How unconventional oil and gas are turning 2013 into the Year of (Even More) Uncertainty
When I got together with an associate* recently to take stock of what 2013 might hold in store for the energy sector, we soon discovered there was one overriding theme that came up in all our deliberations: the profound effects the rapid growth of unconventional oil and gas are having on every aspect of global energy markets. Like it or not, but the revolution in unconventional gas that is set to spread across the world from the US, and which is now likely to be followed by a revolution in unconventional oil, is making the global energy world look very different - and a lot more uncertain - than a few years ago. Welcome to the Year of Yet More Unprecedented Uncertainty.
|Shale rock (c) Sustainalytics|
Four years later, the IEA's annual World Energy Outlook (WEO) sounds a very different note. "The global energy map is changing", announced the WEO that came out in November 2012. "It is being redrawn by the resurgence in oil and gas production in the US … and by the global spread of unconventional gas production."
On page 105 of the new WEO report, the IEA raises the question: Are we finding enough crude oil to sustain production? This time around the answer is a clear yes. The WEO notes that not only has the US embarked on a tight oil revolution, the rest of the world may also "hold large volumes of unconventional oil". It adds that "the global reserves-to-production ratio (for oil) has increased steadily in recent years, to around 55 years at end-2011."
As far as gas reserves are concerned, everyone knows about the US shale gas revolution by now. But the WEO 2012 is also quite positive about the development of global conventional gas reserves. It notes that "discoveries of gas fields have continued at a brisk pace" in countries as far apart as Iran and Mozambique.
Or consider this. According to another authoritative annual report, the BP Statistical Review of Energy, global proven oil reserves stood at 1046 billion barrels in 2001. Eleven years later, in 2012, after some 325 billion barrels were consumed worldwide, global reserves had grown to 1652 billion barrels. Similarly, proven gas reserves were estimated by the BP Review at 150,000 bcm (billion cubic metres) or 5304 tcf (trillion cubic feet) in 2001. In 2012, after the consumption of some 30,000 bcm of gas, reserves stood at 208,000 bcm. Note that over this period global oil consumption grew by some 13%, gas consumption by 34%.
The Decade of Oil and Gas Reserves Growth is no doubt one of the great economic success stories of the 21st Century - although you do not hear as much about it as about the ICT revolution or the internet. But it is also (analogous to the ICT revolution) creating huge uncertainties in every nook and cranny of the energy universe.
To begin with, the unconventional landscape itself is still quite bewildering. The geology is still a largely uncharted map, making energy companies uncertain where to go. In addition, and related to this, price signals are totally up in the air. Although the oil price has been fairly steady recently, no one has any clue where it will go. Production costs vary hugely among different projects. Throw in supply side insecurity on the one hand (e.g. in places like the Middle East and Africa) and possibly plunging demand side fundamentals on the other hand (as a result of the economic crisis in Europe, unsustainable debt levels in the US and daunting domestic challenges in India, Brazil and China), and the result is anyone's guess.
And this is just resource and price uncertainty. It is not even mentioning the political, regulatory and environmental risks associated with unconventional oil and gas.
All this is putting international oil companies (IOCs) in a difficult spot. They face a tremendous challenge figuring out where to place their upstream bets. Any kind of downside price corrections could wipe out vast swathes of Canadian tar, Brazilian pre-salt, Arctic ice, Australian LNG, West African and East African LNG and even US tight plays.
For pipeline projects, the situation is even worse. That certainly applies to various grandiose pipeline plans laid out in the early 2000s. They look terribly old-fashioned in a new age of unconventional bounty.
|The grandiose pipeline plans of the early 2000's look terribly old-fashioned in a new age of unconventional bounty|
If, as a result of the revolution in unconventionals, global oil and gas prices follow the example of US natural gas prices, the results would not be all beneficial. For one thing, it would seriously undermine the stability of many key producer states. Having made around $1.1 trillion in 2012, you could be excused for thinking OPEC would have ample wiggle room to weather a price storm or two. The reality is quite different. $100 a barrel is no longer deemed high among OPEC ranks, but a necessary minimum for regime survival.
This applies not only to overstretched patronage states like Algeria, Nigeria, Venezuela or Iran, but also to the Gulf States. There are no true price moderates left in the oil cartel, merely gradations of hawks. And the same can be said for Russia and Central Asian states.
Stability in the key Middle East-North Africa (MENA) region is shaky anyway. The political debris from 2011-12 will continue into 2013 and beyond, with popular pressures continually growing. That's not just in the Arab Nationalist Republics such as Egypt, Syria and Iraq, but also in the Gulf Monarchies. The trigger point to watch is political succession. The exact timings are by definition uncertain, but Bahrain, the United Arab Emirates (UAE), Qatar, Kuwait, and most importantly Saudi Arabia, are all in the same succession boat, passing power from one ageing leader to another. Once these boats start to leak, expect oil prices to rise rapidly. Watch out in particular for the awkward neighbourhood in which Saudi Arabia's Eastern Province finds itself in.
Thus, ironically, growing US oil and gas production is likely to make life a lot harder for US allies in the Middle East. The US will probably push towards 11.5 million barrels per day production next year. With
|Having made around $1.1 trillion in 2012, you could be excused for thinking OPEC would have ample wiggle room to weather a price storm or two. The reality is quite different|
And there is another effect to consider: with the US aiming for energy independence and increasingly broke, an external power vacuum looms in the Middle East. China is unlikely to be able and willing to take over from the US as yet. Although Beijing knows it can't keep getting a free energy lunch off the US military table, at the same time it can't build up or project its military might without fuelling American paranoia. This dissonance is being played out not just in the Middle East, but in producer states across Africa, the Middle East, and Latin America. 'External political protection' will be in shorter supply for producers.
This last spells trouble for Europe: it is heavily import dependent, but hasn't got the political pull or military muscle to secure supplies. With the US taking a back seat, Europe would do well to consider working with China at the other end of the Eurasian pipeline to safeguard its consumer interests.
Unconventionals are also having the upsetting effect of turning Latin America into the new regional hotbed of resource nationalism. Hugo Chavez's presidential win in October 2012 will help stoke the nationalism fires on the South American continent. Rather than learning the lessons of how not to do effective resource management, Latin leaders are likely to start imitating many of his moves to tighten their grips over the resource sector. Resource nationalism wins votes. Showering the electorate with petrodollars works: being an international nuisance translates into domestic support. And Latin American countries now have enormous unconventional reserves to raise the stakes of the game far beyond previous thresholds.
Take a whirlwind tour across Latin America and the picture looks depressingly similar. President Kirchner has already gone down the nationalist path in Argentina, not only kicking out Spanish Repsol earlier in the year, but becoming increasingly bellicose about its sovereign claims over the Falkland
|Latin American countries now have enormous unconventional reserves to raise the stakes of the game far beyond previous thresholds|
Of course few governments can resist fiddling around with contracts when times are good, especially when sunk costs are involved from international investors, but this is more than the usual commodities cycle or host governments working out how to get better terms from international competition. Latin American producers all have major new unconventional oil and gas discoveries to play with. The bigger the prizes get, the more strategic control of resources tightens across the region. That clearly applies to 35 billion barrels of Brazilian pre-salt, 21,000 bcm of Argentine shale gas (and 23 billion barrels of oil), not to mention 19,000 bcm of Mexican shale. Venezuela will no doubt revise its 296.5 billion barrels of proven oil reserves to over 300 barrels into 2013 - irrespective of whether Chavez finally kicks the can making way for the next wave of the Bolivarian 'revolution'.
One key question in 2013 is not whether the US will maintain its number one (650 bcm) gas slot, but how much it intends to export as LNG. Those expecting the floodgates to open next year could be disappointed; Washington will want to make sure that domestic gas prices will stay low, to fuel the industrial revival in the US. Of the 125 bcm/year of LNG trains awaiting federal approval, 40-50bcm would be remarkably good going.
But even if America gets cold LNG feet, price convergence will slowly continue to play out across the Atlantic and Pacific Basins. The mere prospect of US liquidity hitting the market has been seized upon by Asian buyers, with the upshot that Washington's virtual impact on the gas world will be far larger than its physical presence in 2013.
Probably no country is more affected by the unconventional shake-up than Russia. Indeed, you could argue that unconventional gas has triggered an internal energy war in Russia. In the midst of extreme
|It seems that the main war the Russians will be fighting is an internal one between Rosneft and Gazprom|
With most Russian fields now looking horribly expensive to develop, Gazprom will need to fork out over $45bn per annum over the next five years. That doesn't bode particularly well for the Kremlin to fall back on gas revenues. Putin will look increasingly to Rosneft, where he has put his right-hand man Igor Sechin in charge. Oil leader Rosneft has already stepped on gas leader Gazprom's turf by securing a 25 year gas supply agreement with Inter RAO (the state electricity provider). Next stop will be going after Gazprom's gas export monopoly. Gazprom will get left holding the European baby, playing regional pipeline politics, while Rosneft performs a global role.
In Europe, unconventional production will remain notable by its absence. Probably no other region needs new sources of energy more badly than Europe, if only to get some serious optionality over Russia. But Europe seems incapable of overcoming localised, petty politics to fulfill broader strategic shale aims. All over Europe, countries are less than enthusiastic about developing their unconventional resources.
France, despite sitting on 5,000 bcm of shale, has buried the shale idea deeper than their nuclear waste sits in the Champagne region. The Netherlands doesn't need to bother with shale given they still have Groningen to play with. Germany remains clinically schizophrenic on energy, splitting its energy mix between lots of wind and even more coal, using Russian gas to fill any residual gaps. Sweden is not taking any action despite sitting on 1,100 bcm of prospective reserves. Norway has played with a very conventional bat so far. Spain remains plugged into Algerian production, while Italy has been oversupplied with Russian and on-going Libyan deliveries. The only exception in "Western" Europe is the UK, or primarily the Conservative government, who seems to want to get some shale gas production going.
In Eastern Europe, closer to the Russian border, where the political need to develop shale is supposedly more pressing, governments remain equally lukewarm to the idea. What is worse, the geological viability of shale plays remains deeply circumspect in countries like Poland, Austria, Romania, Hungary and Ukraine. Go to any energy conference in the East, and you'll hear a barrage of political bluster as to why Russia's gas stranglehold is about to be broken. Two minutes after you get ‘off stage', you'll be pulled to one side by industry players telling you a more concerning reality - "we've been looking at the rock formations for years; they've never looked convincing."
Thus, US oil companies like Exxon and Marathon came, saw and went away again. They might come
As Shell is no doubt about to find out in Ukraine, developing shale in Eastern Europe and Russian upstream reserves isn't going to be an either/or option
A logic that Bulgaria seems to have understood by killing any shale developments on first sight of domestic opposition. Bucharest has followed Sofia's suit and imposed an outright moratorium on any further shale developments within its borders. The new centre-left Ponta government is far closer to Russia than its Basescu predecessor. All of it is couched in environmental terms, but the underlying reality is that Eastern European states are buckling under Russia pressure.
National European giants could come to the rescue, except that they don't exist anymore. The big utilities have taken heavy beatings, not just because of the crisis, but also because of Europe's renewable energy policies. Some, like Eon, are increasingly looking elsewhere for growth, e.g. in Turkey.
The unconventional boom will not only affect oil and gas markets, but other energy sectors as well. It could spell big trouble for the clean tech sector. Indeed, renewables might well be the greatest loser of all - at least in the short term. The new oil and gas resources in combination with spending cutbacks lead to a real risk of seeing government props knocked out from under renewables markets.
|Europe welcomes US coal coming on the back of the US unconventional gas revolution (c) chinadialogue.net|
That's not to say that green investments are dead, but the renewables future hardly seems clear-cut. Does anyone know where the German Energiewende is taking us? With near-blackouts in February last year, which could be repeated if another cold spell sets in, will the Germans really continue to pursue their dream of expensive massive offshore wind power?
Elsewhere prospects for renewable energy are somewhat promising. Purely through scale and a portfolio approach, China will undoubtedly remain the key green growth market. And there are notable bright spots of solar growth in the Middle East.
Then there is nuclear power. This too will be hit severely by the unconventional oil and gas boom. China and India are still pursuing growth in nuclear power, but they may have second thoughts when they can obtain plenty of gas to produce electricity.
If all this sounds intimidating, what is even more unsettling is that all of these developments impact each other like never before. As the US unconventional gas revolution has shown, the world has become a global energy village. Anything that happens anywhere (think Fukushima, Arab Spring, US elections, major oil spill, and so on) can have profound and unpredictable effects across the world and across energy sectors.
Not only are markets interconnected, so are technologies. So far, the possibilities of substitution have not been used much, but they do exist. Oil in road transport can be substituted by gas or by electricity or by biofuels or by hydrogen. Gas can be turned into liquids, coal can be turned into gas.
And there are of course other uncertainties that are hovering over energy markets, regardless of unconventional oil and gas. Think of a trend like the decentralisation of energy supply or the possibility of a very quick growth of solar power. Or, for that matter, a global climate disaster, which could induce politicians to finally put a price on carbon. This would make the energy world look very different again.
There is perhaps only one real certainty that we can count on. Ironically, this is precisely the one thing that the general public is worried about most when it comes to energy: there will be plenty of oil and gas available for a long time to come.
* This article was written in collaboration with an energy expert who does not want his name to be mentioned.
The 13 Unconventional Uncertainties of 2013
The (expected) rapid growth in the production of unconventional oil and gas is making the energy world an even more confusing place than it already was. We have identified 13 unconventional uncertainties for 2013:
1. The geology: where are the most and cheapeast unconventionals?