million barrels per day. There’s the 7 million barrel shift. Easy, right? It would be as if Iran, Iraq and Qatar simply stopped exporting oil. How likely is that to happen? Umm… yes. Clearly, Verleger has a radical take on things.

One way or another, can OPEC cut production significantly? Does OPEC have the discipline to manage its own affairs to cut 2 million barrels, or 4 million, let alone 7 million barrels per day? The issue is that numerous OPEC nations cheat on their production quotas. Hey, they need the money. Thus they lift the oil and sell it. Really, cheating on OPEC quotas is not a problem. It’s a tradition.

What of the Future?

Looking ahead by more than about two years, world oil demand is certainly going to grow. It almost does not matter what we do in the U.S. or Europe. When you look at the numbers of young people who are already born and living and growing up in the developing world, the demand will be there. Many of these young people already have a cell phone and a laptop computer. When they finish school, they will want an apartment and a car.

And at the rate things are going, the energy industry is still under-investing in the necessary systems of the future. Depletion is still ongoing. It gets back to the very basic point that every barrel you lift from the ground leaves one less barrel down there. And the overall global depletion rate is 6% at best. Maybe it’s 8%. It might be 10%. To replace that depletion, the general trend is for the energy industry to go further away, to deeper waters or more remote sites, to drill deeper wells, with hotter temperatures and higher pressures. Those little hydrocarbon molecules are just plain tough to catch.

And keep in mind that nobody can produce oil that has not been discovered. Or developed. Or for which there are no handling facilities. That takes investment, and lots of it. Which requires money and finance, which is in rather short supply just now. So there are just a few years in which the world can reorder the way it does oil, let alone the big picture on energy. 

So unless a lot of things happen – pretty soon and in the right sequence, and competently – we’re going to be faced with the prospect that there’s not going to be enough oil to go around. So oil prices are going to head back up. People and governments are going to get desperate over supplies. And much of the usual and predictable bad stuff that you’ve heard before is going to happen. Which gets back to that Financial Times headline. “Plummeting” demand? Really.

Until we meet again,
Byron King

December 16, 2008

Oil Demand And Prices Will Rise Despite Recession was originally featured in the Penny Sleuth.

The key point is that the framers of the U.S. Constitution specifically anticipated that the nation would encounter economic troubles from time to time. So they gave Congress the power to enact bankruptcy laws, as opposed to “bailout” laws. And throughout U.S. history, the various economic “Panics” — which occurred every couple of decades — always led to one direction or another in the evolution of state and federal bankruptcy laws. Hey, bankruptcy works. (Full disclosure — I used to practice bankruptcy law.)

At some times in U.S. history, the bankruptcy laws favored the creditor class. During other times, the bankruptcy laws favored debtors. The point is that the economic hardships were eventually manifested in bankruptcy proceedings.

Just as all rivers flow to the sea, bad debt must find its way to discharge. So bankruptcy court was where judges and attorneys and other financial experts (like accountants and actuaries) could deal with each case on the merits. The problems could come to some sort of resolution. Some people came out OK. Other people lost everything. But capital flowed from weak hands to strong hands, and the economy moved along.

Why Not Bankruptcy Process?

But not today. Why are the politicians so eager to avoid seeing companies go into bankruptcy? The government is trying to solve the problems of gargantuan levels of debt — along with chronic insolvency and illiquidity within the economy — without resorting to the constitutional-based legal mechanisms and tools that have served the nation well for over 200 years.

Sure, bankruptcy cases take time to roll through the courts. But could Chapter 11 bankruptcy be any worse than the current drip-drip-drip, hemorrhage of funds into the black hole of the likes of AIG? And at least some bankruptcy judge might just put a stop to the AIG exploits of taking nice vacations to exotic resort locales.

Or what about the U.S. automobile industry? Now the domestic car-makers want some of that TARP money too. Or else what? They’ll have to file for Chapter 11? Yeah? And then?

Well on the day that the automakers file for bankruptcy, the automobile factories will still be there. The patents and designs aren’t going anywhere. The workers and design teams will stick around for a while — it’s not like there are a whole lot of other jobs out there.

It seems to me that General Motors, Ford or Chrysler — without the legacy costs of pensions and health care and featherbed contracts for non-working union members — would actually be a decent investment for a Debtor-in-Possession (DIP) form of financing. Any DIP-lender worth its salt would certainly go into the management suites to take names and get rid of the deadwood. And over the long term, if U.S. automakers actually paid more for steel than they have to pay for retiree health care, then we might actually see a revival of that industry.

Meanwhile, We’re Losing Time

Meanwhile, we are losing time. The world’s central bankers and treasury ministers dither, and squander capital into bottomless pits of a deflationary recession.

But the great villain in all of this is debt, pure and simple. And much debt is just a collection of bizarre debt instruments, exotic forms of speculative contracts, and obligations so massive that they will never be repaid. So why prolong the agony? Liquidate it now. Let the bankruptcy courts do what the framers intended.

Until we meet again,
Byron W. King
November 21, 2008

The Bailout Clause of the U.S. Constitution was originally featured in the Penny Sleuth.

Can you invest for the long haul in a climate like this? It would help to find something that doesn’t swing wildly in just a couple of months. In the world of oil, there’s at least one thing that doesn’t change. That is, much of the world’s oil moves by tanker ship.

In fact about 62% of the world’s oil — over two billion barrels per year — is transported via tanker ships. As the accompanying map shows, the tanker routes of the world are pretty much where you would expect. Most of the exported oil moves out of the Middle East and West Africa toward North America, Europe and Asia. The rest of the world’s oil moves by pipeline, mostly through Eurasia and Russia.

The Life of a Tanker Ship

Here’s the general process. Large tankers load up with crude oil. Then the ships sail across the sea to their destinations. They discharge the cargo. The tankers take on ballast and begin the voyage back to pick up another load. This is the life of a tanker ship.

Let’s go into a bit more detail. The cost to hire a tanker is called the charter rate. This rate varies according to the size and the characteristic of each tanker and the general availability of ships. That is, in a tight market, shipowners can command higher charter rates.

There are about 4,000 tankers available for hire in the international market. Of course, there are many different sizes and types of tankers. Panamax vessels are suited for transiting through the relatively narrow locks of the Panama Canal. Suezmax tankers are optimized to transit the Suez Canal.

Still other tankers — large vessels called “very large crude carriers” (VLCCs) — are more suitable for long hauls over open water. VLCCs are used mainly to ship oil from the Middle East in large volumes, more than two million barrels per vessel.

This description barely scratches the surface. But you can see that the tanker industry is complex. Yet as long as people continue to use oil — a safe bet — there will be some consistency to the tanker business. Load. Sail. Unload. Turn around. Sail back. Do it again.

Thus, my investment idea for this month’s issue of Outstanding Investments focuses on a well-managed tanker company with a market cap of just over $1 billion.

Until we meet again,
Byron King

October 28, 2008

Sailing to Safety was originally featured in the Penny Sleuth.

But today, “being green” has taken on a whole new meaning. It’s not just for talking frogs anymore. Being green has become synonymous with environmentalism and economic sustainability. The term has a close association with preserving nature, promoting healthy ecosystems and restoring some semblance of balance to the competition between mankind and nature.

In the world of energy, “being green” usually means that you favor energy conservation and efficiency. And “being green” might even mean that you favor burning less carbon. That is, you favor producing energy from renewable sources like solar, wind and geothermal.

I’m not trying to get political on you. I don’t want to throw labels around, either. OK, maybe you are “green,” but you’re no environmental wacko. Heck, a big company like General Electric has spent millions of dollars being green, through its Ecomagination branding program.

Still, I think that no matter your political leanings, you’re probably interested in making money off being green. Indeed, I’m always looking for new investment ideas in the world of energy and energy systems for the aptly named Energy & Scarcity Investor newsletter.

The Green Energy Future

Let’s discuss the “green” energy future and how we can get in on it. Within the next 10-20 years, we will live in a world where wind and solar power are likely to become major contributors to our daily energy supply. Within 20 years, the U.S. will probably get 20% of its electricity from windmills and another large percentage from solar.

Indeed, both major party political candidates support renewable power systems like windmills and solar, as well as geothermal. And in another segment of the economy, the automakers cannot work fast enough to get electric cars of one sort or another off the design tables and into the showrooms.

Yet for all their low-carbon environmental virtues, electric cars will depend on the electric grid. The grid, in turn, depends on power generation.  Wind and solar, however, are both unreliable for baseload electric power production. There’s no such thing as 24-7-365 wind and solar. Heck, you’re lucky to get 12 hours of energy production from wind or sunshine on the best of days.

So the electric system designers have to figure out how to keep power levels flowing in the grid even when the wind is quiet, or at night or during seasons when there just is not a lot of blazing sunshine falling to the Earth.

So we need solutions. And among the possibilities, one of the best ideas is to combine the wind and solar energy production with cost-efficient energy storage. That is, you capture the energy when the wind is blowing and the sun is shining. And then you store it for later. But store it where and how?

Until we meet again,
Byron King

October 21, 2008

Using the Green Movement to Your Advantage was originally featured in the Penny Sleuth.

With so much at stake, the politicians just have to — as the saying goes — “do something.” So they are cobbling together a program to spend $700 billion that the nation does not have. (More on that below.) But don’t be fooled. Much of the Potomac sound and fury is just a smoke screen to hide the malfeasance and corruption of America’s political class from the light of day. And this political spectacle comes on top of the long-term investment incompetence on Wall Street. Really, should we be bailing some people? Or jailing them?

The bottom line is that the U.S. is now at the edge of an economic Tsushima, if you will forgive my mixing a couple of metaphors. Tsushima, as you may know, was the epic battle fought at sea in May 1905, when the Japanese navy annihilated a Russian fleet off the shores of Korea. It was a defining moment of the last century, when the rest of the world realized that Europeans and their weapons and policies could be defeated. Many of the “liberation movements” of the 20th century (from Indochina and the Philippines to Persia and Egypt) trace their roots to the symbolism of Tsushima.

And now we see the U.S. — and, more generally, Western — models of monetary governance and investment going down the tubes. People are talking about a “Greater Depression.” The usually sober Steve Forbes claims that the U.S. economy is “in cardiac arrest.”

The Chinese — no fools, they — are looking for a way out of their ties to the U.S. dollar. The oil-exporting nations of the world are searching for alternatives to the dollar. Even the Russians are talking about setting up a gold-backed ruble. Ask a Russian about Tsushima, by the way.

Stock Market Stalingrad

We began this week with investment carnage. On Monday, the stock market crashed a record-setting 777 points. It was — to use another Russian battle analogy — a stock market Stalingrad on a global scale. It seemed that every kind of stock in every kind of market across the world tumbled.

Yes, the prices of gold and silver rose on Monday. But gold mining shares declined along with all the other stocks. What was that all about? In my view, it was panic selling. In the wake of the failed bailout story out of Washington, D.C., big shareholders dumped everything over the side. Even the good stuff went into Davy Jones’s locker.

Also, Monday was Sept. 29, the next-to-last day of the third quarter. So some last-minute actors were cleaning house. Better late than never? They sold anything that could show a profit (or get rid of a loss).

Golden Lining

But sell the gold and silver? Let’s think this through. Have you tried to buy physical metal lately? Good luck. The U.S. Mint is all but sold out of coins. Indeed, the U.S. Mint has placed its dealers on allocation. The Royal Canadian Mint is working flat out to meet the demand for Maple Leafs. And South Africa’s Rand Refinery — which supplies the world’s most popular gold coin, the Krugerrand — is now running at full capacity seven days a week. Got gold?

Many gold and coin dealers are having trouble keeping bullion materials in stock. For example, I’ve had about 20 or so telephone calls in the past week from “old friends.” These are people from my past (and a few total strangers) who know that I write about gold, energy and resources. The common question is, “Byron, what do I do with my dollars?”

On a purely private basis, I’ve been referring some of my friends to a couple of metal and coin dealers that I’ve used in the past (sorry, no plugs in Penny Sleuth today). I contacted the manager of one firm just to say that I was referring people. He said, “Byron, I appreciate the referrals. But I’m almost out of gold to sell. I’ve got high-end numismatics. But those are gold coins with a serious markup. Further down the price level, I just can’t keep bullion coins or metal ingots in stock.”

So what’s the story for physical gold? There’s strong demand for real metal. According to today’s Financial Times, “Investors in gold are demanding ‘unprecedented’ physical levels of bullion bars and coins and moving them into their own vaults as fears about the global financial system deepen.”

What do these gold investors know? Evidently, the posted price for gold is low. It’s another way of saying that gold is underpriced relative to true demand. In fact, the posted price is clearing the market like a vacuum cleaner.

Bailout Bucks

Now let’s look at the precious metals situation from a different angle. If Congress passes any sort of bailout plan — allegedly to re-energize the world’s credit markets — it will rapidly inject about $700 billion into the world financial system. It looks like almost all of these “bailout bucks” will be new money. Why? It’s not as if Congress is going to tax the American people $700 billion. (Gasoline taxes, anyone?)

And who will loan the U.S. that kind of money? The rest of the world is ready to shut us off. The European and Asian media are just dripping with poison when they discuss the U.S. economic mess.

So $700 billion of new money will dilute the buying power of every other dollar already in circulation. It’s basic economics. And it’s almost the textbook definition of inflation.

So that’s why people are buying gold. And that’s also why — in a volatile market — it’s probably a safe long-term bet to pick up precious metal mining shares now. Could the shares still go lower? Sure, anything can happen. But will the U.S. dollar keep on losing purchasing power? As surely as night follows day.

Until we meet again…
Byron King
October 2, 2008

The Bailout Should Benefit Precious Metals was originally featured in the Penny Sleuth.

Yes, there are a few other asset and income plays as well in the market. After all, there’s still an economy to run out there. There are 303 million Americans, and 6.2 billion other people in this world, who want to eat every day. But much of the stock market is a crapshoot. If you love pain, then the broad stock market is the place for you. While gold and silver represent the flight to safety and quality.

The U.K. Telegraph put it nicely: “As investors scrambled to make sense of last week’s events, already one conclusion was all but irrefutable — the U.S. dollar will have to take another major fall. The dollar rally that began in July and pushed the pound’s value against the greenback significantly lower has come to an abrupt end as markets face up to the fact that the currency will have to absorb the effects of a sudden shocking increase in America’s budget deficit.”

So we see lots of bad news for the dollar. But when you own gold, it’s your asset. With a specific gravity of 19.3, gold is dense, non-reactive and otherwise immutable. Gold is nobody’s liability. As one of my old professors at Harvard used to say, “That’s physics.”

Gloomy News from Wall Street

Speaking of physics, I’ve looked east of the sun and west of the moon. I can’t see much good news for the U.S. dollar on any horizon. Really, what’s gloomier than the news from Wall Street? The investment model of the modern era (borrow short, lend long, pay big bonuses) is dying before our eyes. “And it’s about time,” some might say. But it’s happening on our watch. So we had better suit up in battle-rattle.

Wall Street’s losses are in the range of hundreds of billions, maybe trillions. Which prompts me to inquire, where are Bonnie and Clyde when you need them? At least the Barrow couple knew who they were and what they did for a living. To their credit, on their last foray the dynamic duet had the guts to shoot it out with the cops and go out in tragic style.

But now the modern bank robbers are talking about how they should get big bonuses for all the good work they put in up until things blew up. Really, I’m serious. Lehman Brothers wants to pay $2.5 billion in bonuses to 10,000 employees. That’s an average of $250,000 per person. (Except I think the office runners and secretaries will get less than $250K and a select few will rake in a lot more.) What has anyone there done to deserve $250,000? Did I miss the news about somebody at Lehman discovering a cure for cancer? It’s all just so…Baby Boomer.

At the end of the day — and the clock is ticking fast — it’s too bad that the wrong people are going to get paid. And bonuses? Oh, if only I could be a bankruptcy judge for just one hour.

The War on Risk

Do you recall the $700 billion of borrowed money that the U.S. paid over the past seven years to fight the so-called “War on Terror?” Well now, with the stroke of a pen the U.S. taxpayers will pay another $700 billion (and probably more) for the “War on Risk” in the next year or so.

War on risk? It seems that way to me. Let’s back up. In the past few years — seven or so, coincidentally — a lot of people gambled and lost. People bought houses they couldn’t afford. Brokers arranged the loans. Bankers lent the money. Other bankers bundled-up the mortgages and sold them as “asset-backed securities.” Rating agencies sprinkled their holy water on the transaction. Insurance companies insured everything against default and loss.

A lot of people were making a darn good living for a while. But it was all a farce based on cheap credit and an abiding faith in a “something-for-nothing” way of life. And it’s too bad that a lot of people bought — as the saying goes — “as much house as they could afford.” Except they couldn’t afford it.

So now the whole mess is falling apart. And in true Baby Boomer fashion, the key perps on Wall Street want to change the rules and stick the house with the bill. That is, the White House and the House of Representatives, and your household as well.

The advertised number of $700 billion for the Wall Street bailout is just the posted price — the “loss leader” to get the American people into the store, so to speak. But get set for a bad case of sticker shock as events unfold. A group of business reporters at Bloomberg tallied up the raw numbers and came up with their own number of $1.8 trillion.

$700 billion? $1.8 trillion? When the numbers are that big, does it even matter? It’s the inflation-adjusted equivalent of fighting World War II again. Except who is the enemy?

Whatever the final tally may be, it cannot be good for the U.S. dollar. So buy gold and silver. If you can’t acquire the metal in the form of coins or bars, then buy precious metal stocks of companies with ore in the ground.

Until we meet again…
Byron W. King
September 24, 2008

Gloomy Dollar News Strengthens Precious Metals was originally featured in the Penny Sleuth.

But then again, a lot of energy and scarcity facts defy party labels. The energy resources are out there.

They are what they are and where they are. We can exploit the resources or not. But it’s not like in Star Trek. There’s no “dilithium” power source out there to keep the economy running.

So for the next president and his administration, it’s a question of doing something. The U.S. can always just go on importing large amounts of its energy supply. That sure has worked well for us, hasn’t it?

Here at home, there’s offshore oil and gas. There’s onshore oil and gas. There’s coal. There’s uranium.

There’s biomass, wind, solar, geothermal, falling water and tidal power. There are conservation and efficiency methods. And there are big choices to make.

At the end of the day, the next administration will have to decide to do something to keep the pipelines full and power lines energized. Or the pipelines and power lines will start to run down. And then the next president will have bigger problems on his hands than just deciding which of his friends to appoint as federal judges, or who gets what plum job.

What can the U.S. afford to do?

I’ve written before that the capital costs for energy projects have swelled in recent years. The costs for key inputs — steel, cement, copper, aluminum, machinery, labor — have outpaced inflation. And it won’t all come to an end just because the Beijing Olympics are over. There’s still a lot of concrete to pour in the Middle Kingdom.

So the world commodity boom will continue its long-term trend upward. And according to the latest data, the costs to build different kinds of power sources have increased dramatically. The relative changes are astonishing, if not sobering.

The inflationary environment in power generation capital costs has impacted all types of systems. Nuclear has increased the most, because it uses the most steel and concrete. Costs for coal systems have increased quite a bit, as well.

At the same time, the fact is that coal and nuclear generate in excess of 60 percent of the U.S. electricity supply.

And much of the installed base is between 30-40 years old, with a significant amount even older. So this installed base of power generation systems is coming to the end of its design life. What will replace it? We had better figure that out now, because it will take the next 20 years (and more) to build the next generation of power systems and plants.

On the other hand, wind power has been affected to a lesser extent by capital cost inflation. Combined cycle and gas turbine combustion still remain cheaper than wind, but wind made up a lot of ground in 2003-2004. These effects will play out over the next few years. These are things that neither the next president nor his policymakers can do anything about. They will just have to ride the wave.

And look at geothermal. It has become more expensive to build out geothermal capacity, but not that much more so. So geothermal is among the most competitive systems out there.

And on the surface, wind appears “cheaper” to build than geothermal. But that does not take into account that geothermal is far better for baseload power. That is, geothermal can supply power pretty much 24 hours per day, seven days per week. Wind, on the other hand, is limited to times when the wind blows. So it might take, say, three or four separate windmill sites to ensure 24-hour coverage, instead of one geothermal site.

We can only expect that fossil fuel costs will rise over the next few years. Really, who thinks that coal or oil will get cheaper? Rising fuel costs will further damage the economics for fossil-fired power generation, along with rising capital costs.

And despite the relative cost advantage for coal-fired power, the climate change debate is affecting the energy markets. Uncertainty about the future “carbon regime” is a key factor.

There are many questions. That is, will there be a “cap and trade” system on a national or worldwide basis? Both of the major party candidates are discussing this. And cap and trade could manifest itself in many different forms. We might see national limits on carbon emissions. Or there could be taxes on carbon. (British Columbia already has a small tax on carbon. And what happens to small taxes? Yes, of course.)

In addition, the U.S. could enter into any number of treaties that set limits on overall carbon emissions.

What will this do to U.S. industry, both domestic and international? This is no idle musing, either. Large companies like General Electric are making extensive preparations for a future of limitations on burning carbon.

Even now, we are living with the effects of the debate over climate change. The prospect of dramatic carbon regulation has already altered the economics for the coal industry. In the past two years, we have seen numerous cancellations for proposed U.S. coal plants, from Texas to Montana to Pennsylvania to North Carolina.

At the same time, renewable power systems are a fast-growing industrial sector. But renewable power systems cannot in any way meet the scale of future demand in the near to medium term. The industrial infrastructure is just not there to build large numbers of basic systems for wind, solar and even geothermal.

Anyone who says we’re going to do vast amounts of renewable this or that within the next four years just does not know what he’s talking about.

So you can be sure that energy efficiency and demand control (higher prices and smart metering) are key near-term responses. That is, in locales where customers are exposed to fluctuating daily power prices, demand control is more likely via higher prices. In places where customers see relatively static pricing for energy usage, we can expect to see mandatory efficiency measures gain ground.

And if the next U.S. president does not get energy right, nothing else that he does will really matter very much.

Until we meet again,
Byron King
September 9, 2008

The Energy President was originally featured in the Penny Sleuth.

Western oil majors like Exxon are finding it harder than ever to identify new prospects and successfully complete new oil projects. This comes despite the fact that the oil industry is flush with profits from upstream operations, and is eager to expand.

BP’s Thunder Horse project in the Gulf of Mexico, for example, is finally coming online in 2008, with an anticipated output of nearly 250,000 barrels per day. But this one project has taken almost 20 years to complete, at a cost in excess of $6 billion.

And Chevron’s recent success with its Jack 2 project in the Gulf came at a cost of over $240 million for just one test well. And this prospect is still years away from being a successful oil-producing prospect.

These sorts of developments have implications far beyond the Peak Oil argument, as valid as that thesis may be.

One of the key reasons for the decline in oil output from major Western companies is world politics. In the 1990s, the key strategic development in the wake of the fall of the Berlin Wall and the decline of communism was the trend toward globalization. Much of the world opened up to the West figuratively, as well as literally. And the oil industry was one beneficiary, making significant investments in unexplored or under-explored regions from South America to the Caspian Sea.

But the key strategic development in the first decade of the 2000s has been, arguably, the concept of “resource nationalism.” That is, in the many nations that were formerly friendly toward Western companies, the attitudes toward foreign investment have fundamentally changed. Western oil companies have found themselves squeezed in resource-rich areas.

Western companies have experienced outright nationalizations, such as what occurred with Exxon Mobil and ConocoPhillips in Venezuela. Or Western companies have been shown the door through intimidation and bullying legal tactics under the guise of “tax laws” or “environmental enforcement,” such as what happened with Shell Oil Co. at its Sakhalin project in Russia.

Even Brazil has shown its nationalistic teeth to foreign investment. Recently, Brazil withdrew numerous areas from prospective lease sales after it became apparent that the odds of finding oil were quite good. Why not just save it for Petrobras?

Whatever the case might be, Western companies have been shunted aside or, in the best cases, forced to renegotiate contracts on less favorable terms. The traditional model of resource development, in which Western companies obtain legal title and control over oil and gas deposits in the ground, is fighting a losing battle. Assertive host governments are gaming the rules to favor their state-owned national oil companies (NOCs).

As recently as the late 1970s, Western oil companies controlled well over half of the world’s oil production. But now the NOCs — such as Saudi Aramco, National Iranian Oil Co., Kuwait Oil Co., Petroleos de Venezuela, Petroleos Mexicanos (Pemex), etc. — control over 85% of the world’s oil resources. Western majors control about 7% of the world’s oil resource base.

All the while, oil output from mature regions is in decline. From the North Sea to the Alaska North Slope, the Western oil companies are faced with lower volumes from existing oil holdings. And there is a much thinner book of potential business elsewhere in the world. According to Amy Myers Jaffe, who studies the oil business from her chair at Rice University, “This is an industry in crisis.”

This sense of crisis also helps explain why Western oil companies are fighting to expand their options for offshore drilling in the U.S., as well as to expand access to areas like northern Alaska. The U.S. offshore, and other frontier areas such as the Arctic National Wildlife Refuge (ANWR) are among the few options remaining for Western oil companies.

So one key point that the Western oil industry makes is that its resource base and reserves are in decline. And over the medium to long term, this means that the economic importance of the Western companies will erode. Despite any plans or efforts at conservation and efficiency, as well as a large-scale shift to alternative energy sources, the Western world will become increasingly dependent on NOCs for oil.

From the standpoint of energy and strategy, this will not be a good thing for the West.

Until we meet again,
Byron King
September 5, 2008

Global Oil Problems was originally featured in the Penny Sleuth.

Or imagine offshore oil production platforms in the Gulf of Alaska or the North Sea. What do these offshore platforms have in common with a luxury ski resort near St. Petersburg, Russia?

When you first think of it, there’s not much commonality between a city bus in China and a large presidential library in the U.S. And how do you begin to compare an austere and remote offshore oil platform with a fancy resort in Russia? Heck, the Russian resort probably has chandeliers and Faberge eggs on the shelves.

What do these things have in common? Well, they all need power. More specifically, they all need electricity. And for one reason or another, they need or want the power source to be on-site and self-contained.

The Beijing bus happens to be an electric hybrid vehicle. A hybrid vehicle uses an engine to power an electric generator. The electricity from the generator powers a motor that turns the wheels. And the wheels on the bus go ‘round and ‘round.

But even better, this bus puts out ultra-low emissions. That’s because reducing engine emissions is critical in China, where pollution is so bad. The electricity that powers the bus comes from an on-board device called a “microturbine.” In the case of the Beijing bus, this is a small engine that burns compressed natural gas. The gas spins a turbine and generates electricity. And it moves that bus.

OK, but how is the Chinese bus similar to the Reagan Library? Well, the Reagan Library also gets its electricity from microturbines. There are 16 microturbines at the Reagan Library, delivering over 95% of the power that the large building uses. (Large? Hey, the Reagan Library houses an entire Boeing 707, the former Air Force One, in a gigantic hangar section.)

The microturbines at the Reagan Library burn natural gas. The gas comes from the regional pipeline system. So yes, the library buys natural gas. But it hardly ever has an electricity bill. Even better, the heat from the turbines actually gets recycled to run the library cooling system.

Yes, you read that right. At the Reagan Library, the heat runs the cooling system. I know it seems strange, kind of like Reaganomics did at first. But hey, it works. And the library has much lower electric costs than if it bought power from the Southern California grid. The microturbines eliminate all but a small electrical connection to the larger grid. The process is highly efficient.

And how about that ski resort near St. Petersburg? It too is off the electric grid. But without a reliable source of power, the Russian resort is out of business. So the resort uses a series of microturbines that burn natural gas (and it being Russia, sometimes kerosene). These microturbines are the sole source of power and heat for a luxury hotel and other facilities like chairlifts and water pumps.

Out in the Gulf of Alaska and the North Sea, many offshore platforms now obtain power from rugged microturbines. These platforms are no ski resorts or stately libraries. These platforms are serious industrial facilities, exposed to salt water and the heaviest storms that Mother Nature can blow at them. And there are earthquakes in Alaska.

Traditionally, almost all offshore platforms have used diesel generators to crank out power to run the on-board systems. Things like oil pumps, lighting and signaling devices, and crew quarters. This requires that the platform operators send out diesel fuel by barge to the platforms. Then they have to pump the fuel into holding tanks.

As you can imagine, hauling, pumping and storing diesel fuel at sea is a logistical pain in the neck. Not to mention it’s an oil spill waiting to happen. But now microturbine systems on the offshore platforms burn wellhead gas. That is, the microturbines burn natural gas that comes straight from the wells drilled into deep hydrocarbon formations. There’s no more diesel fuel handling. And the energy cost for an offshore platform is now a negligible element to the operators.

Oh, and by the way. In all four applications I just listed — bus, library, resort and offshore platform — the microturbines run almost continuously. They require maintenance about once per year. Maybe twice, just to be on the safe side.

So what’s going on with these microturbines? They are clean. They don’t need much maintenance. And you can use microturbines to run large buildings and industrial facilities, not to mention city buses in Beijing.

Well, this is nothing short of a new energy revolution. Microturbines are clean, green, energy-efficient and adaptable to a wide array of applications.

Whatever you want to do, you need power. When you are close to a power line, you can tie right in. But if you are off the grid, or if you just want to be more in control of your own destiny (like at the Reagan Library), you look for new ideas.

And one of the newest ideas is to use microturbines, or compact turbine systems.

Microturbines run at high speeds. They are compact (about the size of a large refrigerator) and put out a lot of power. Microturbines are “agnostic” when it comes to the fuel they burn. That is, you can power them with natural gas from the ground or even biogas from a landfill. Or you can use propane, butane, kerosene or just plain old diesel.

So when you boil it all down, microturbines deliver power and electricity with impressive efficiency, and very low levels of emissions. You can use a microturbine at a remote site like an offshore platform or a Russian ski resort. You can put one in the basement of a building like the Reagan Library to generate power on-site. Or you can run a city bus with a microturbine.

Sure, you need some sort of fuel to spin the turbine. But if you do it right you can free yourself from the grid and dramatically lower your total energy consumption and cost.

Until we meet again,
Byron King
August 26, 2008

Investing in Microturbines was originally featured in the Penny Sleuth.