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Worldwide demand for oil affects bottom line

Last week we discussed the supply side of crude oil and the implications certain supply/production restrictions might have on the price of crude. This week we are going drill down into U.S. and worldwide demand for oil and how that might affect the bottom line of your operation.

Before we start in on demand, it bears mentioning that on Jan. 3, the Bureau of Ocean Energy Management, Regulation and Enforcement, formally the Minerals Management Service, notified 13 companies whose deepwater drilling activities were suspended by last year's drilling moratorium that they may resume drilling without having to submit revised plans for those wells. Before resuming activities the companies must comply with the bureau's new policies and regulations. We believe this is a step in the right direction to allow for companies that have invested large sums of money into exploration wells to complete the drilling and testing for potential new discoveries. A company we work closely with was drilling one of the wells that were put on hold. The well had to be capped and the drilling rig moved to shore at the well owner's expense even though the well was within 14 days of reaching final depth. The expense to move the rig back on site and open the well back up will also be a cost burdened on the well owner. Although we all understand the environmental impact last year's spill caused, the blanket moratorium on all activities seems to have inflicted unnecessary pain that could have been avoided using common sense.

Now on to demand. As we discussed two weeks ago, the United States enjoys a robust and stable supply of natural gas within our borders and our control. A dynamic and growing infrastructure allows for consistent and economical delivery of the gas to its consumers. Oil, however, is a different commodity--one that the United States must compete for each day on a global basis. The US consumes 18.8 million barrels of oil each day but only produces 5.4 million barrels each day. Obviously this creates an import-driven model to meet our energy needs. Until recently, the United States was also one of the largest and fastest growing economies in the world with the largest appetite for crude oil. Countries had no choice but to sell oil to the U.S. as its currency and political environment provided great stability. Things have changed.

Today the U.S. is not the only large growing country that demands massive amounts of crude oil to provide for its industry and citizens. China and India continue to increase their appetite for oil. In 2005 China consumed 6.6 million barrels per day and in 2009 it had increased to 8.2 million barrels per day. India consumed 2.5 million barrels per day in 2005 and 3.1 million barrels per day in 2009. Both countries do produce oil, but both have become net importers of oil over the last decade. In fact China is destined become the second largest importer of oil in the next few years. (It may well have been in 2010.) Japan is currently the second largest importer of oil but only by a small margin over China (source: U.S. Energy Information Administration).

These are just two of the larger countries that compete in the open market for crude oil. Many smaller, third-world countries are increasing their demand for oil and all estimates are for demand for oil to increase.

Obviously the worldwide downturn in most economies slowed demand for oil over the last few years, but those numbers are starting to reverse themselves ever so slowly. It appears that world demand for oil is on its way up as is being reflected in the price of a barrel of crude oil.

Agvisors continues to see world demand driving up the price of oil and the current fiscal policies of the U.S. adding to the decline of the U.S. dollar, which will in turn increase the price of oil. As smaller countries' economies continue to expand, as well as the United States' economy, worldwide demand is going to continue to grow at a pace higher than production or supply can satisfy. Gasoline, diesel fuel, heating oil, motor oil, and all oil-based products will feel the effects of increased prices while the profit margin of your business may feel the negative effects.

The United States cannot "drill" itself out of this problem. We don't have the reserves to meet demand. It can open more areas for exploration in safe and efficient ways. Doing so will allow for increased safety measures and improved technologies as the capital markets seek profits, and this may help ease the pain but will not solve the problem. Additional efforts can be made to produce more efficient operations, which will no doubt happen if long-term prices continue to migrate upward and stay there. These ideas are all "macro" ideas that will take time to filter their way down to the end producer. So what can you do?

Conservation is always recommended. The world has a finite supply of fossil fuels. Once it's gone, it's gone. Conserving energy will decrease your dependence on oil-based products. Converting some of your energy consumption to natural gas or its refined products may provide relief from rising crude oil prices. You can also develop hedging strategies to offset the rising costs of inputs in your operation.

The bottom line is this: Cheap oil is going to be a thing of the past sooner rather than later. Demand is pushing production and supply chains to their limits today. In 10 years the expected demand for oil will exceed 25 million barrels per day in the U.S. while our production per day is expected to decrease. Knowing this--how will you implement new energy strategies in your business to remain profitable?

Editor's note: Agvisors provides commentary about agricultural markets, including grain, dairy, livestock, equities, financials, and energy, highlighted by a live weekly webinar discussing conditions and responding to questions. For more information, visit http://agvisors.com.

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