Oil Mania ?  

Posted by Big Gav

The local investment community is starting to wake up to Peak Oil (the ones who haven't already piled into energy stocks that is) - maybe the price breaking the $57 mark gave them a clue.

Unsurprisingly, given the publicity campaign we've seen about uranium and nuclear energy, Australia is now negotiating with China to start uranium sales. This has done wonders for the ERA and BHP share prices this morning, but Paladin went nowhere (presumably because their mine is offshore). Apparently our repulsive foreign minister has been heard to gloat lately that Australia will be the Saudi Arabia of the new nuclear age. If thats so why has he been so gleeful about depriving the East Timorese of their fair share of Timor sea oil and gas - does he just like being evil for the sake of it, or is he aware of peak oil (and gas) ?

Henry Thornton also has some comments about uranium and China's expanding nuclear industry.

The other matter not fully being considered by many investors are implications of Kyoto. For a company with over 30% of known uranium reserves the Kyoto Protocol was an important event.

As of March 7th, 2005, 70 countries have ratified the Kyoto Protocol. This list includes Austria, Belgium, Brazil, Canada, Chile, Finland, Germany, Greece, Israel, Italy, Malaysia, Mexico, Netherlands, Norway, Philippines, Russia, South Korea, Spain, Sweden, Switzerland, Thailand, Ukraine, United Kingdom, Uzbekistan and Vietnam. Just think, none of these countries will probably ever build another copper or lead smelter and that’s just for starters.

China has approved Kyoto but is a long way from ratification. If China did move up the scale to ratification it would need to massively increase the nuclear program. In any event many of the countries seem unable to adhere to Kyoto without recourse to nuclear power programs. Strong demand growth for uranium is assured and even the green movement will need embrace nuclear power if their emission targets are going to be met. The only noticeable countries that have not ratified Kyoto are Australia and the USA. BHPB clearly thought about these and other issues. The fact that WMR's Olympic Dam hosts over one third of known uranium reserves made WMR an attractive asset. There are always risks and one of these relates to new discoveries. For instance, there are occurrences of uranium in Brazil but the extent and grade of mineralisation is yet to be determined.

The same article had this warning (after some tedious explanation of raw material inventories and processing capacity):

The current state of play for the US is for an economy well past peak acceleration with raw material industries operating at or close to capacity. Demand relative to supply is falling and this is causing inventories to rise. The internal supply of raw materials cannot and will not meet demand without a massive fall in the standard of living. Competition for available supply of raw materials between the US, China, India and other emerging economies will rise resulting in international tension.

And lastly this note on inflation (something a lot of commentators seem to be ignoring - it appears modern economists only worry about wage inflation, not inflation in goods, services and assets):

Last a word on commodity prices. Price hikes of 71½% for iron ore have been headline news along with bigger rises for coking coal. What about other metals, excluding LME base metals? From the start of 2004 and up until about a week ago, the geometric mean rise for 16 other metals was 62.7%. The metals in this list are antimony, bismuth, cadmium, cobalt, columbium, ferro-chrome, ferro-manganese, germanium, indium, molybdenum, rhenium, ruthium, stainless 304, tantalite, tungsten and vanadium. Vanadium pentoxide recorded the biggest price hike of 275% and rhenium metal fared worst with a fall of 7%. The geometric mean for annual increases in the prices of iron ore and coking coal is 85.9%. As a group LME base metals performed poorly recording a geometric mean of 26%, ranging between -3% for nickel and +43% for copper. Huge annual gains in metal prices and oil holding well above US$50/b is surely indicative of a boom and there is probably only two or maybe three of these in a lifetime. These price hikes will eventually get reflected in the price of goods. With inflation will come higher interest rates.

This graph is an interesting comparison of commodity prices in real versus nominal terms - you can see the previous oil price shocks quite clearly - but the recent oil price rise has barely had any impact at all when viewed from a historical perspective.

I guess there are a number of ways you could look at the future:

1. We're in a commodities "super cycle" and then real cost of commodities is due for a structural increase as India and China industrialise and availability of commodities is constrained due to capacity limitations and resource depletion.

2. The commodities boom will bust as the impact of higher (and continuously rising) energy prices kills off global economic growth.

3. Resource constraints evaporate as more supply is bought online and real commodities prices resume their long term downward trend.

From a peak energy point of view option 2 is the most likely - though I'm kind of hoping we get option 1 - at least for a few years (in the meantime working on energy efficiency and cleaner energy sources). Option 3 is probably what most economists believe will happen.

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