Investing in view of the Export Land Model

A few weeks ago, Erik Townsend, a previous frequent contributor at Chris Martensen’s and at Jim Puplava's websites, released a pair of videos titled, Peak Oil Explained for Investors (video 1 of 2) and  Peak Oil Speculative Trading Strategies (video 2 of 2).

Part 1 gives a nice introduction to the concept of peak oil, common misconceptions, and Erik’s perspective on why a number alternative means of generating energy will likely, at least in the short term, fall short.  Part 2 discusses possible speculative investment scenarios that can take advantage of the present market under pricing of oil, including taking advantage of price up or down turns in or investing in alternative energy industries.  Some of the investment schemes Erik describes are quite complex and would only be suitable for advanced professional investors, but other could be used by any investor.  I would highly recommend watching both these videos, even if you are not an investor type.  The videos are completely free and Erik is not selling anything. 

You can watch the videos at Erik’s website or download the higher quality MPEG4 video files.  If you do decide to download them, be warned that these are big files.  Also, if you have an older computer, like mine, you might have trouble playing them.  I found that the freely available VLC media player worked well for this purpose.

Erik’s presentations caused me to think, in a new light, about my previous articles about the Export Land Model analysis for the USA and the earlier supporting article on the production and consumption trends for the USA’s top ten export sources. 

If there few people that understand the implications of peak oil, then even fewer understand the implications of declining oil exports.   Global oil exports will likely decline at an even faster rate than post-peak oil production rates decline.  An exporting country’s declining net exports can be due to one or both of declining oil production rates and increasing domestic consumption.  A combination of declining production rates and increasing consumption rates means that the rate of decline in exports will be the sum of these two rates. 

I didn’t find much on the internet discussing implications of the Export Land Model on investing.  I only found one article by David Galland, What the Export Land Model Means for Energy Prices (guess what, they go up).  While this article nicely explains what the export land model is, in my opinion, it falls short by not considering how declining net exports will specifically affect the economies of different countries depending on what type of oil importer or oil exporter they are.

I believe that the Export Land Model analysis could be useful in predicting how different countries will fare in the face of zero net export.  This might create some interesting investment ideas, which I briefly explore below, for five different classes of countries:

Net petroleum exporters with no end in sight.

Canada and Brazil are examples of countries with increasing production and signs of flat or declining domestic consumption going forward.  I therefore expect exports from these countries to increase in the coming years, and this should greatly benefit their economies in general, and in the petroleum sector in particular.  Especially if the price of oil spikes, these country’s economies would boom. Moreover, both of these countries are stable politically as compared to a number of other exporting nations, and therefore, stable oil production is more reliable. 

One problem with Canada is that it's economy is so closely tied to the USA's; if the USA goes into a recession or depression, then so will Canada's.  It's energy sector might stay strong, so long as the government doesn't tax it too heavily.

Present small exporters with a large speculative upside potential in production

Angola  and Iraq are examples of countries with low domestic consumption and the potential for spectacularly large increases in production over present production rates—160% for Angola and 400-500% for Iraq compared to present levels. 

I class this upside as speculative because there are real risks of civil war in both of these countries.  Additionally, for the production rate increase to be realized in the next 5-15 years there have to be sustained large year-over-year increases in the production rate (20-30%.yr), which I think will be challenging to pull off in such politically unstable countries. 

Present exporters rapidly headed towards ex-exporter status

There are several present exporters that I would put in this class, and based on my modeling, I can make an estimate of the year when they will transition from being a net exporter to ex-exporters:  Mexico (2014), Venezuela (2022), Saudi Arabia, Russia (both 2023), Algeria (2030),  and Nigeria (2039).  With the exception of Russia, which I expect to have flat to declining consumption going forwards, these are countries with both declining production and increasing consumption rates.  

I predict troubles ahead for countries like Mexico and Venezuela that are just few years away from hitting zero net exports and whose domestic economies are heavily dependent on income from the oil industry.  I would avoid investing in these countries, unless there is some way of shorting domestic industries or foreign industries that are heavily dependent on continued oil imports from these countries.  One possible negative play would be those Caribbean refineries that import Venezuela’s and Mexico’s oil and then re-export it to the USA. 

I have the same concern with Russia and Saudi Arabia.  Maybe new oil production technologies and new arctic oil drilling will allow Saudi Arabia and Russia, respectively, to delay the time of net zero exports, but I would like to see more evidence of a changing trend in exports, before I believe it. 

Net importers that still have significant domestic production

The USA, UK and China are all examples of many countries that are not totally reliant on petroleum exports and therefore could still carry on if (when) global net exports reaches zero.  If these countries could no longer import petroleum, I predict that the extent of the decline in their economies (% decline in GDP) would be roughly proportional the ensuing relative decrease in petroleum consumption (% decline in dQ/dt).

I wrote more about this here in the context of the USA, but the principle is probably generally applicable. 

For instance, for the USA if because of falling imports, petroleum consumption decreases by 40% (see Figure 3 here) then I think that the GDP would decline in proportion. 

The economies of these countries will be hurt badly by net zero exports, but it would not be a total economic collapse for them.  However, to the extent that most of the OECD countries in the world fall into this class, the size of economic contraction would set off a world-wide recession that would probably last several years as populations adapt to the new realities of decreased oil consumption.  

Countries totally reliant on petroleum imports
As I pointed out here, Japan and South Korea are examples of countries that import nearly all of their petroleum, and have no significant domestic production.  Net exports going to zero should scare the hell out of the governments and population in these, and similarly import-dependent, countries. 

There are signs that Japan is aware of the economic threat of a short term disruption in exports (see Japan’s 2010 Annual Report on Energy noting Japan’s high dependency on oil passing through transportation choke points).  Japan appears to be moving to nuclear energy, to mitigate their dependency on oil, with plans to nine new nuclear power plants by 2020 and more than 14 by 2030, although I think that this will be too little too late.  I don’t find similar signs of an awakening from South Korea. 

Net zero exports would devastate the economies of these types of countries, in my opinion.  And a simultaneous recession in the other OECD countries would make it worse, because Japan’s and S Korea’s exports of manufactured goods would also get hammered.  I imagine Japan and South Korea having to adapt in the same manner as in the "special period" of Cuba when, after the Soviet Union collapsed, Cuba's petroleum imports dropped ninety percent.  It will probably be worse for Japan and Korea, in that Cuba actually produces some oil domestically.  For instance, using EIA data, Cuba produces more petroleum than Japan and S Korea combined but consumes less than 1/20 and 1/10 that of Japan and S Korea, respectively.  Moreover, after the shock, Cuba was able to import oil from another source: Venezuela.  In 2009 Venezuela exported about 100,000 bpd to Cuba at a discounted price (see Venezuela's Oil-Based Economy).  Japan and South Korea may not be so fortunate in a time of net zero exports.  

Then we have the issue of North Korea.  North Korea's traditional oil import sources from Soviet Union/Russia, China and Iran have been in steady decline for over a decade, as has its domestic coal production (Economy of North Korea; N. Korea's shrinking oil imports reflect economic hardships).  I expect that at some point this energy choke will spell war between North and South Korea, or more hopefully, regime change in the North.  But then South Korea will inherit the energy mess. 

And what about other less developed countries that are totally dependent on imported oil with no domestic production?  Other than Cuba's special period I do not have an example to give, but I’m sure there are many.  I would not want to be invested in (or maybe even located in) an underdeveloped country that is also totally dependent on oil imports when global net exports go to zero.