Iranian Oil Isn’t the End of the World

Contrarian Profits

The price of crude oil has been up and down lately. Iran has been making waves with its new production estimates, and the Organization of the Petroleum Exporting Countries (OPEC) has decided to keep production as is.

OPEC members decided to keep the output target of 30 million barrels per day unchanged. It’s created uncertainty because many believed that they would cut the targets because of the “new” supplies coming onto the markets from the United States, Iran and Iraq.

However, it’s important to note that these supplies aren’t going to be flooding the markets immediately.

We like to use the oft-repeated adage “The cure for low commodity prices is low commodity prices” – in reference to the power of economies to put cheap oil and natural resources to work. However, I think that’s a bit too subtle when we’re talking about energy and oil.

The global markets have been very clear and consistent when it comes to energy, power generation and oil consumption. With few exceptions, every time new capacity is brought online, production and energy needs increase to quickly use up the excess demand.

It’s an important thing to remember. Our commerce systems have difficulty “destroying capacity” in the form of functioning – if not horribly polluting – power plants, and we have difficulty not using oil.

Sure, we’ve dialed back our gasoline usage over the years through higher-MPG vehicles and telecommuting to work, but he U.S. still uses massive amounts of crude oil and gasoline – as does the rest of the world. Remember that the next time you hear someone say that if we built only “X” new solar plants and new wind farms we’d be free of oil.

It’s a hard truth that few want to talk about.

It’s also the reason why coal is still – heavily – used in the United States. We just cannot logically turn our backs on cheap power. The incentives are too great, and keeping the status quo is too easy.

The chart above doesn’t go back far enough to show that our coal consumption hasn’t changed much in over 30 years. We haven’t brought new capacity online, but we haven’t closed down the old production, either.

It’ll be the same for oil – until it either runs out or becomes too costly to extract economically. I gather the latter will be more correct. The short answer is that we’re going to be using any energy source we can get our hands on cheaply.

The U.S. Energy Information Administration projects that energy consumption will increase 56% by 2040. Take a look at the categories below and you’ll see none of the various fuel types experience meaningful declines.

We’re simply too power hungry.

My colleague Sara Nunnally wrote about oil and gas the other day in her “Oil Predictions for 2014.” In short, while prices may stabilize and trend just slightly lower, the long-term trend is up. We agree.

Iran is going to resume oil sales in earnest as soon as it can. Its capacity is reportedly at 3.5 million barrels per day again. And after all, its production didn’t ever entirely stop. Iran traded directly with the Chinese and others.

While it did shutter a large portion of its capacity that won’t come online immediately, it’s a certainty that the cash-poor nation wants to get those wells pumping and the money rolling back in as soon as possible.

But 3.5 million barrels per day isn’t enough to impact global pricing as significantly as the pundits think.

So when we talk about excess capacity dumping on the markets, the immediate price impact should be minimal. Consider that the U.S. oil boom has added almost 8 million barrels per day over the past few years and oil has been flat during that period. No precipitous drops, no return to $1.50 gas.

It’s because our global economic system is like our own domestic one – it will gobble up excess power as fast as it can.

Also, with a few years’ exceptions, Saudi Arabia has been one of the largest global crude oil producers for decades. Its production costs are $84 per barrel. Consider that the rock-bottom price for a barrel of oil that we’ll rarely (read: never) see.

Some analysts suggest that Iran needs prices to remain above $100 to be profitable.

I’ve already seen headlines that scream the end of the American oil boom as Iran brings it production back online. It’s won’t happen. The parties are too invested in keeping prices up. If we do see oil prices drop precipitously, Saudi Arabia will just dial back its production, quietly, without an official OPEC decision.

Saudi Arabia is one of the few nations that don’t need to sell oil to maintain its income or prosperity.

It can stop production at anytime and wait for prices to rise. Iran’s done it before, and there’s no doubt it will do it again. The kingdom has also shown a strong desire for price stability and regional harmony.

I think that there will be jockeying and political infighting – as there always is – over the next few years as all the related parties from the U.S. to Russia, to the Middle Eastern cartels, all rush to provide their crude to the markets.

The long-term trend is up. Production costs and shrinking “easy oil” reserves guarantee it. If the “glass” is half-filled now, imagine what it will look like when the global economy shakes that bug out of its ass and gets back to work.

The EIA has already told us energy usage will increase 56% in less than 30 years… I think that’s still too conservative. The world is as hungry for power as we are profits. We’ll get into a number of hot ways to profit from this trend over the next week.

Stay profitable.
Alexander Wissel
Editor, Rogue Capitalists Daily