# Presentation: 486505

## Forecasting Long-Term Non-OPEC Supply, Science and Art

**Michael C. Lynch**
**WEFA Energy, March 2001**
**lynch@wefa.com**

## WOLF AT THE DOOR...

**RESOURCE ARGUMENT (LONG-TERM)**
- CLOSE TO URR MIDPOINT
- NO NEW GIANT FIELDS (AND ONLY GIANTS COUNT)
**OPERATIONAL ARGUMENTS (SHORT-TERM)**
- FIELD DEPLETION RATES RISING SHARPLY
- MUCH MORE DRILLING NEEDED TO OFFSET
- RIG RATES TOO LOW FOR NEW RIG BUILDING
**PRICES WILL INCREASE**
- COSTS RISING DUE TO RESOURCE DEPLETION
- OPEC MARKET SHARE TO RISE

## ...OR CRYING WOLF?

**WARNINGS CONSISTENT SINCE LATE 1970S**
- AND CONSISTENTLY WRONG
- ALWAYS A PEAK, SOON, EVERYWHERE BUT MIDEAST
**BILLIONS WAGERED, BILLIONS LOST**
- SHALE OIL, ELECTRIC CARS, T. BOONE PICKENS
- ETHANOL, FBR, PV, FUEL CELL CARS
**BUT NOT PROOF OF ERROR NOW**
- SHEPHERD WAS EATEN

## MANY MISREPRESENTATIONS

**SIDES IN THE DEBATE**
- NOT CAMPBELL VS. LYNCH
- NOT GEOLOGISTS VS. ECONOMISTS
- MOSTLY PESSIMISTS VS. OPTIMISTS
**RESERVES DATA NOT AN ISSUE**
**PESSIMISTIC VIEW NOT WIDELY ACCEPTED**
- A FEW OIL COMPANIES, NOT REALLY IEA
**HUBBERT GOOD, HUBBERT MODEL BAD**
- HUBBERT US OIL PRODUCTION FORECAST GOOD, OTHERS VERY BAD

## THE LAZY MAN’S APPROACH

**HISTORICAL REVIEW:  LOOK FOR**
- ACCURACY
- RECURRING ERRORS
- OMITTED VARIABLES
- BIAS
**INPUT/OUTPUT CONSISTENCY**
- GIVEN PESSIMISTIC  DEVELOPMENTS, HOW DOES SUPPLY KEEP RISING?

## THE “AUTHORITATIVE” IEA VIEW

## RECURRING ERRORS:  NEAR-TERM PEAK (1)

## PEAK AND DECLINE (2)

##  ...AND RESULTING ERROR

## PEAK AND DECLINE (3)

## ...AND RESULTING ERROR

## PEAK AND DECLINE (4)

## EMF11 SUPPLY CURVES

## Non-OPEC Production Forecasts (1989/91)

## LESSONS FROM HISTORICAL REVIEW OF SUPPLY FORECASTING(LYNCH 1990, 1996)

**SHIFT FROM OPTIMISM TO PESSIMISM (1979/80)**
**RAMPANT MALTHUSIAN BIAS**
- 95% FORECASTS TOO LOW
**OMITTED VARIABLES**
- TECHNOLOGY, INFRASTRUCTURE, ETC.
**RECURRING ERRORS**
- BAD YPE, RETURNS TO DRILLING
- NEAR-TERM PEAK FOR EVERYWHERE BUT MIDEAST
- DEPLETION RATES TOO HIGH
**IMPROPER CORRECTION**
- RETAIN DEPLETION RATE, MOVE PEAK UP AND OUT

## CASE STUDY:  THE HUBBERT METHOD

**RELIANCE ON BELL CURVE**
- NO PARTICULAR REASON ORIGINALLY
- FIELD BEHAVIOR (SOMETIMES)
**PAST PRODUCTION**
**URR ESTIMATES**
**TECHNOLOGY, PRICE, POLICY ASSUMED IRRELEVANT (CAMPBELL) OR IMPLICIT (OTHERS)**

## TECHNOLOGY AND RECOVERY RATES:  TWO VIEWS

- “Recovery is primarily related to the quality of the oil and the reservoir, and has little to do with technology.”  C. J. Campbell, 1998
- “Operators of deep- and ultra-deep water fields can anticipate increases in recovery rates from a given oil field of as much as 50% via new well technologies alone,” according to Torstein Dale Sjoveit, President of Norsk Hydro West Africa Oil & Gas, 2000 (PIW 7/10/2000)

## DOES POLICY MATTER?

## RESOURCE ARGUMENTS

**URR  **
- DISTANT, VAGUE, WRONG, RECEDING
**PEAK PRODUCTION**
- RESOURCE EFFECT OVERWHELMED BY OTHER FACTORS
- PRICE, TAXES, ACCESS TO LAND
- WORRY ABOUT SAUDI GREENPEACE, NOT SAUDI URR
**OPERATIONALLY MEANINGLESS**
- STRATEGICALLY MEANINGFUL?
- HAVE I GOT A SHALE OIL PLANT FOR YOU
**ONLY EFFECTS MATTER**
- RAISES COSTS (THEN HOPEFULLY PRICES)
- BUT EFFECTS CAN HAVE OTHER CAUSES

## US NATURAL GAS URR

## URR RELIABILITY

## DO CREAMING CURVES PREDICT URR?UK Reserves by field size

## MOBILE ASYMPTOTESUK Creaming Curves by Date

## GROWTH IN URR

**HUBBERT ESTIMATES, 1956-1973**
- FROM 1250 TO 2000 BILLION BARRELS
- 2.8%/YR INCREASE, 750 BB COMPARED TO CONSUMPTION OF 228
**USGS ESTIMATES, 1982-2000**
- FROM 1796 TO 3000 BILLION BARRELS
- 2.9%/YR INCREASE, 1204 BB VS. 425 BB CONSUMPTION
**CAMPBELL ESTIMATES, 1989-1996**
- FROM 1575 TO 1800 BB
- 1.9%/YR, 225 BB GROWTH VS. 200 CONSUMPTION

## BELL CURVES

## WHY THE POPULARITY?

**PROFESSIONAL RIVALRY (?)**
- GEOLOGISTS VS. ECONOMISTS
**ALARMS SELL NEWSPAPERS**
**LOOKS “SCIENTIFIC”**
**FIELDS DECLINING, WHY NOT THE WORLD?**
- BUT DOESN’T AGGREGATE TO NATIONAL OR GLOBAL LEVEL

## AGGREGATE PRODUCTION

## OTHER ARGUMENTS	

**NOT ENOUGH RIGS**
- SAME IN 1996/97, BUT 1.7 MB/D PRODUCTION INCREASE (NON-FSU OVER 2 YEARS)
**ALL GIANTS DISCOVERED**
- SMALL FIELDS DON’T MATTER
**ONLY CONVENTIONAL OIL COUNTS**
**DEPLETION RATES HIGH AND GROWING**

## SMALL FIELDS MATTER

**DOG THAT DIDN’T BARK**
- UK, US, CANADA DROPPED 2.3 MB/D FROM 1986-1990
- GREW BY 0.7 MB/D FROM 1991 TO 1997
**US STRIPPER PRODUCTION 1 MB/D**

## THE CONTRIBUTION OF SMALL FIELDSU.S. Lower-48 Drilling, Production and Price

## PRODUCTION PEAKING

## ...BUT SO WHAT?

## RECURRING ERRORS, DEPLETION

## OVERESTIMATED DEPLETION

## WHAT DOES MATTER?

**LOCATION OF PRODUCTION**
- VULNERABILITY TO DISRUPTION
- NEED FOR INFRASTRUCTURE/SERVICES
- RIG RATES, TANKERS, PIPELINE CONSTRUCTION
- WHO GETS TO PRODUCE THE OIL?
- Aramco, BP, Conoco
**DEMAND FOR OPEC OIL**
- OPEC MARKET POWER, PRICE-SETTING ABILITY
**PRODUCTION COST TRENDS**
- NEED FOR INVESTMENT, PROFITABILITY

## CONVERGENCE

**PRICE=F(OPEC MARKET SHARE, X****1****-X****N****)**
**OPEC MARKET SHARE=F(DEMAND, NON-OPEC SUPPLY)**
**NON-OPEC SUPPLY=F(PRICE, COSTS, TAXES)**
**THEREFORE, NON-OPEC COST TRENDS INFLUENCE NON-OPEC SUPPLY, WHICH INFLUENCES OPEC MARKET SHARE, WHICH INFLUENCES PRICE, WHICH INFLUENCES NON-OPEC PROFITABILITY AND SO INVESTMENT IN NON-OPEC SUPPLY, ETC.**
**THUS, COST TRENDS NOT THE ONLY FACTOR, BUT A BIG ONE**

## COSTS

**HARD TO MEASURE**
- ACCOUNTING PROBLEMS
- TAXES/ROYALTIES
- DATA PROBLEMS
**HARD TO PREDICT**
- UNIQUENESS OF FIELDS
- COMPLEXITY OF OPERATIONS

## COST TREND DRIVERS

**RESOURCE DEPLETION (+)**
- GLOBALLY IN THEORY
- BY BASIN, IN PRACTICE
**TECHNOLOGY (-)**
**INFRASTRUCTURE (-)**
**MANAGEMENT (-, hopefully)**
**ENVIRONMENTAL REGULATIONS (+)**
**CUMULATIVE IMPACT:**
- NO MINERAL PRICES EXHIBIT LONG-TERM RISING PRICE TRENDS

## COST TREND EXPECTATIONS

**ALWAYS HIGHER**
- CERI, EMF11
**FOCUS ON RESOURCE DEPLETION IMPACT**
- RETURNS TO DRILLING DECLINE SHARPLY
**TECHNOLOGY USUALLY IGNORED**
- OR AUTONOMOUS IMPROVEMENT
**OTHER FACTORS IGNORED**
- INFRASTRUCTURE
- MY WVA ROYALTIES:  2 GAL/D
- MOSTLY BULLISH (COST-LOWERING)

## WHAT EVIDENCE OF TRENDS?

**IF ONLY GIANTS MATTER, THEN BIG PROBLEM, SHARP DECLINE (HUBBERTESQUE)**
**IF DEPLETION IS INCREMENTAL EFFECT, THEN QUESTION IS OFFSETTING TRENDS**
**APPARENT:**
- SHARP SIZE DECLINE FROM FIRST FIELDS, THEN GRADUAL
- SHARP COST DECLINE AS INFRASTRUCTURE DEVELOPS, THEN GRADUAL

## CHANGES INCREMENTAL, GRADUAL

**FIELD SIZE DECLINES SLOWLY (EG., UK)**
**RETURNS TO DRILLING FLATTENS OUT**
**RESOURCE DEPLETION EXISTS, BUT SMALL, OVERWHELMED BY OTHER FACTORS**
- TECHNOLOGY (2% PER YEAR?)
- OPENING NEW AREAS
- FSU, OPEC
- INFRASTRUCTURE
- SOCIO-ECONOMIC (ROADS)
- INDUSTRY (PIPELINES, WAREHOUSES)

## RETURNS TO DRILLING

## EVIDENCE OF DEPLETION?

## SUPPLY CURVES:  FLAT AS TEXAS

## REMAINING ANALYTICAL CONCERNS

**CHANGING DEPLETION RATES**
- IMPACT OF NEW TECHNOLOGIES
- HORIZONTAL DRILLING
- EFFECT OF DIFFERENT GEOLOGY
- DEEPWATER
- EFFECT OF SMALLER SIZE
**HAS RESERVE APPRECIATION DECLINED?**
- BETTER INITIAL ESTIMATES
- BUT TECHNOLOGY STILL IMPROVING

## CONCLUSIONS

**SIMPLISTIC ANALYSIS NOT VERY VALUABLE**
- IF YOU INSIST, SEE NEXT PAGE
- ENOUGH DATA TO PROVE ANYTHING, IF YOU IGNORE DATA THAT DISAGREES WITH YOU
**COMPLEXITY MAKES ANALYSIS DIFFICULT**
- DON’T CONFUSE SHORT-TERM, LONG-TERM EFFECTS
- DON’T CONFUSE POLICY CONSTRAINTS FOR PHYSICAL CONSTRAINTS

## EXTRAPOLATE THIS!

## CONCLUSIONS (2)

**NO MINERAL HAS EVER SHOWN LONG-TERM RISING PRICE TREND**
**CARTELS ALMOST ALWAYS FAIL**
- USUALLY BY RAISING PRICES TOO HIGH
**IS WOLF HERE?**
- LATE 1970S:  NON-MIDEAST HAS PEAKED, OIL $100 IN 2000
- LATE 1980S:  NON-MIDEAST HAS PEAKED, OIL $60 IN 2000

## NOT STRAIGHTFORWARD(THANK GOD)

**ANALYTICAL PROBLEMS**
- MOST DATA TERRIBLE
- SERIOUS SEMANTIC DIFFERENCES
- NUMEROUS VARIABLES
- DIFFERENT LAG-TIMES
- EASY TO MISMEASURE, MISINTERPRET EFFECTS
**COMPREHENSION AND JUDGEMENT**
- HOW TO GAUGE VALIDITY OF EVENT IN 20 YEARS?
- 15 MINUTE PRESENTATION INADEQUATE TO COVER MAJOR VARIABLES
- EASY TO MISREPRESENT
- ALWAYS DATA TO SUPPORT ANY ARGUMENT
**SEND MONEY**

## RECENT (2000) FORECASTSNON-OPEC, NON-FSU