Navigant Research Blog

Amid Global Turmoil, Oil Prices Oddly Stable

— July 18, 2014

The world has entered a zone of maximum upheaval.  From the Atlas Mountains of North Africa to the Hindu Kush, in Afghanistan, the Middle East is in flames.  The destruction of a Malaysian airline over Ukraine, almost certainly shot down by Russian-backed separatist rebels, threatens war in the Black Sea region.  Libya is being torn apart by competing militias, while parts of Iraq are under assault by the murderous Islamist force known as ISIS.  Syria remains a bloody horror show, and Israeli troops have launched a ground invasion of Gaza.  At no time since the terror attacks of 2001 has the world seen such conflict and instability.

So why aren’t oil prices higher?

Prices spiked briefly after the news on July 17 that Malaysian Air flight 17, en route from Amsterdam to Kuala Lumpur, was shot down by a surface-to-air missile fired from eastern Ukraine.  U.S. oil futures rose $1.99 a barrel, up 2% on the New York Mercantile Exchange, to reach nearly $104.  That was the largest one-day jump since June 12, when ISIS launched its offensive in Iraq, according to The Wall Street Journal.  But markets quickly calmed: the next day, benchmark crude had retreated below $103 a barrel on the NYME.  The shocks of recent days had caused a tremor across world petroleum markets, not a tsunami.

No Lost Sleep

“At any given point of time, global financial markets are always at risk from geopolitical disturbances, but this time around nobody’s losing sleep over it,”  wrote Malini  Bhupta in the  Business Standard, India’s leading economic newspaper, in a column headlined “Markets shrug off geopolitical risks as oil prices remain stable.”

Before the latest outrage in Ukraine, oil prices had actually been easing: in mid-July U.S. crude fell below $100 a barrel for the first time since May.  That’s not to say that prices aren’t high; as Steve LeVine, of Quartz, points out, geopolitical disturbances have removed around 3.5 million barrels of oil a day from world markets since last fall, and if the world were a more stable and peaceful place, oil prices would likely be well below $100 a barrel.  But given the current unrest, a price per barrel of $125, or higher, would not be startling.

The ability of the market to absorb multiple shocks and keep prices relatively stable is an indication of structural changes that have taken place in recent years.

Awash in Conflict, and Oil

According to Liam Denning, writing in The Wall Street Journal’s “Heard on the Street” column, the “forward curve” – the price of oil scheduled for delivery months or years in the future, based on the trade in futures contracts – has flipped in recent weeks, meaning that prices for contracts nearer in time are now lower than those further out.  When the curve slopes upward like that, it’s an indication that supplies are plentiful.  “The global oil market no longer looks quite so panicked about Iraq,” commented Denning.

More broadly, the world’s supply of oil has been climbing for years, and continues to do so despite the current crises.  What’s more, the sources of that supply have diversified; the Middle East no longer has as a dominant role in world production as it did 10 or even 5 years ago.

Defying “peak oil” predictions, world crude production increased roughly 50% over the last 30 years, rising from about 50 million barrels a day in 1983 to 76 million in 2012.  Regions that were negligible producers before the turn of the century are now significant oil suppliers: Africa’s production has doubled since 1983, as has South America’s.  Despite the current civil war, oil production in Iraq has soared, growing from about 300,000 barrels a day in 1991 to 3 million in 2012.  Driven by new drilling in the tar sands, Canada has more than doubled its production in the last 20 years.

And then, of course, there’s the United States, which in 2011 became a net exporter of petroleum products for the first time since the post-World War II era.  In  short, the world is awash in petroleum, and barring an all-out war between Putin’s Russia and the West, is likely to remain that way for some time.

 

Going Small, Gas-to-Liquids Finds a Niche

— July 2, 2014

Typically, converting gaseous fuels like natural gas to liquids requires high upfront capital investment and substantial energy inputs to maintain operations and results in significant energy loss.  Despite these challenges, smaller-scale gas-to-liquid (GTL) deals have increased sharply of late.  They include a joint development project involving Waste Management, NRG Energy, Velocys, and Ventech to develop a platform than can convert landfill gas to renewable fuels and chemicals.

To date, GTL projects have been built in only the most extreme cases – where macroeconomic trends are especially favorable or when liquid fuels are unavailable (e.g., Germany during World War II and South Africa under apartheid, both of which relied on coal-to-liquid conversion).

These narrow circumstances explain why just five GTL facilities are in operation globally today, despite GTL technologies being proven commercially.  The most high-profile project, Shell’s Pearl Plant in Qatar, commissioned in 2011, cost a whopping $18 billion to construct, or about $8 per gallon of annual production capacity.  With such a high price tag, the project’s return on investment (ROI) hinges on a free supply of natural gas feedstock and a per-barrel oil price in excess of $40 (brent crude was trading at about $110 per barrel just before ISIS’ recent advance in Iraq).  Meanwhile, Shell recently cancelled another high-profile GTL project slated to be built in Louisiana, citing high estimated capital costs and market uncertainty regarding natural gas and petroleum product prices.  In short, commodity prices matter.

Modular Mode

In light of this limited market uptake, the recent surge of smaller-scale GTL projects is unexpected.  Targeting stranded or associated gas resources, however, these systems are able to skirt many of the macroeconomic barriers to the large-scale GTL projects described above.

Usually wasted or unused, stranded or associated gas presents a number of financial challenges to bring to market using conventional infrastructure.  In other words, the problem lies not in getting the gas out of the ground, but in finding a practical, economical, and efficient way of moving it to market.

In the case of stranded gas – gas fields located near local markets that are usually too small or in places too distant from industrialized markets – smaller-scale GTL processing can convert natural gas into a liquid product that is cheaper to transport.  In associated gas applications, where gas is either flared or injected into oilfields to maximize recovery, smaller-scale GTL can unlock new revenue streams.

Smaller and Safer

In both cases, smaller-scale GTL conversion has significant advantages over conventional infrastructure.  Shrinking the hardware allows greater tailoring of systems to the local resource supply and reduced construction costs.  The modularity of GTL systems allows capital to be allocated in phases, reducing risk to project investors.  And because the modules and reactors are designed only once and then manufactured many times, much of the plant can be standardized and shop-fabricated in skid-mounted modules.

The opportunity for smaller-scale GTL remains significant.  Stranded and associated gas is relatively abundant (estimated at 40%-60% of the world’s proven gas reserves).  One of the more exciting opportunities that has gained attention more recently is the pairing of frontend conversion technologies for processing abundantly available solid biomass and waste into synthetic gas (or syngas) which unlocks many more opportunities globally for smaller GTL platforms.  Navigant Research’s recently published Smart Waste report forecasts that annual revenue from municipal solid waste energy recovery will increase to $6.5 billion worldwide by 2023, due in part to the expansion of emerging technologies like small-scale GTL.

 

Oil Price ‘Deniers’ Affecting the Case for Alternatives

— May 2, 2014

Predicting the price of petroleum products in coming years is as difficult as predicting the Oscar winners before the movies are even made (unless you’re talking Meryl Streep).  The global price of crude oil and gasoline is contingent on many factors that have nothing to do with the actual costs of extracting it from the ground, such as geopolitical stability, global and regional economic growth (and its impact on fuel consumption), and the availability of competitive alternatives.

As of April 16, the global price for crude oil is near $105 per barrel.  Yet, some financial institutions such as Citibank are now predicting that price of crude oil will actually start to decline and fall to $75 per barrel in 2017.

However, historical data suggests that prices will continue to climb.  The price of crude oil per barrel has grown by a substantial average of 12.9% annually since 1998 (when it was less than $11 per barrel), while correspondingly, in the United States, the retail price of gasoline has grown from $1.51 per gallon to $3.53 per gallon, or 5.8% annually.

Demand for gasoline for transportation is expected to go down in the United States in future years, thanks to the gains in vehicle fuel efficiency, which, in theory, could reduce the price at the pump.  However, globally, demand for oil will increase by 12.2% between 2015 and 2025, according to OPEC.  Since crude oil is sold on the global market, this will likely increase the price of gasoline in the United States.  Also, while there are new reserves of crude in North America, much of it from the oil sands, the higher cost of extraction indicates that prices won’t likely be going down.

As the chart below illustrates, Navigant Research’s latest Electric Vehicle Market Forecast report estimates that the price of gasoline in the United States will go up by 2.9% per year through 2022.  If the historical trend from the preceding 16 years is carried forward, by 2022, gas would be $6.18 per gallon.  The World Bank (PDF) is predicting that despite increasing global demand (and the lessons of history), the price of crude oil will be going down.

Gasoline and Crude Oil Spot Market Prices, United States: 2014-2022

(Sources: Navigant Research, The World Bank)

If you ignore history and assume that the price of gasoline will go down or stay the same, then you may be significantly underestimating the potential market for alternative fuel vehicles such as electric vehicles (EVs) or natural gas vehicles (NGVs).   While some consumers select EVs for other benefits (excellent performance, reduced emissions, etc.), most want the fuel savings to provide a positive return on investment.  If gasoline permanently goes above $4 or $5 per gallon, then the case for investing in EVs or NGVs gets correspondingly stronger.  Based on Navigant Research’s assumption of slow but steady increases in the cost of petroleum fuel, Navigant Research’s Electric Vehicle Batteries report forecasts that U.S. plug-in vehicle sales will surpass 470,000 annually by 2022.

Those who are steadfastly against EVs, or who deny that petroleum-based fuel is likely to become more expensive, have a distorted view of the future of transportation that hinders businesses developing alternatives to a petroleum-dependent world.

 

Criticism of EV Battery Environmental Impacts Misses the Point

— April 2, 2014

The environmental impact of electric vehicles (EVs) remains the subject of debate, with Tesla Motors becoming the latest scapegoat for allegedly contributing to acid rain in China.  Bloomberg News points out that EV batteries require the use of graphite, which is mostly mined and processed in China.  Graphite mining pollutes the air and water and harms agricultural crops.  The average electric car contains about 110 lbs of graphite, and Tesla’s proposed Gigafactory is expected to single-handedly double the demand for graphite in batteries.

While these are valid concerns, they ignore a few larger facts: the oil industry has far greater overall environmental impact; the production of electricity is much cleaner than refining and burning gasoline; and recycling and reuse techniques are revolutionizing the battery industry.  Tesla, meanwhile, has responded to the graphite concerns. The recent 25th anniversary of the Exxon Valdez Oil Spill reminds us of one of the worst environmental disasters in U.S. history, in which 10.8 million gallons of crude oil was spilled into Prince William Sound, off the coast of Alaska.  Ironically, the congested Houston Ship Channel (one of the world’s busiest waterways) was partially closed over the Valdez anniversary because of a weekend oil spill of nearly 170,000 gallons of tar-like crude.

Compared to Gas

Overall, the equivalent lifecycle environmental impact of electricity is much less harmful than gasoline – assuming it isn’t entirely generated by coal.  According to the U.S. Environmental Protection Agency (EPA), a gallon of gasoline produces 8,887 grams (g) of carbon dioxide (CO2) when burned in a vehicle.  An equivalent 10 kilowatt-hours (kWh) of electricity emits about 9,750g of CO2 when generated in a coal-fired power plant, 6,000g when generated in a natural gas plant, 900g from a hydroelectric plant, 550g from solar, and 150g each from wind and nuclear.  These figures include the entire lifecycle analysis, including mining, construction, transportation, and the burning of fuel.  Since 63% of the 2012 electricity mix in the United States was derived from non-coal energy sources, it has been estimated that EVs emit about half the amount of carbon pollution per mile as the average conventional vehicle.

At the same time, innovative recycling and reuse techniques are significantly increasing the sustainability of EV batteries.  In the United States and Europe, all automotive batteries are required by law to be recycled.  This has made the lead-acid battery industry one of the most sustainable industries in the world, with nearly 99% recycling rates of all the batteries’ components.  Additionally, the world’s first large-scale power storage system made from reused EV batteries was recently completed in Japan.

Second Lives for Batteries

While these approaches do not fully solve the problems associated with graphite mining, the environmental impact created by the manufacturing, transportation, and disposal of batteries is significantly lowered for each additional cycle a battery supplies.  If battery lifetimes can be doubled, the negative environmental impact is cut in half.  Navigant Research’s report, Second-Life Batteries: From PEVs to Stationary Applications, also points out that a global second-life battery market will create new businesses and jobs in addition to improving sustainability.  The global second-life battery business is expected to be worth near $100 million by 2020.

Even with the negative externalities associated with graphite production, EVs still offer an improved overall environmental picture than traditional internal combustion engine (ICE) vehicles.  And Tesla, perhaps in response to pollution criticisms, has announced that it will source the raw materials for the proposed Gigafactory exclusively from North American supply chains. Producing graphite in North America is a much cleaner process than in China.

 

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