While doing some research into the oil gluts of the late 1980s and 1990s, NPN staff came across a Time Magazine article from Aug. 1, 1987, that predicted subsequent and current oil shocks as a result of “cheap” oil and human behavior. Energy analyst Peter Beutel provided some strong insight into this phenomenon so NPN contacted him for an update. NPN Magazine last interviewed Beutel in 2005 over the disruptions related to Hurricane Katrina.
Beutel is president of Cameron Hanover, an energy risk management firm established in 1994, author of “Surviving Energy Prices,” and is a frequent guest on CNBC, Bloomberg, Fox Business Network and the major networks. He is a frequent guest on many radio stations as well as being quoted regularly by Dow Jones, Bloomberg, Reuters, The New York Times, The Wall Street Journal and local newspapers throughout the world. He also edits Cameron Hanover’s “Daily Energy Hedger” and works with producers and consumers of energy across the United States.
NPN: You were quoted in that Time Magazine article in the late 1980s stating: “We were caught napping twice. We would have to be extraordinarily foolish to fall into the same trap again.” So just how foolish have we been?
Beutel: It is just really amazing to watch history repeat itself again and again and again. Prior to that article we had the Arab oil embargo and the Iranian hostage event. The funny thing is, since 1987 we’ve had the run-up of the first Iraq war, then prices sold off again and they’ve gone higher now; so we’ve actually had two other shocks since then. So this is number four in the series and we never learn. And what’s even funnier, though it’s really not that funny, is that OPEC — by letting prices get this high — has sealed its doom in my opinion. There is basically going to be a period where nobody is going to want their oil, and they’re going to be in a lot of trouble.
Very, very low prices create a lot of new demand and it discourages supply. Very high prices encourage supply while discouraging demand, and neither side really seems to learn this lesson. You have the consuming nations on one side of this teeter totter and the producing nations on the other, and we simply alternate which side is up in the air. In 20 years I’ve now come to the point to where (I believe) we’re going to keep going through it until the end of time.
NPN: What were the drivers behind the very low prices we saw throughout the 1990s?
Beutel: That was driven by the very high prices of the 1970s, then the high prices of the early 1990s. We saw prices in June of 1990 at $15 per barrel and then by October (with the Gulf War) they were at $41 per barrel. Even though a lot of people knew that price was an aberration, a lot of the producers hedged it forward for a number of years to make producing oil profitable. So as the price droped back down to $20 and then $15 and $10 per barrel that had already sold oil at a $30, $35, $40 per barrel.
But the decision now, having taken five years to get here (to our current shock), is far more complicated. A lot of people have convinced themselves that $100 per barrel is going to be the norm. And now you have Goldman Sachs out there saying that $150 or $200 per barrel and apparently there is nothing stopping you from going to any of those numbers. They may be right. But, it’s not going to stay. If we go to $200, even that isn’t going to stay there very long, and if we look back at this entire period, we are going to be able to take the number of days we saw prices over $80 and it will be a very small slice of this period of time in which we’ve used hydrocarbons.
NPN: If you look at these periods of oil glut and shortage is one more the “rule” and the other “the exception to the rule” as a basis for the world oil market?
Beutel: I don’t know that one is the rule or that one is the exception—I see them both as cause and effect. If prices were to stay a more normal level then they would stay there for a much longer period of time. In other words, you have two choices. You go down to $10 per barrel and then you go up to, well, $110 per barrel or maybe $50 or $60 and then you go back to $10 per barrel, and it’s very painful for everybody when you go to these extremes. If you were to have something where it was $18 per barrel or $22 or $25 — any reasonable number — then it would probably stay there for a period of time, but markets are not built like that. They love going to extremes.
And people love reacting to those extremes. They love buying new muscle cars and SUVs when gasoline prices are dirt cheap. In Detroit they learned all these new lessons in the 1970s, but they are more than willing to respond to the consumer during low oil prices.
NPN: How long do you anticipate our current $100 per barrel price point being around, and if it does drive back to a more stable, lower level what might be a reasonable expectation?
Beutel: It’s not really going to stabilize, but at some point, and maybe we just saw it, it will turn around and keep dropping for four to eight years until it reaches some ridiculously low number. And then everybody’s going to be taking a look at their hybrids and start saying, “hey, I don’t need this anymore.” And some of the alternative energies that we’re looking at now will not be productive anymore because (those producers) will not have hedged and will not have “sold” oil at $100 so that they could make money on it.
Oil needs to be sold at a certain price point for some of these technologies to succeed, and they have the opportunity here to lock-in that high oil number for five to six years down the road. I hope that some of them are doing exactly that. If they’re not doing it with futures, at least they could be doing it with put options because it could mean the difference between them staying in business or not being in business. For example, to turn tar sands into the oil you need an effective price of over $50 to a $60 per barrel and right now at $100 you can make $40 per barrel on it. They need to take 10 of those dollars to hedge the $100 five years into the future so that they can maintain that profitability because it probably won’t be there four to five years from now.
NPN: There is currently a big push throughout the industry in regard to closing the “Enron loophole.” This being additional oversight on some of the less transparent exchanges operating internationally. What is your opinion on this issue?
Beutel: I actually agree with this. I don’t see why every single financial instrument should not be regulated to the same degree that the NYMEX is. The thing that is so frightening about some of these financial instruments is that we do not know who has what, where. I think that is one of the reasons that we’ve had this whole credit meltdown.
I think that the NYMEX rules are liberal enough for the most tried and true capitalists, and they’re pretty much the same that we’ve had for a hundred years in exchanges throughout America. They were, for the most part, invented in the 1890s and have been perfected over time, so I tend to feel that they are good rules and that they prevent strange things from occurring.
If you have derivative instruments and no one knows who is using them and what they are using them for, then you do get the potential for manipulation by countries producing oil. So, I tend to think that closing the Enron loophole is a good idea and we are probably going to see that happen at some point. I believe that there are enough people who are of every political leaning and of diverse opinions on the issue who feel that it’s a wise thing to do. Just do it the way it’s done on the NYMEX and I don’t think you need anything more than that.
NPN: What is the impact of our devalued dollar on current oil prices?
Beutel: That’s actually responsible for the last $30 — the difference between $79 and $111 per barrel.
NPN: If I’m a petroleum marketer up to, say, a reasonably sized wholesaler, what should my petroleum purchasing and risk management strategy be today?
Beutel: I certainly wouldn’t tell a marketer to lock in prices at these levels right now, though maybe we’d be foolish and they could go even higher. But, the people who are producing it are locking in these very high prices and they’re the ones that really need to be taking advantage of this right now.
When we do get back to low prices, there are mechanisms you can use to lock in those prices for up to 10 years. At that point I’d really like to see major users, like the airlines and petroleum marketers and heating oil distributors, turn around and say, “hey wait a minute, remember what happened,” and go ahead and hedge everything they can for as long as they can. And this is probably four to eight years from now, or from the top — whenever we get there — and I think were pretty close.
NPN: Exactly what type of drop might we see four to eight years from now?
Beutel: The only piece of information informing me as to how low we can go is this mantra I have written in grease paint on my mirror so I don’t forget it every day when I shave (laughter). The oil markets always go further than any of us dare predict. So my guess is, if I say $20 per barrel, it will go below that. If I say $15, it will go below that. If I say $10, it will go below that (laughter). I don’t know, but I do know this: whatever number we reach it will be so low that people will absolutely freak out, and it will be low enough to put some production out of business and encourage demand that ought not to be encouraged.