Shorting Oil, Hedging Tesla

[jhm]

Unfortunately for Life on Earth,
Dreadnaught won't be able to handle it's human parking requirements...

[I sometimes wonder if we even deserve to be here.... sorry for the spilling of thought there-]

I can't believe the silly debate about the size of parking at GF1. Anyone who thinks the parking lot must handle thousands of cars fails to understand the business that Tesla is in. Even if the dreadnought still needs 10k human workers to show up everyday, Tesla also wants to revolutionize mass transit. So why not innovate about the best way to transport workers from home to factory right there at the Gigafactory and the Fremont Factory? If Tesla can solve those commuting problems, they will have a system to take to market.

Always happy to read your spilled thoughts, Jhm

 

[jhm]

Europe’s Big Oil Breaks Even At $50-60 Per Barrel | OilPrice.com

Oil has been struggling just to retain a price near $53/b. European oil majors need price in range of $50 to $60 to break even. So they seem to be just treading water. The glut has stress tested the whole industry. A few years ago observers though Big Oil Europe needed $100 to break even. Well, perhaps some did and have since gone bankrupt. What's left apparently can survive at a lower price.

Looking well past the current glut, I suppose that if EVs can put enough price pressure on oil, then supplies will dry up. Below $50 the credit rating of Big Oil Europe is in trouble, and likely Big Oil America is not far behind. So what would enable EVs to exert that kind of price pressure?

There is an anvil and hammer to this attack like that of Alexander the Great. The Anvil is that as battery pack cost fall below $125/kWh around 2020. This brings EVs to sticker price parity with gas vehicles, and consumers recognize that saving money on fuel is just one of many advantages to EVs. However, this alone does not immediately supply enough EVs to curb consumption of gasoline. That volume would not come until about 2025. This the battle legacy energy markets are just starting to consider. Though they think peak demand arrives well after 2030. This is just the anvil, the big frontal assault the industry is prepared for.

The hammer is a flood of oil supply trying to make it to market while oil prices are still above $40/b. When EVs are at sticker price parity, it becomes clear that oil will be priced near parity with electricity. So while electrics enjoy a fuel cost generally under $0.05/mile, it is clear that gasoline must fall to $1.25/gallon. And so, oil is doomed to fall below $15/b just as soon EVs can replace enough gas vehicles. So the oil industry goes into all out production, producing what they can while oil prices are high enough to support it. Moreover, producers know that credit will dry up too. So there is a mad dash to secure as much capital as possible. The problem is that, with the whole industry engaging in panic drilling, a glut quickly emerges and oil prices plummet. This is the hammer. It is the attack around the backside that throws the whole industry into panic.

The hammer of oversupply slams the industry against the anvil of demand lost to EVs. We've been discussing both of these for quite a while mostly as separate phenomena, but put them together and the industry implodes much more quickly. The key issue, I think, is when EVs will obtain sticker price parity or come close enough to bring down the hammer. I think this will happen just after Model Y hits the market.

 

[neroden]

Indeed! $50/bbl is still too expensive to compete on fuelling cost with electricity from solar panels, even in the US with low gas taxes, let alone in Europe. We already know that electric cars are nicer than gasoline cars. So really, sticker price parity and production capacity are the only constraints.

I don't think oil falls below $15/bbl for long because I believe at that price supply dries up faster than demand can dry up. The oil price is still going to gyrate. However, it will gyrate through a consistent trend of falling volume, which is what really matters.

I should point out that if you use 40 mpg assumptions -- roughly the maximum achievable with non-hybrid ICE engines, I had a Toyota which got 40 mpg back in 2004 -- $0.05/mile translates to $41/bbl oil.

A 50 mpg assumption -- as good as you can get with a hybrid -- translates to $60/bbl oil. This is probably part of what's preventing oil from breaking above $60. Once consumers figure out that pure electrics are better than hybrids and once upfront purchase price for long-range electrics reaches price parity with hybrids -- which is basically happening as we speak -- we should expect that price cap to drop down to $40/bbl.

But then again... at 14 cent electricity (which you can reliably get with unsubsidized solar), the least efficient Model S (280 wh/mile) translates to 3.92 cents per mile, which gives me oil price caps of $40 (hybrid car) and $25 (ICE car).

I don't suppose the exact numbers really matter. The key is that electric car deployment is constrained by only two things: production capacity and price parity. Price parity is being solved as we speak. Therefore oil demand will be displaced in proportion to electric car production, period. 2023 still seems about right for the permanent decline.

 

[adiggs]

Rex Tillerson may have left Exxon at right time

Two thoughts in reaction to this article:
- The first is one we've commented on previously - that it looks like Rex is getting out of the oil business at a great time.
- The more germane and important one, is that this is an article on CNN. It's not the front page of Time magazine, but it's getting closer, and this article is talking about the oil industry like it's beginning its slide. We're getting closer to the day when "everybody knows" that the oil industry is legacy energy.

 

[neroden]

Crap, I really need to send that open letter to my alma mater before they lose their shirt on oil investments.

 

[jhm]

Indeed! $50/bbl is still too expensive to compete on fuelling cost with electricity from solar panels, even in the US with low gas taxes, let alone in Europe. We already know that electric cars are nicer than gasoline cars. So really, sticker price parity and production capacity are the only constraints.

I don't think oil falls below $15/bbl for long because I believe at that price supply dries up faster than demand can dry up. The oil price is still going to gyrate. However, it will gyrate through a consistent trend of falling volume, which is what really matters.

I should point out that if you use 40 mpg assumptions -- roughly the maximum achievable with non-hybrid ICE engines, I had a Toyota which got 40 mpg back in 2004 -- $0.05/mile translates to $41/bbl oil.

A 50 mpg assumption -- as good as you can get with a hybrid -- translates to $60/bbl oil. This is probably part of what's preventing oil from breaking above $60. Once consumers figure out that pure electrics are better than hybrids and once upfront purchase price for long-range electrics reaches price parity with hybrids -- which is basically happening as we speak -- we should expect that price cap to drop down to $40/bbl.

But then again... at 14 cent electricity (which you can reliably get with unsubsidized solar), the least efficient Model S (280 wh/mile) translates to 3.92 cents per mile, which gives me oil price caps of $40 (hybrid car) and $25 (ICE car).

I don't suppose the exact numbers really matter. The key is that electric car deployment is constrained by only two things: production capacity and price parity. Price parity is being solved as we speak. Therefore oil demand will be displaced in proportion to electric car production, period. 2023 still seems about right for the permanent decline.

The point that I'm trying to make is that the fear of oil falling inexorably below $15/b within several decades is what triggers oversupply. Its about existential panic that sets in well in advance of volume decline.

Currently many legacy investors look at a factoid like Big Oil Europe needs $50 to $60 oil to break even and sees in this a rationale for why oil really ought trade in excess of $60 long term. Their interpretation rests on the idea that demand will only grow for the next 20 years, so if supply thins out below $50 the price must recove. There is a fundamental belief in the durability of demand. And that is what makes oil worth investing in.

So the thing that we need to wrestle with is what will ultimately undermine the belief in durable demand for oil. If you base you theory only on volume displacement, that is suggesting that oil investors only lose their fundamental belief in oil after consumption is falling at a substantial rate. That of course is way toof late in the game for any investor who does not want to be caught holding the bag. Arguably the handwriting is already on the wall, and there are Sheikhs who have read it. So smart money is exiting quietly. When will the herds get spooked? My hunch is that sticker price parity is a pretty good marker because beyond that point there really is no credible basis for believing on the durability of demand.

 

[jhm]

And now a parable.

In my solar utopia, there are Gigafactories pumping out 6.5 TWh this year to replace about 10% of the 65 TWh of batteries used by 1.3 B vehicles in the transportation sector.

However, in this present oil dystopia, the princes of oil pump 95 mbpd, of which about 65 mbpd goes to fuel a fleet of some 1.3 B vehicles.

In this dystopia, OPEC wealth is becoming worried at the end of the age of oil. They produce about 33 mbpd, and they do so at some of the lowest production costs possible. They know that, as oil prices fall, they will be among the last producers. But they worry that these barrels will not be worth much.

So they hatch a plan to secure that OPEC continues to hold at least the same market power post oil as they presently enjoy. The look around them and find that the are mostly surrounded by sun, very intense sun. So they begin thinking, what if we launch into this solar utopia and export power? Would that replace our wealth? No, the sun is everywhere and the return on massive transmission lines will be quite modest. If only we could put our solar energy directly into cars just like oil, we could export something worth more than a transmission line full of cheap power?

And so they met with Musk of America and bought a few Model S and X. Eventually, they thought, where did the valuable energy in this car really come from? They traced it back and found that it came from another desert, a desert state in the US. A Gigafactory had concentrated solar energy and local minerals into exportable battery packs.

So they came upon a plan to build out 3300 GWh of Gigafactory capacity in their own desert. They thought, one way or another, the world will continue to buy a third of their barrels or batteries from us. And if we play the batteries right, perhaps our 33 mbpd will be all the barrels the world will need. No one would dare under cut us on barrels because we can beat them with batteries.

And so it was the princes of the age oil conspired to seize the solar utopia to take it by force.

 

[adiggs]

And now a parable.

...

And so it was the princes of the age oil conspired to seize the solar utopia to take it by force.

I can think of much, much worse stories to be told of the coming years than this one.

 

[jhm]

I can think of much, much worse stories to be told of the coming years than this one.

Indeed, I was letting my seminary training come through. This is a play on Matt 11:12, but with a twist. In a way I am telling it redemptively. Those who seize the opportunity to be a part of the solar utopia will be welcomed in it, even as they use oil money to secure solar wealth.

 

[renim]

a normal oil price will be between $10 and $20 a barrel.
one effect of electrification of vehicles is to shackle oil prices back down to energy prices.
energy prices are equivalent to about $10 and $20 a barrel.

technological progress of mining has resulted in all mineral commodities except oil, ended the decade with a lower inflation adjusted cost, than it started the decade, (since 1920s anyway) (there was a famous bet about this)

oil at below $20 a barrel is a return to normalcy.
Vehicle electrification is also a return to normalcy.

 

[jhm]

a normal oil price will be between $10 and $20 a barrel.
one effect of electrification of vehicles is to shackle oil prices back down to energy prices.
energy prices are equivalent to about $10 and $20 a barrel.

technological progress of mining has resulted in all mineral commodities except oil, ended the decade with a lower inflation adjusted cost, than it started the decade, (since 1920s anyway) (there was a famous bet about this)

oil at below $20 a barrel is a return to normalcy.
Vehicle electrification is also a return to normalcy.

Yes, I had that in mind when I threw out the $15/b figure. The basic problem with that price level is that it limited to conventional crude. Tight oil, deep water, tar sands, etc. are all nonconventional and too expensive to produce at inflation adjusted historic prices. Even the discovery cost for reserve replacement is over $10/b not counting the cost of drilling and producing. So in terms of conventional oil, we really are post production peak. So peak theory folks point to 2005 as the peak. The whole theory of peak oil was subject to humiliation when oil prices climbed high enough to open up the spigot on all sorts of nonconventional oil.

So yes, I absolutely agree that oil price will get pushed back to historic $20 levels, but the big caveat is that production must fall off substantially to get there. In the process, alot of economic carnage will happen, both to companies and whole countries.

BTW, I think the much of the global economic malaise of the last two decades is largely driven by being post peak conventional oil. Oil has been too expensive, and that cuts into labor productivity, which in turn sniffles economic growth. The only way to grow the global economy is to find alternatives which are cheaper than oil. This is also why I am so hopeful about EVs and renewable energy. The key link is batteries. Electricity is cheap, but we need batteries to drive cheap electricity into the transport fuel market. As EVs create this arbitrage between oil and electricity, the price of oil must come down. As this happens it should support labor productivity and the global economy.

 

[neroden]

The point that I'm trying to make is that the fear of oil falling inexorably below $15/b within several decades is what triggers oversupply. Its about existential panic that sets in well in advance of volume decline.

If you look at the coal industry, I think that fear of endless low prices *never* happens, not even after the endless low prices have already been going on for several years and the companies have already gone bankrupt. There really is endless irrational optimism in these sectors.

Currently many legacy investors look at a factoid like Big Oil Europe needs $50 to $60 oil to break even and sees in this a rationale for why oil really ought trade in excess of $60 long term. Their interpretation rests on the idea that demand will only grow for the next 20 years, so if supply thins out below $50 the price must recove. There is a fundamental belief in the durability of demand. And that is what makes oil worth investing in.

So the thing that we need to wrestle with is what will ultimately undermine the belief in durable demand for oil. If you base you theory only on volume displacement, that is suggesting that oil investors only lose their fundamental belief in oil after consumption is falling at a substantial rate.

Look at the coal investors. Yes, I am suggesting that they only lose their belief *well after* consumption *has* fallen substantiallly.

That of course is way toof late in the game for any investor who does not want to be caught holding the bag. Arguably the handwriting is already on the wall, and there are Sheikhs who have read it. So smart money is exiting quietly.

Yes, the smart money is getting out now.

When will the herds get spooked? My hunch is that sticker price parity is a pretty good marker because beyond that point there really is no credible basis for believing on the durability of demand.

I believe the herds will take way, way, way longer because they're dumb. My evidence is the coal industry. We're *finally* seeing the end of financing of new coal power plants. However, the money is still going into mining (?!?). I think we have to see the end of the financing of ICE auto companies before we see the financing for oil companies dry up. :-(

 

[neroden]

technological progress of mining has resulted in all mineral commodities except oil, ended the decade with a lower inflation adjusted cost, than it started the decade, (since 1920s anyway) (there was a famous bet about this)

Nearly all other minerals are recycled; whenever the price goes up recycling increases. Only fossil fuels get permanently destroyed.

 

[jhm]

If you look at the coal industry, I think that fear of endless low prices *never* happens, not even after the endless low prices have already been going on for several years and the companies have already gone bankrupt. There really is endless irrational optimism in these sectors.


Look at the coal investors. Yes, I am suggesting that they only lose their belief *well after* consumption *has* fallen substantiallly.


Yes, the smart money is getting out now.

I believe the herds will take way, way, way longer because they're dumb. My evidence is the coal industry. We're *finally* seeing the end of financing of new coal power plants. However, the money is still going into mining (?!?). I think we have to see the end of the financing of ICE auto companies before we see the financing for oil companies dry up. :-(

Dude, you're bringing me down. You may be right.

 

[SebastianR]

Just as an aside - @jhm and @neroden (and everyone else here) - I really enjoy both of your perspectives on this one. And I dare say this is one of my favorite threads on TMC these days.

Dude, you're bringing me down. You may be right.

I'm wondering if it is actually an issue: Stupid investors losing money is not an issue in my mind. That's ok. What I'm worried about is consumption of oil, gas, coal. And here my hope is that Mr. Market is going to kick some a$$: If you look at the coal sector, you can see that the bankruptcies came. Even after people still invested in the sector. I have a hope the accelerate. But I certainly don't want a rush of all money out of the oil/gas sector tomorrow. I don't think the world would be ready for the civil wars, the refugees, the banking crisis etc. that such a move - would it be too sudden - would produce. So I'm taking both your sides and am quite happy with the way things go - just as long as renewables grow and coal, oil and gas consumption decline.

In the meantime I'm quite happy to move my money out of the carbon sectors...

 

[ggies07]

Utilities vote to close 2,250 MW Navajo plant, largest coal generator in western US

Earlier this month, Arizona Corporation Commissioner Andy Tobin called for an "emergency summit" to address the potential job losses related to closing down plant.

They need get these people solar jobs!

 

[jhm]

After around of bankruptcy, investors will come around to pick up assets at distressed prices. So long as a miner can make payroll, these assets will keep getting worked. The price of coal will trade at a small discount to natural gas priced on a btu basis. So as the price of natural gas goes up, if only on volatility, coal can have opportunities to make some money. So in a way, owning a coal company is a bit like having an option on natural gas.

BTW, natural gas prices have been falling unexpectedly. Gas reserves are quite close to five-year averages for day of year, so analysts like Art Berman believe it has been underpriced. And yet the price falls. Wind and solar snuck in a bunch of capacity in December, 8.2 GW wind and 12.5 GW solar, enough to displace about 1.2 Bcf/d gas. So I'm wondering if the market may be a bit surpised.

Regardless, the longterm way to cut coal production is to keep natural gas prices consistently low. Occasionally low is not enough. But since coal is like an option on natural gas prices, the volatility of natural gas also creates value for coal. It will be interesting to see how batteries impact the natural gas market. It seems that batteries can also absorb some of the volatility of the gas market while enabling use of more wind and solar. Curiously a solar+battery plant can be deployed in less than 12 months. So if there is a gas shortage, these plants could come on line fast enough to resolve it within a year. That sort of fast turn around could help reduce the length and amplitude of cycles in the natural gas markets.

In any case, renewables and batteries will keep plugging away until fossils are pushed out of the market whether by price or sheer volume.

 

[neroden]

BTW, natural gas prices have been falling unexpectedly. Gas reserves are quite close to five-year averages for day of year, so analysts like Art Berman believe it has been underpriced. And yet the price falls.

It's not an independent market. Natgas supply is determined by oil supply, which is being glutted presently. (When it's too much gas they flare it.) You might want to keep an eye on flaring rates if you can find any records.

Wind and solar snuck in a bunch of capacity in December, 8.2 GW wind and 12.5 GW solar, enough to displace about 1.2 Bcf/d gas. So I'm wondering if the market may be a bit surpised.

Maybe.

 

[neroden]

I'm wondering if it is actually an issue: Stupid investors losing money is not an issue in my mind. That's ok.

I generally agree. I wish it didn't include my alma mater's endowment, though.

 

[RobStark]

Utilities vote to close 2,250 MW Navajo plant, largest coal generator in western US

It says 3k Navajo work there and the Tribe has the option to keep operating the plant or have someone else do so.