Where is the oil-price headed?

If one does a long-term project, one needs good forecasts. But what is a good forecast? The one which gives you the truth – or something reasonably close to it.

Judging by past performance, all this crystal ball gazing has so far only delivered paltry results – at the very best. Most of the forecasts I have seen during my now 10 years in LNG were egregious blunders.

This post is not about problems of forecasting but about the oil price. The point I wanted to make right at the top is – the future cannot be known. But that does not mean that we should forget about the fundamentals. Knowing the fundamentals will cast a surprisingly clear picture.

Still not the ultimate truth as only the future will tell.

Here are my two cents.

Today’s Brent oil price is dancing around the USD 70 mark – a little more, a little less. This is considered historical and sends shivers down the spines of OPEC officials.

But before that, the oil price has tangoed around the USD 100 mark for most of the time since 2008. If we took 100 USD crude oil in 2014 and converted that to year 2000 dollars, we would still get around 75. Still not cheap especially considering that I saw 12 USD just before the turn of the millennium.

On the other side, we had hit an all-time high of 148 USD in 2008 and despite oil being expensive; we have not seen such levels again. This is all the more important if we keep in mind that some projections for the future were at 200 USD and some of them far above.

Why has anyone been wrong on such a massive scale?

There is an old saying – if you do what you always do you will always get the same results.

Old methods of forecasting the oil price were designed around the notion that oil comes from the Middle East or Russia and some other countries and that oil fields, once developed, could be counted on to produce black goo for decades. This means that any oilfield, once spudded, kept gushing black stuff onto the market no matter what prices did. It was a pretty blind affair.

Those oil field operators were not oil price sensitive anymore as they spent all their colossal investments in one giant undertaking. Once the investment is sunk, the well will go on producing at marginal cost. It simply does not matter anymore what the price would do or where it would go. Plus, the oil needed to flow no matter what as there was debt to pay off.

Shale oil is different. Single shale oil wells are pretty benign investments but there need to be lots of them. Shale oil acreage looks like a pin-cushion as they are pierced by innumerable holes in the ground. And then the oil or gas does not flow for decades.

A shale well produces a spike of oil flow right after it gets fracked. This spike of oil and gas gives great flow rates for a pretty limited time – usually some years. After that, the flow rate goes down steeply and the well needs some work – this means stimulation with another frack – to get gushing again. This is not free of course.

This means that if the market does not continuously provide the price stimulus required for the new well stimulation, flow rates likely will remain as low as they had fallen which also means that if prices go low for a while, tens of thousands of wells will be allowed to drop from peak production pretty quickly which will, in turn, pull a lot of oil off the market.

This relatively quick drop in oil production will in turn re-stimulate prices and up they go which in turn will spur investment into re-fracking, which in turn will flood the market with oil pulling prices back from the stratosphere. It’s Groundhog Day pretty much forever – or, at least, a long, long time.

What sounds like it might happen multiple times per year is actually playing out over years and here it gets difficult as whatever you do today will not produce results quickly. Most planning tools are not made for this as they are mostly designed for managers living on the heartbeat of quarterly reports.

Long-term thinking on the other side is the domain of entrepreneurs and innovators. Not the kind of people found in droves in managerial circles.

Does this also mean that the extremes of the oil prices we have experienced in the last few years are a thing of the past?

Not exactly.

We will see spikes in both directions but they won’t last very long anymore.

And much more important, it must slowly erode some oil seller’s belief that the world could be sliced up into zones where they place product at will. It’s everyone for himself now as traditional sellers know – very high prices will reawaken the shale monster.

We have some eerie form of stability right now (don’t be confused by the current slide) but oil prices are still very high. Who would argue that oil at 70 green is really, really cheap? It most certainly is not. We just have gotten used to ridiculous price levels of late.

So, while the world learns to live with this peculiar situation, there also is a permanent driver for alternatives to oil and its products. A high oil price is the best there is to get cunning entrepreneurs’ and inventors’ juices boiling as they can see opportunity in those still high prices.

Nobody cares much about fuel efficiency when prices are low. Everyone aims to become efficient when they are high. It’s not the environment – it’s the spreadsheet that makes fleet managers move.

The current shale revolution would never have happened without the very high oil prices that we had seen since the middle of the years 2000. There were drillers for shale for decades but only the pressure from high oil prices got the developers to put in a little more effort, a little more money, and some real smarts to create something profitable.

Many other approaches failed at the same time but this did not matter. All it took was one good approach and that happened to be shale.

The permanent high-price oil world will be the best driver for methane as a fuel, LNG as a fuel, bio-methane, syngas, and all the other exciting stuff that is happening right now.

Sure, many of those things are expensive and/or hard to pull off but stimulation from the big “expensive” oil-guzzling world will sneak through it and blast obstacles away.

Shale oil tamed the oil price and locked it in at a pretty high level. This lays the groundwork for something even more extraordinary – the new super-clean methane world.

Because once the technology has been optimized for shale gas, most of it can be used easily in the bio-methane and syngas sectors.

So, in the very, very long run, the oil price is going to fall and oil is going to fade out as an energy source. But before that, some governments that have pinned their future on the fortunes of oil will change as well as even those still relatively high oil price levels seem not to be enough for them to run their countries. Some – it seems – never learn.