IEEJ: May 2008

Presentation to IEEJ Meeting
Tokyo, May 15, 2008

Prospects
For Crude Oil Prices &GCC Investment Strategies
By

Pierre Shammas
President

APS Energy Groupapsnews@terra.net.lb
The world now is divided into a paper economy, which is financial anddriven by psychological factors with speculators motivated by quickprofit, and a real economy where prices of physical goods and projects
are rising outside the rule of supply and demand. In the valuation of
paper WTI, which is a world marker despite the fact that physically thislight/sweet crude oil does not trade outside the US, there is a void
between less than US$60 per barrel and more than $120/barrel. This means
paper WTI can go in any direction in the years ahead.
While the price of paper WTI has risen less than six-fold since 2002,
however, those of paper commodities and physical projects in some cases
have soared ten-fold. A 615,000 b/d refinery in Kuwait in 2002 had abudget of US$2 billion; now the cost estimate for this is $20 billion.
It is important to note, however, that the paper economy now reflects abubble which is bound to burst and cause the real economy much harm.
When will the bubble burst? This is a universal question.
The paper economy consists of commodity bubbles; no one knows the bubbleof which commodity will be the first to burst and how it will affect theother bubbles.
While the paper economy is a thing of the rich world, the main engine of
growth for the real one is coming from the emerging economies (EEs) suchas the petroleum-exporting part of the Greater Middle East (GME), China,
India, Russia, etc. So the prices of physical oil are rising in linewith the prices of paper oil.
Real wealth is migrating from the rich world to the EEs at such a rapid
pace that I wonder whether the state of world peace is sustainable. News
Service No. 17 of the APS newsletters, which the APS Energy Group is
publishing, lists the number of conflicts that are now affecting world
peace (see news17LebHoldsAllConflictsApr21-08).
With food prices having gone up sharply across the globe, there is talkof a looming war over natural resources. This talk follows the 11th
International Energy Forum in Rome which on April 20-23 brought together
energy ministers from 74 states. The debate covered much of the world’s
problems, including under-investment in petroleum and concentration on
biofuels. The concentration on biofuels is adding to a global foodcrisis.
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In Rome, Saudi Petroleum and Mineral Resources Minister ‘Ali al-Na’imi
on April 22 warned that the kingdom’s crude oil production capacity will
not increase beyond the 12.5 million b/d target set for end-2009,
meaning lack of spare capacity beyond 2009 will cause oil prices toremain high, with paper WTI on April 22 having risen to $119.90/barrel.
He said there was no shortage of crude oil in the physical market, butwarned that the world will face a continuing shrinkage of spare capacity
to produce petroleum in the years beyond 2009.
Some say even $200/barrel would not be out of the question. Projecting
such a level is a gross exaggeration of things. But I find myself at aloss of following any logic; and the planners in the six-state Arab Gulf
Co-operation Council (GCC) – which groups Bahrain, Kuwait, Oman, Oman,
Qatar, Saudi Arabia and the UAE – are equally as confused when it comesto their investment strategy.
The latest oil price surge – pushing paper WTI to nearly double its
level a year ago – has the components of a classic bubble, when prices
climb far above their intrinsic value. The burst comes when investors
realise the assets are over-valued. But the growing world thirst forphysical crude oil, mainly from rapidly expanding EEs, means frustrated
consumers may not get any relief soon.
Paper WTI on April 25 came close to $120/barrel on news that a ship
under contract to the US Defence Department fired warning shots at two
Iranian boats in the Persian Gulf. Paper markets were weighing theeffects of a pipeline attack in Nigeria and a looming refinery strike in
Scotland. US retail gasoline, which at times rises in tandem with paper
WTI, on April 25 was $3.60 a gallon.
OPEC, accounting for about 40% of the world’s physical crude oil,insists it is supplying more than enough. Speculative traders bid up theprice of paper WTI – or paper Brent - as a hedge against inflation andas protection from a falling dollar. This combination feeds the bubble.
It is becoming harder and more expensive for oil companies to find andtap new petroleum reserves – troublesome given forecasts that theworld’s energy needs will rise more than 50% in the next two decades.
Goldman Sachs says paper WTI could average $110/barrel by 2010, up froma previous forecast of $80, and that a spike as high as $200/barrel ispossible in case of a major supply disruption.
Nor is it wise to ignore those who say paper WTI could fall to$80/barrel this year and to $50 in the next three or four years as moreglobal supply comes on line. Demand already has begun to wane in the US,
where fuel prices are causing turmoil in an economy already saddled withrecession fears, a housing and credit crisis, and dismal retail sales.
American drivers have begun to cut back on gasoline consumption. Somepeople have taken to riding bikes to work or organising car pools. The
sale of gas-electric hybrid vehicles is up. Larger trucks and SUVs
selling slowly. It is unclear how much a drop in oil prices could reduce
gasoline prices in the US.
Prices in the US do not always move together as they are subject toseparate supply/demand forces. While US physical crude prices have risen
80% in a year, gasoline’s rose only 24%. The one thing I have learned in
40 years of my career is that oil prices are never where they should be.

The GCC Investment Strategies
Saudi Arabia is the trend-setter for the GCC investment strategists. But
all are confused as none of the six states has come out with a clear
investment strategy concerning capacities in oil and gas production,-2-

IEEJ: May 2008

refining, logistics, petrochemicals, etc. The confusion stems from awide range of uncertainties - from what is to happen to Iran’s nuclear
and regional ambitions in the coming months and years, with the US
presidential elections due in November 2008 being a key factor, toconstantly changing but steadily rising project costs in the upstream,
midstream and downstream branches of the petroleum industry.
One of the factors of uncertainty is investment in alternative fuels,
although Saudi Arabia and the rest of the GCC know well thatconventional petroleum will remain the dominant source of energy in theforeseeable future. The other is the state of the world’s economy andthe fate of the US dollar. Only Kuwait pegs its currency (the dinar) toa basket of currencies; the other five are pegged to the US dollar andare not likely to change their monetary policy in the near future.
Saudi Arabia: Although it has been officially said that the state-owned
Saudi Aramco will not expand its 11.3 million b/d crude oil output
capacity beyond 12.5 million b/d by end-2009, in reality it will be able
to produce more than 13.5 million b/d in the subsequent years. This isproven by a five-year drilling programme and a list of E&P projects
announced recently by Saudi Aramco. In addition, Saudi Aramco’s
condensate/NGL production will rise from about 1 million b/d to nearly
1.5 million b/d. So Saudi Arabia will be able to produce 15 million b/dof crude oil and gas liquids by 2012/13.
The UAE: With the emirate of Abu Dhabi already having the capacity to
produce more than 2.6 million b/d, the UAE’s total capacity now exceeds
2.7 million b/d and should reach 4 million b/d by 2012. Almost all the
expansion will be in Abu Dhabi, whose proven oil reserves account for
more than 95% of the UAE total. In addition, the UAE will raise its
production of condensate and NLG from 400,000 b/d to 700,000 b/d. So thetotal will come to 4.7 million b/d for crude oil and gas liquids by 2012.
This excludes Abu Dhabi’s LNG production and exports.
Kuwait: Now with a capacity of 2.8 million b/d, Kuwait will be able toproduce more than 3 million b/d by 2012. Its expansion plan, to raise
the capacity to 4 million b/d within four to five years of work, hasbeen stalled since the early 1990s by parliament whose members have been
opposed to involvement by international oil companies (IOCs) in its“Project Kuwait” programme to expand its northern and western oilfields.
But parliament was dissolved in March and elections set for May could
bring in realists who might ease the opposition to IOC role. Yet risingproject costs and a shortage of skilled human resources and materials –a worldwide problem – will cause further delays. In addition, its
production of NGL will rise from 300,000 b/d to 600,000 b/d, so its
production of oil and gas liquids will come to 3.6 million b/d by 2012.
Qatar: Now with a capacity of 860,000 b/d, Qatar is raising its crude
oil production potential to 1.2 million b/d in 2010 and 1.5 million b/dby 2015. In addition, it will be producing 800,000 b/d of gas liquids –excluding LNG – so its total will come to 2.3 million b/d. Qatar alreadyis the world’s biggest exporter of LNG, whose capacity would reach as
much as 83 million tons/year by 2014 or before. The total of its oil andgas production, including LNG, will by 2015 come to 5 million b/doe.
Bahrain: A negligible producer of crude oil, Bahrain gets a 150,000 b/dshare of crude oil production from Saudi Arabia out of a joint offshore
field. Together with gas liquids, these come to about 200,000 b/d, alevel expected to be maintained through 2012/15.
So the total of crude oil production from the six GCC states will risefrom 18.54m b/d now to 20.5 million b/d by 2010 and 23 million b/d by
2012/15. With gas liquids (excluding LNG), the total will rise fromabout 20.7 million b/d now to 26.6 million b/d by 2012/15.

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Iran puts its current crude oil production capacity at 4.2 million b/d.
But independent estimates put this at less than 3.8 million b/d. Irannow is said to be losing about 500,000 b/d of crude oil production
capacity every year due to severe reservoir damage.
Iraq is raising its crude oil production capacity from 2.5 million b/d
now to 3 million b/d by end-2008 and plans to increase this to as muchas 6 million b/d by 2012/13.

OPEC: Overall expansion plans by the 13-state OPEC are to add around12.8 million b/d of crude oil production to 48 million b/d in 2012. But
actual additions could be only around 5.5 million b/d to boost OPEC
combined crude oil production capacity to 40.7 million b/d. The figure
does not include NGLs, which could rise by about 1.2 million b/d toaround 5.7 million b/d to push OPEC’s total oil and NGL output capacity
to 46.4 million b/d in 2012/13. In this increase, we in APS have taken
into account a decline in production capacity in Venezuela and Indonesia,
and have assumed that any further fall in Iran’s capacity will be offset
by new fields in the country coming on stream in the next four to five
years.
In OPEC’s reference case, demand for its crude oil is projected to risefrom 35.9 million b/d in 2010 to 40.6 million b/d in 2015. In the highgrowth scenario, the demand will increase from 36.4 million b/d in 2010
to 42 million b/d in 2015. In the low growth case, it will fall from
34.7 million b/d in 2010 to 27.2 million b/d in 2015.

Saudi Drilling Expansion Plan: Saudi Aramco is poised tosanction an ambitious five-year plan, boosting its drilling activity bya third and increasing investments levels by 40%, despite Riyadh
claiming it has no plans to increase crude oil production capacity
before 2020. A final version of Saudi Aramco's plan, which runs from2009 to 2013, is expected to be approved by the company's board and thePetroleum Ministry by mid-May, following a six-week review of a draft
proposal reported on April 25 by the Middle East Economic Digest (MEED).
MEED quoted sources close to the state oil giant as saying Saudi Aramco
will bolster the number of wells drilled around the kingdom by a third
to 248, compared with an original target of 187. Investment on projects
will be increased to $13.7 billion from $10.7 billion under the draft
plan. Much of the increase in drilling activity will be aimed atsustaining the kingdom's production target of 12.5 million b/d, which it
expects to reach by end-2009.
However, given Saudi Aramco's success in both discovering fresh finds
and redeveloping previously mothballed fields such as Manifa, it appears
that the world's largest national oil company (NOC) may seek to boost
capacity beyond 12.5 million b/d, regardless of its stated view on
global demand for conventional crude oil.
The kingdom had previously said it could take its crude oil production
capacity up to 15 million b/d. The plan reported by MEED also includes a
US $4.1 billion commitment to upgrade existing facilities at the
kingdom's landmark Ras Tanura refinery, compared with an initialinvestment of US$2.39 billion. Saudi Aramco recently cancelled a planned
125,000 b/d refinery upgrade at Ras Tanura, increasing speculation it isconsidering a partnership with Saudi Basic Industries Corp (SABIC) tointegrate the refinery with a petrochemicals plant.
However, the budget for some plans has been cut. Saudi Aramco hascommitted $1.45 billion to the Karan gas field and processing facility-4-

IEEJ: May 2008

to hit production of 1,500 MCF/day by 2012. In Saudi Arabia alone,demand for natural gas is expected to reach 14,500 MCF/day by 2030,
compared with the current 5,500 MCF/day. Demand for natural gas in all
the other five GCC countries is increasing as well.
Saudi Aramco will spend $2.58 billion on offshore maintenance and new
drilling, compared with $2.25 billion previously, marking a new emphasison the kingdom's offshore fields. According to Saudi Aramco, theoffshore in Saudi Arabia is as promising as the onshore. It sees the
future in the offshore. Much of its offshore development has focused on
the Safaniyah, Marjan, Berri and Zuluf fields, but further development
is needed, mostly to provide relief to the ageing Ghawar, the world's
largest onshore field.
Saudi Aramco has devoted $1.15 billion for maintenance of Safaniyah, thelargest offshore oilfield in the world, which boasts production of about
1.7 million b/d.

Oman: Oman is the GCC country which has seen its crude oil production
drop steadily in the past eight years, with the amount of water coming
out of depleting oilfields having risen sharply. Petroleum Development
Oman (PDO), the main concessionaire which is controlled by the state andoperated by Shell, is exploring the possibility of using naturally
occurring bacteria to increase oil production. PDO’s Managing Director
John Malcolm in late April said the company was working with Sultan
Qaboos University to develop microbial Enhanced Oil Recovery (EOR) and
its use to increase production.
"No [EOR] technology is off our agenda", Malcolm said at the Society ofPetroleum Engineers conference on EOR techniques. He said PDO was also
looking seriously at "in situ combustion" and the use of surfactant
polymers, the technologies still in their infancy. He added: "At PDO, wewere stressing the need to contain costs while planning for conventional
and EOR projects. Our thinking on EOR was still tempered by the fearthat the high cost associated with such projects might not be
economically feasible over the long term".
However, in the last two years the company's thinking has changed withpaper WTI shooting up from $60 to $120/barrel. Malcolm said PDO was
moving towards becoming a global leader in the application of EOR
processes. He said: "We are one of the few oil companies in the world
which is executing world-scale projects in each of the three commonlyused EOR technologies: thermal, chemical and miscible gas".

OPEC & IEA Views
During the forum in Rome, OPEC Secretary-General Abdullah al-Badri of
Libya said uncertainty about the global economy and future world oil
demand, the shift to alternative sources of energy and rising project
costs made it difficult for oil-exporting countries to embark on
expensive capacity expansions. He stressed the need for demand security
in an “increasingly inter-dependent energy world”. He said: “Just likeanyone else, oil producers do not want to invest in capacity that will
not be used. Without the confidence that additional demand for oil will
emerge, and without the market signals that long-run prices aresupportive, the incentive to invest can be affected”.
Iraqi Oil Minister Hussein al-Shahristani said the oil price was not ashigh as it seemed because it was measured in the US dollar, which has
hit record lows against other currencies. Shokri Ghanem, head of Libya‘sstate-owned National Oil Corp (NOC), said: “Prices will have to stayhigh in the long term to encourage exploration and production”.
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IEEJ: May 2008

IEA’s Executive Director Nobuo Tanaka, who was in Riyadh before the Rome
event, was met with silence from an audience at the forum when he asked
if the participants shared his view that crude oil prices were too high.
Acting Deputy Secretary of Energy Jeffrey Kupfer, representing the US at
the forum in the absence of Energy Secretary Sam Bodman, also said crude
oil prices were too high.

The Chávez Experience:
Having spearheaded resource nationalism across the globe in recent years
and having nationalised his country’s oil industry, Venezuelan President
Hugo Chávez is in trouble on the domestic front. He is hoping that a new
expropriation spree will fire up his supporters, at least long enough tokeep his allies from suffering heavy defeats in November's state andmunicipal elections.
In recent weeks Chávez ordered the nationalisation of the foreign-owned
cement industry and the country's biggest steel company. He nationalised
one of Venezuela's biggest milk producers, its largest cold storage anddistribution company and several sugar plantations. It is hard to knowwhether he will get the full political bang he is seeking. His
popularity has fallen steadily since December when voters rejected his
proposed constitutional reform which would have allowed him to standindefinitely for re-election.
If nothing else, the nationalisations will allow Chàvez's government touse cheap milk and cement to bolster his support among Venezuela's poor.
What is certain is that the country's economy will suffer. His aides
have proved they do not have the skill - or the honesty - to run thesebusinesses.
Bungled management is responsible for a decline in production at thestate-owned Petróleos de Venezuela (PDVSA). The expropriations, added to
exchange and price controls, are holding back much needed private
investment. Even high oil prices are not helping. Venezuela has lost
about 1 million b/d of its crude oil and gas liquids production capacity
since late 2002, because of under-investment in and neglect of vitalfields. As in Iran, under-investment in the petroleum sector is causing
structural reservoir problems.
High global food prices and unfettered government spending have pushed
annual inflation in Venezuela well past 20%, as in Iran, while pricecontrols are producing shortages of basic foods. Like his Cuban mentor
Fidel Castro, Chàvez believes what is happening is part of a global
conspiracy emanating from the US.
In 2007, Chávez forced IOCs to give up control of oilfields in eastern
Venezuela, and he nationalised the country's largest telecommunications
company and the power utility serving Caracas. These new expropriations
were another attempt to control all of Venezuela's economic andpolitical life while providing more opportunities for patronage andcorruption.
Venezuela's voters have shown they can see through such manipulations.
Chávez lost last year's referendum because students, business leaders,members of the usually ineffectual opposition and some former supporters
were willing to work together. They have an opportunity to deal anotherblow for the sake of democracy in November's elections. The vast
majority of Venezuela's state governors and mayors are Chávez supporters.
His opponents say that defeating them at the polls would send a clear
message that Venezuelans are truly fed up with Chávez's authoritarian
ways.

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IEEJ: May 2008

The Global Perspective
Jet fuel has become so expensive that four airlines stopped flying inrecent weeks. This is just a part of the global energy picture. It issignalling a profound change in how the world will live - trends which,so far as anyone can predict, will only become more pronounced as energy
supplies dwindle and the global struggle over their allocation
intensifies.
Energy of all sorts was once hugely abundant, making possible theworld’s economic expansion of the past six decades. This expansion
benefited the US above all - along with Europe and the Pacific. Recently,
however, the EEs have sought to participate in this energy bonanza byindustrialising and exporting a wide range of goods. This, in turn, has
led to an unprecedented spurt in global energy consumption - a 47% risein the past 20 years alone.
An increase of this sort would not be a matter of deep anxiety if theworld's primary energy suppliers were capable of producing the needed
fuels. Instead, a marked slowdown in the expansion of global energy
supplies faces a precipitous rise in demand. There is a new world ordercharacterised by fierce international competition for dwindling stocksof oil, natural gas, coal and uranium, as well as by a tidal shift in
power and wealth from energy-deficit regions to energy-surplus ones. In
the process, the lives of everyone will be affected in one way or
another - with poor and middle-class consumers in the energy-deficit
states experiencing the harshest effects.
As recently as 1990, the nations of the OECD consumed about 57% of worldenergy; the Soviet/Warsaw Pact bloc, 14%; and only 29% was left to thedeveloping world. But that ratio is changing: With strong growth in theEEs, a greater proportion of the world's energy is being consumed bythem. By 2010, the developing world's share of energy use is expected toreach 40% and, if current trends persist, 47% by 2030.
China alone is projected to consume 20% of world energy by 2025. If thetrend lines continue, China will then have overtaken the US as theworld's leading energy consumer. India, which in 2004 accounted for 3.4%of world energy use, is projected to reach 4.4% by 2025, while
consumption in other EEs like Brazil, Indonesia, Malaysia, Thailand andTurkey expected to grow as well. These EEs will have to compete with themature economic powers for access to remaining untapped reserves ofexportable energy - in many cases, bought up long ago by the privateenergy firms of the mature powers like ExxonMobil, Shell, BP, Chevron
and Total.
Of necessity, the new contenders have developed a potent strategy forcompeting with the Western IOCs: they have created state-owned IOCs andfashioned strategic alliances with NOCs which now control oil and gas
reserves in many of the major energy-producing nations. China National
Petroleum Corp (CNPC) will collaborate with Gazprom to build pipelinesand deliver Russian gas to China. Sinopec has a JV with Saudi Aramco
exploring for natural gas in Saudi Arabia and will market Saudi crude
oil in China. Several of these state-owned IOCs, including CNPC andIndia's Oil and Natural Gas Corp (ONGC), are set to collaborate withPDVSA in developing extra-heavy oil in the Orinoco belt once controlled
by Chevron.
By most accounts, the global supply of oil will expand for anotherdecade before reaching a peak and beginning to decline, while supplies
of natural gas, coal and uranium will probably grow for another decadeor two before peaking and starting their own fall.
The US Energy Department claims that world oil demand, expected to reach
117.6 million b/d in 2030, will be matched by a supply which could hit-7-

IEEJ: May 2008

117.7 million b/d (including liquids derived from allied substances likenatural gas and Canadian tar sands). But some consider this unrealistic.
Addressing a London oil conference in October 2007, Total CEO Christophe
de Margerie said 100 million b/d “is now in my view an optimistic case”.
World oil demand will continue to grow as hundreds of millions of newlyaffluent Chinese and Indian consumers line up to purchase their firstcar (Tata’s Nano in India now sells for $2,500). Oil super-giant fields
like Ghawar in Saudi Arabia and Canterell in Mexico are in decline or
expected to be so soon.
Ten states have 82.2% of the world's proven oil reserves: Saudi Arabia,
Iran, Iraq, Kuwait, the UAE, Venezuela, Russia, Libya, Kazakhstan and
Nigeria. Three states - Russia, Iran and Qatar - have 55.8% of theworld’s natural gas.
The oil-exporting states will earn more than $1.1 trillion from theimporting countries in 2008. A substantial part of this money has been
deposited in sovereign wealth funds (SWFs), giant investment accounts
owned by the oil states and deployed for the acquisition of valuableassets around the world. In recent months, the SWFs of the GCC have been
taking advantage of the financial crisis in the US to purchase large
stakes in strategic sectors of its economy.
In November 2007, for example, the Abu Dhabi Investment Authority (ADIA)
acquired a $7.5 billion stake in Citigroup, America's largest bankholding company; in January 2008, Citigroup sold an even larger share,
worth $12.5 billion, to the Kuwait Investment Authority (KIA) andseveral other Middle Eastern investors, including Prince Alwaleed ibn
Talal of Saudi Arabia.
The managers of ADIA and KIA insist they do not intend to use their
newly-acquired stakes in Citigroup and other US banks and corporations
to influence US economic or foreign policy. But it is hard to imagine
that a financial shift of this magnitude, which can only gain momentum
in the decades ahead, will not translate into some form of politicalleverage.
Russia has risen from the ashes of the Soviet Union as the world's firstenergy super-power. Russia now is the world's leading supplier ofnatural gas, the second largest supplier of oil and a major producer ofcoal and uranium. Though many of these assets were briefly privatised
during the reign of Boris Yeltsin, Vladimir Putin has brought most ofthem back under state control. He has since used these assets incampaigns to steer policies in Europe, as well as in nearby Central Asia.

Contact: report@tky.ieej.or.jp-8-