Five for Five in 2014
As the year expires and the new year arrives, there are several topics I like to cover in a series of articles. One is to review the top energy stories of the year. Another is to grade my predictions for the year. And finally, I lay out my predictions for the upcoming year.
Usually I have a dilemma of whether to grade my predictions first, or to lay out the energy stories first — because I normally do both stories at the end of the year, and something could potentially happen right at the end of the year that might change the narrative. For example, I might do the top energy stories this week, but what if something monumental happens in the next two weeks? The other option is of course to wait until after the first of the year, but then that delays my predictions.
This year, however, there isn’t much of a dilemma on which story to do first. I can grade my 2014 predictions at this point with a high level of confidence.
I laid out these predictions in a January article called My 2014 Energy Predictions. I generally make five predictions, and outline the context for these predictions. I make predictions that are specific, measurable, and in most cases actionable. My five predictions for 2014 (without the context) were:
- The crude oil export ban will not be lifted in 2014.
- Brent and West Texas Intermediate (WTI) crude prices will average less in 2014 than in 2013.
- The average Henry Hub spot price for natural gas will be higher in 2014 than in 2013.
- US crude oil production will expand for the sixth straight year.
- KiOR will declare bankruptcy in 2014.
So how did I do? Not too bad.
1. The crude oil export ban will not be lifted in 2014.
The U.S. has had a ban on crude oil exports that dates to the the Energy Policy and Conservation Act (EPCA) of 1975. Although there are no restrictions on the export of refined products like gasoline and diesel, crude oil exports to all countries besides Canada are effectively banned. Because of the surge of U.S. crude oil production over the past five years, crude oil producers have been lobbying for the export ban to be lifted. The notion of exporting oil might seem far-fetched given that the U.S. is still a significant net crude oil importer, but there are two factors that have pushed the industry to seek change.
The first is that much of the new oil production is too light for many U.S. refineries. These refineries have been retooled to handle much heavier crudes, so the market for the new oil production in the U.S. isn’t as great as it might appear at first glance. This has led to deep discounts on this crude relative to international markets. Second, the U.S. could at least hypothetically become a net crude oil exporter if the rate at which it has recently been increasing oil production continued for the rest of the decade. (Current U.S. government projections predict a significant slowdown in production growth over that period, a scenario has become much more probable recently with the drop in crude prices.)
Lifting the ban has great support in the oil production industry, but much less so among refiners, who enjoy buying the discounted crude and making fatter margins on the gasoline and diesel they sell. A number of politicians in oil-producing states have sided with the drillers. Energy Secretary Ernest Moniz has also said that the ban should be revisited. Two Republican House members from Texas, Joe Barton and Michael McCaul, have both introduced legislation to lift the ban. In the Senate, Lisa Murkowski (R-Alaska) has pressed the issue.
But the only real chipping away at the ban took place when Pioneer Natural Resources (NYSE: PXD) and Enterprise Product Partners (NYSE: EPD) received a ruling from the Department of Commerce that stabilized condensate is considered to be a refined product rather than crude, and refined products may be exported without running afoul of the crude oil export ban.
So, this prediction was completely correct. Despite a lot of press, the crude export ban remains in place, and it won’t be overturned by year-end.
2. Brent and West Texas Intermediate (WTI) crude prices will average less in 2014 than in 2013.
For the first half of the year, it really looked like I was going to get this one wrong. My reasoning was that the flood of new U.S. oil production that first overwhelmed demand in the U.S. Midwest and resulted in sometimes deep discounts there, and that ultimately worked its way to the Gulf Coast, would continue to push out imports, increasing global oil supplies by displacing oil that the U.S. had been importing. Oil supplies were growing faster than demand for a change, and I felt that had to put downward pressure on prices.
According to the Energy Information Administration (EIA), in 2013 Brent crude averaged $108.56/barrel (bbl), while the average price of WTI was $97.98/bbl. Brent crude did trade down from that price for most of the year, but through the end of July WTI averaged a bit higher at $101.43/bbl. Even though I felt like the oil markets were being irrational, I had to concede that the price would really have to drop a lot in the remaining five months of the year to salvage this prediction. Well, as you know, a funny thing happened. On July 31 the price of WTI dropped below $100/bbl, and the price has been in free-fall since. Recently the price of WTI broke below $60/bbl, a five-year low.
So through Dec. 19th, the average closing price of WTI is now down to $94.42/bbl year-to-date. It is theoretically still possible for me to be wrong on this prediction, but oil would have to return to well above $100/bbl for the rest of the year. That’s not going to happen. The average price of Brent YTD is $101.15, $7.41 below last year’s average. That would also take a miraculous turnaround in price for my prediction to go wrong.
If something crazy happens and oil shoots back up over $100/bbl in the next few days, I will come back and recheck the numbers at the end of the year. But this prediction looks pretty safe at this point.
3. The average Henry Hub spot price for natural gas will be higher in 2014 than in 2013.
I made this prediction on the basis of long-term natural gas fundamentals. A year earlier I also correctly predicted higher natural gas prices for 2013, but natural gas prices can always be overwhelmed in either direction by short-term weather events. In early 2014 that short-term weather event happened to be a series of polar vortices that gave us the coldest winter in many years. So, after averaging $3.73/million British thermal units (MMBtu) in 2013, through Dec. 19th the 2014 average daily close has been $4.41/MMBtu. At this point, this prediction would be correct even if natural gas prices went to zero for the rest of the year.
4. US crude oil production will expand for the sixth straight year.
The 7.4 million barrel per day (bpd) average U.S. oil production in 2013 already represented a nearly 2 million bpd increase over the previous two years, which was the fastest rise in U.S. history. But unless oil prices totally collapsed, I felt like it was a pretty sure bet that we would again see another decent advance in U.S. oil production. The final monthly numbers aren’t published until two to three months after the fact, but through September U.S. oil production has averaged 8.4 million bpd in 2014, and each month had higher production than the previous month. In order for this prediction to be wrong, the final three months of the year would have to come in at 4.2 million bpd. Production may pull back a bit as a result of the plunge in oil prices, but it won’t pull back that far, that rapidly. This prediction is safe.
5. KiOR will declare bankruptcy in 2014.
KiOR — which had traded on the Nasdaq as KIOR — was one of three advanced biofuel companies that venture capitalist Vinod Khosla took public in 2011. I was a vocal critic of the frequent overpromises of the company because I understand the technical challenges of their approach, and many of their claims didn’t ring true with me. And despite the rosy promises, the company consistently failed to deliver on its promises to investors. KiOR was a central topic in a 60 Minutes report in January — The Cleantech Crash — in which Lesley Stahl interviewed Vinod Khosla and me. Khosla poured on more pie-in-the-sky and claimed there was no downside to the technology, while I laid out the technical and economical challenges that the company faced, and said that Khosla was over his head in the advanced biofuels business.
The interview actually took place in November 2013, and I told Lesley Stahl then that the company was destined for bankruptcy. That comment didn’t make it on air, but I made the prediction official in a column in January 2014.
I did warn on several occasions that Khosla had his credibility really on the line after previous failures in this space, and he was likely to throw the company a lifeline for a while. But I reasoned that his patience would wear out before year end. Indeed, the company was essentially out of money in April, but Khosla loaned them enough money to get them into fall. And with no real prospects of getting the plant operating properly and producing cost-competitive fuel, Khosla did in fact lose patience and stopped loaning them money. KiOR was delisted from the Nasdaq, and declared Chapter 11 on Nov. 9 after accumulating losses of $629.3 million and revenues of just $2.25 million. The loss for equity investors was total.
Barring some really spectacular events in the oil markets, this year I will be 5 for 5 on my predictions. To be clear, that’s pretty unusual. There are just so many variables in the energy markets, that it is a real challenge to be consistently correct on the direction of prices. This is why I strive to provide a lot of context around my predictions. If market conditions start to change, investors can adjust accordingly. For example, if I predict lower oil prices, but then OPEC slashes production in the middle of the year — you need to understand in that context that prices are probably headed higher, despite my prediction.
Predicting 2015 is going to be a bigger challenge, with much more uncertainty. Nevertheless, I will soon attempt it.
Link to Original Article: Five for Five in 2014