The Energy Report: You have said you don’t believe in peak oil, Porter, because as oil prices rise, the entrepreneurial spirit will lead people to find ways to extract oil either in new places or with new technology. With prices running between $80 and $100/barrel (bbl), is the era of cheap oil over? And if so, what will be the impact on economic growth?
Porter Stansberry: I feel the same way about peak oil as I do about deflation. It shows massive ignorance of economics and human nature. In regard to oil prices, you have to separate the price from the currency, because in Swiss francs and gold, oil prices haven’t changed much in 50 years. Yes, the price of crude oil is volatile; it goes up and down. But in 1950, it took 2.5 grams of gold to buy a barrel of oil. Today, 2 grams of gold will buy you a barrel of oil. Thus, if you take the loss of the dollar’s purchasing power out of the equation, you’ll find that the price of oil has remained very flat.
So I would argue that despite massive increases in consumption, the real price of oil has remained unchanged. Going forward, that will almost certainly remain the case. Why? Because geology doesn’t create oil; capital creates oil. The more capital you put toward oil, the more of it there will be.
TER: But the cost to extract the oil is increasing. We don’t have “easy oil” anymore.
PS: No, that’s not true. Just as with any other economic activity, the more experience we have in oil extraction, the more efficient we become at it. In fact, the real price of oil would go up considerably if the true costs of extraction were going up as well, and as I explained, the real price of oil has been flat.
Let’s be very clear—you can’t measure these things in dollars because the dollar has lost 90% of its purchasing power since 1971. It’s lost 50% of its purchasing power since 1990. Measuring the oil industry in dollars gives you a very warped view. Pick a sound currency such as Swiss francs or gold grams and look at the oil business through that lens.
I believe that what’s happened with the U.S. dollar over the last three years has resulted in an enormous mis-pricing of oil. Speculators are rushing into oil and fleeing the dollar, which is producing an unsustainable demand for oil. Because this demand is investment-based and not economy-based, it is stimulating production that exceeds real demand by a wide margin.
TER: And where will that take us?
PS: Over the next 18 months, I expect a major correction in the price of oil and gas, with oil falling back to $40/bbl. It won’t stay there long, but it will be a big correction.
TER: What’s the extent of the stimulated production you mentioned?
PS: What’s happening onshore in the U.S. with oil and gas production is amazing. We’re setting new records for hydrocarbon production in the U.S. this year. Obviously, you can’t have record levels of hydrocarbon production if you’re supposedly running out of oil, so serious proponents of peak oil have their heads in the sand.
One more thing about peak oil. . . Look at a great book, The Prize: The Epic Quest for Oil, Money, and Power, by Daniel Yergin, cofounder and chairman of Cambridge Energy Research Associates. It’s a whole history of the oil industry. For example, war-related demand made oil prices soar during World War II, and lots of production ensued. Then big debates erupted over whether domestic use of oil should be tightly regulated because oil was a scarce, strategic commodity needed more for tanks and battleships than cars. Those favoring the tight controls argued that we were going to run out of oil, that all the major supplies of oil in the U.S—and likely in the world—had already been discovered. That was in 1946, before Saudi Arabia had really ramped up production.
You see this in the oil industry time and time again. Fears that we’ve found the last oil, that we’re going to run out, pop up constantly. And soon afterward, because the price goes up, huge new reservoirs are discovered. Always. They’re discovered because the capital is there for the exploration.
TER: You noted earlier that experience in oil extraction leads to further efficiencies, and U.S. Department of Energy estimates suggest that horizontal drilling alone can lead to increasing reserves from existing oilfields by 2%.
PS: Horizontal drilling is a fantastic technology that’s leading to a renaissance in the oil and gas industry in the U.S., and you’re going to have enormous amounts of new production come online in the decade ahead. That will, of course, force the prices back down. And inevitably, in 25 to 30 years when the prices go back up, we’ll again hear, “Oh no, we’re running out of oil.” It’s a constant cycle. It’s human nature. It’s economics. Really, if people just read a little bit more history, they wouldn’t fall for such antics.
TER: If we’re now at a point in this constant cycle where capital infusion will find additional oil supplies, will oil equities drop correspondingly?
PS: Obviously. As oil and gas prices fall over the next 18 months, it will reduce oil and gas company earnings and their stock prices will fall. They may not drop as much as they ordinarily would, however, because many of these companies are in the midst of enormous expansions of their proven reserves. Oftentimes, as you know, oil and gas companies are valued more on the basis of reserves than on current earnings.
TER: So is this the time to short them?
PS: No. There are too many other easier targets to short—European banks, newspaper companies, hard-drive stocks are some of my favorite shorts. I wouldn’t short oil and gas companies now because, as I said, they’re in this period of massive discovery. If you’ve been following the onshore shale companies the last six months, you know they’ve been doubling and tripling proven reserves, which is making their stock prices jump even though oil prices have been falling for the last several months.
TER: Shifting to natural gas, one of your recent newsletters points out that U.S. natural gas is 75% cheaper than oil, with prices at roughly half of the world’s prices. Extrapolating from there, you say that such a dramatic difference in the price of the same commodity—that commodity being energy in this case—won’t remain for long, because somehow traders will arbitrage and either oil will come down or natural gas prices will go up.
Why would the spread between oil and natural gas, which has existed for quite a few years, begin to reach equilibrium now?
PS: The spread between oil and gas, and between onshore gas and foreign gas, really began to widen in 2008 and basically has continued to widen for the last three years. It hasn’t been arbitraged away yet because it takes a long time for various consumers of energy to make those kinds of changes. Many coal-fired power plants are being decommissioned or switched over to natural gas, but that takes a long time.
It will take five to 10 years to arbitrage away that spread. Meanwhile, the biggest fortunes in oil and gas over the next decade will be made by efforts to arbitrage the global price of energy from America to the rest of the world. These spreads presage a massive change in the oil and gas business in America from acting as a large energy importer to becoming a net energy exporter. This must make peak oil people tear their hair out because why in the world would we export any if we’re running out of it? But enormous efforts are being put toward exporting energy.
Big liquefied natural gas (LNG) export facilities are being built, and there’s some irony to this. One company that I’ve shorted successfully and mocked for almost a decade is Cheniere Energy, Inc. (LNG:NYSE.A). Cheniere Energy existed to borrow a billion dollars and build an LNG import facility. Then it decided that maybe we’re not running out of energy in America after all and changed its port from an import facility to an export facility. That gives you an idea of the sea change that’s happened in the domestic onshore oil and gas business. I haven’t heard any other analyst talking about that kind of change yet, but the realization will soon dawn on the market that America has vast energy resources and will have vast energy surpluses going forward.
TER: We’ve fought wars over the fact that we’re importing energy.
PS: I’m not saying we’ll stop importing energy. We may continue to import oil, for example, because it’s cheaper to produce it in Saudi Arabia and ship it here than it is to produce it here. That doesn’t mean that we can’t be a net energy exporter, though, especially if we export an even larger volume of natural gas.
TER: The Casey organization, Marin Katusa, in particular, follows natural gas, LNGs and its use in Asia. Marin’s recommendations for LNG companies include many located in Indonesia, for instance, because it’s so close to the primary user, China. Given that the U.S. isn’t yet exporting natural gas and that dollars are going into Southeast Asia to build all of these natural gas LNG facilities, have we missed the opportunity?
PS: I don’t think so. Marin is a very good energy analyst, but I think the best way to play Asian energy demand will be American natural gas. I’m not saying that his stocks won’t do well or that there won’t be foreign competitors to American natural gas—there surely will be.
Nevertheless, America’s natural gas infrastructure is an order of magnitude larger and more sophisticated than any other of our competitors in this business. Even though the U.S. doesn’t have export facilities completed yet, that’s a minor piece of the puzzle. What we do have is tremendous amounts of supply and very low prices compared to the rest of the world. We have enormous storage and production facilities that can guarantee supply for decades at fixed prices. No one else will be able to compete with that.
TER: You mentioned earlier Cheniere Energy is part of the shift from building LNG facilities for import to export. Are some other companies interesting to you in the energy export market?
PS: Yes, but first I have to tell you one more thing about Cheniere because it’s so ironic. Guess how many LNG import facilities have been built in the U.S. throughout history? Four. Guess how many of them eventually went bankrupt? All of them. And why?
Because America is the Saudi Arabia of natural gas. We have the world’s largest reserves of natural gas, and the world’s most sophisticated production and storage facilities, by a wide margin. Coming up with a business model to bring natural gas into the U.S. would be akin to a sheik in Dubai importing sand from Chile. It just doesn’t make any sense. It never made any sense, and yet banks gave Cheniere a billion dollars and investors gave it hundreds of millions in equity. When I wrote about it, the newsletter headline was “Madness.” It was completely insane, but it was manna for a short seller because there was no possible way the business could succeed.
Getting back to your question, I know of only two publicly traded ways to play this export LNG business. I’m sure that more of these endeavors will be launched in the next 12 months. For now, ironically, Cheniere is one of the two publicly traded companies in that space, but I’d advise against investing in Cheniere because its capital structure is so impaired by the billion dollars it lost trying to build an import facility.
The other company is Dominion Resources Inc. (D:NYSE), a large integrated power company that has both regulated and unregulated subsidiaries. One of the unregulated subsidiaries owns a facility in Cove Point, Maryland, originally built in the 1960s as an LNG import facility. Of course, it went bankrupt; they all do. Now, Dominion is retrofitting Cove Point to be an LNG export facility. It’s also connecting pipelines from the Marcellus shale in West Virginia and Pennsylvania directly to this export facility. As a result, it’ll be able to take very, very low-cost natural gas out of the Marcellus and export it to the world.
TER: In what timeframe?
PS: The export facility is scheduled to open in either 2014 or 2015. The construction timeline was like five years. These are very massive facilities.
TER: Moving on to nuclear energy, what’s your outlook? Does the post-Fukushima controversy translate into a contrarian investment opportunity in uranium?
PS: I’ve been a big fan of nuclear power, although not necessarily a uranium bull. In fact, I was very bearish on uranium in the 2006–2007 timeframe because I thought it was a bubble. It eventually did collapse, so I was right about that. I can’t say that I’m part of the nuclear bull crowd now, either, but it’s because I’m more and more convinced that growth in conventional energy resources will be greater than people expect, which will continue to marginalize the nuclear power footprint in the world. I’m not saying that it’s going away, but I don’t think there will be as much growth there as everyone else expects.
TER: What does that mean for uranium prices then?
PS: I’d be neutral on uranium, and relatively neutral on large users of nuclear power such as Exelon Corp. (NYSE:EXC), which is a stock I’ve owned in my portfolio and covered in my newsletter for almost a decade. It’s a very safe and sound company, a good way to get a 5% dividend yield. It’s not a bad investment, but I’m just not particularly bullish on it the way I was prior to Fukushima.
Quite frankly, I’m surprised and disappointed that the modern safety standards that we have across these power plants throughout the world didn’t perform better. There’s s no margin of error. You cannot afford to have an accident at these plants.
I’m not saying that we can’t get there, but the facilities we’ve built over the last 40 years have proven to be unsafe. The public is right to be skeptical, and that’s generally going to reduce the construction of new plants. Less construction will cause demand for uranium to disappoint, probably over the next several decades.
TER: What will replace nuclear though?
PS: I’m very, very bullish on natural gas consumption, incredibly bullish, because I think the price is going lower. As the price goes lower, people will use more and more of it. The conventional wisdom now is that natural gas will go from around 20% of global energy consumption to maybe 25% over the next decade. I’m more optimistic than that—I think we’ll see natural gas go to 35–40% of all energy consumption. It could even go higher. It really depends on how cheaply it can be delivered around the world. The greatest opportunity the energy complex has over the next several decades lies in exploiting the technologies that are enabling shale gas production.
TER: And on that good-news note, Porter, thank you so much for taking the time to share your insights and opinions with us.
After serving a stint as the first American editor of the Fleet Street Letter, the oldest English-language financial newsletter, Porter Stansberry began Stansberry & Associates Investment Research, a private publishing company, 11 years ago. S&A has subscribers in more than 130 countries and employs some 60 research analysts, investment experts and assistants at its headquarters in Baltimore, Maryland, as well as satellite offices in Florida, Oregon and California. They’ve come to S&A from positions as stockbrokers, professional traders, mutual fund executives, hedge fund managers and equity analysts at some of the most influential money-management and financial firms in the world. Porter and his team do exhaustive amounts of real world, independent research and cover the gamut from value investing to insider trading to short selling. Porter’s monthly newsletter, Porter Stansberry’s Investment Advisory, deals with safe value investments poised to give subscribers years of exceptional return. You can learn more about Porter and his ideas by clicking here.
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1) Karen Roche of The Energy Report conducted this interview. She personally and/or her family own shares of the following companies mentioned in this interview: None.
2) The following companies mentioned in the interview are sponsors of The Energy Report: None.
3) Porter Stansberry: I personally own shares of the following companies mentioned in this interview: None. I personally and/or my family am paid by the following companies mentioned in this interview: None.
( Companies Mentioned: D:NYSE,