This is Big – and Full of Energy

We often refer to this motto: “Focus on things that matter and things you can control.”

Today, we want to focus on something different, something which matters a lot, but which we have no direct control over: the long term trend towards much cheaper oil and gas.

Sometimes you may not realize when a broad and important trend has begun or is occurring. Increased knowledge provides you with greater clarity, which results in more confidence about the future.

We want to emphasize the importance of the energy revolution which is occurring through the technological breakthroughs of fracking and horizontal drilling. This is likely one of the great societal changes of our time, similar to the changes which have come from the microprocessor.

Horizontal drilling and hydraulic fracturing (fracking) have increased U.S. crude oil production by 3.6 million barrels a DAY in less than four years. This has resulted in a crash in oil prices, even though oil demand has remained very strong, both in the U.S. and worldwide.**

Three years ago, the price of oil was around $88 per barrel. Last July, oil was $96 per barrel. Today, and through much of 2015, oil has traded at $60 or below, and is now around $52-53 per barrel.10 Year price of oil chart through 010615

We think the long term trend for oil prices is to remain near the $50-60 per barrel range, or go even lower.

There may be volatility and swings in either direction, as demand and supply adjust. As compared to oil prices of the past, the long term trend should be lower, not higher.

What has caused the huge oil price decline?

The technological advances in fracking and hydraulic drilling has resulted in the huge decline in oil prices. The operators have reported “they can produce more profitably today at a price of $65 a barrel than they could at $95 a barrel three years ago… Where can they be profitable three years hence – $40 a barrel? $30? The oil patch today is afire with the same technological imperative and competitive mission that has powered the U.S. electronics revolution – think Moore’s Law – to dash headlong down the learning curve, crushing costs and prices and making up for it in volume.” **

The U.S. and the world are no longer subject to the OPEC cartel controlling oil prices. The frackers are using “just-in-time” production. OPEC cannot simply withhold supply, as that would cause prices to increase. Frackers would quickly react by investing and increasing drilling and production of new and existing wells. Oil production is no longer dependent on multi-billion investments with many years of lead time. And as productivity and innovation increase, which they are quickly throughout the world, the cost of oil production will go lower.

Why is this important to you and your financial future?

This long term trend toward much lower oil prices has many significant benefits for each of us, as well as corporations and governments throughout the world. Some of the benefits are:

  • Costs will be greatly reduced. The cost of gasoline will be less. Transportation costs of materials and parts will be less, increasing corporate profits and reducing the rate of inflation.
  • Government spending will be less than if oil prices were higher. Just imagine how much gas and oil products the U.S. Government and military utilizes. The more they save, the less they spend (or borrow).
  • The lower the cost of oil, the lower the rate of inflation. If inflation is lower, than interest rates will remain low. The Federal Reserve has stated that one factor in keeping interest rates low is that inflation is below their 2% target rate.
  • Interest rates’ remaining low by historical standards helps to improve corporate profits, lowers the cost of borrowing, and encourages economic investments, all which are positive for world-wide stock markets.

Conclusion

Daniel Yergin is one of the world’s foremost energy experts. He is a Pulitzer Prize winning author of many books, including his 2011 book on energy, The Quest. In this book, written only four-five years ago, Yergin significantly underestimated how quickly fracking and horizontal drilling would have on the supply of energy. While I highly recommend this lengthy book, it is clear that technological change can occur faster than even a top expert can anticipate.The Quest book cover

Yergin concludes The Quest with these thoughts on energy and technological innovation:

“It…is the search for knowledge, which advances technology and promotes innovation… What has been accomplished since could not possibly have been imagined. The challenges of meeting rising energy needs in the decades ahead, of assuring that the resources are available on a sustainable basis to support a growing world, may seem daunting; and, indeed, when one considers the scale, they truly are… But what provides for reasoned confidence is the increasing availability of what may be the most important resource of all—human creativity.

A famous geologist once said, “Oil is found in the minds of men.” We can amend that to say that the energy solutions for the twenty-first century will be found in the minds of people around the world. And that resource base is growing. The globalization of demand may be shaping tomorrows needs. But it is accompanied by a globalization of innovation. The generation of knowledge and the application of science have increasingly become a worldwide endeavor; and the links and interactions, amplified by ever-widening information and communications systems, multiply the speed and impact of what can be accomplished. This means that the resource base of knowledge and creativity is expanding. This will fuel the insight and ingenuity that will find the new solutions…That is at the heart of the quest, it is as much about the human spirit as it is about technology, and that is why this is a quest that will never end.”***

So instead of worrying about the Greek debt problems, let’s focus on the positives of the technological advances our society has made. Then keep focused on your goals and personal financial plan.

P.S. If you want to see a great sketch by Carl Richards on the Greece issue and you, click here.

Sources:

**The Shale Boom Shifts into Higher Gear, by Donald Luskin and Michael Warren, WSJ, May 31, 2015

***The Quest, by Daniel Yergin, 2011, The Penguin Press.

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