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Wealth Creation: Creativity Beats Oil

 By Shlomo Maital

  

A brilliant long-view analysis of capital markets is provided  by the New York Times (Karl Russell)..   The graph above shows “years publicly traded since 1926” on the X axis, and “total wealth creation since 1926” on the Y axis. The area of the circle shows the annualized stock return (capital gains and dividends). So this lovely graph shows us 3 pieces of information in two dimensions.

   The 90-year old companies are mainly resource-based (oil, e.g. Exxon, Conoco, ), consumer products (Pepsi) and Pharma.

     The newer companies are high-tech and digital.  

     Most striking:   Apple has, in 2017, overtaken Exxon as a wealth creator, even though it is half Exxon’s age. This is because of Apple’s astonishing 30% +   annual return.   And Microsoft has created more wealth than, say, General Electric or IBM, with over 40% annual return.   The tech stocks (the fat circles) have generated much higher annual returns than the traditional old-line companies (fairly slim circles).

       What this means for individuals, companies, small businesses, and whole countries, is simple.   The digital revolution is real. If you haven’t got on board yet, you’ve missed the boat. But maybe it’s not too late.   If your country is still resource-based (oil nations, like Russia, Chad, Gulf States, Iran), you are out to lunch. Your leadership has be asleep.  

       What will this graph look like ten years hence? Fifty years hence?   I’d give a lot to know. 

    

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U.S. Has More Oil Than Saudi Arabia

By Shlomo Maital

oil

A Financial Times report today claims that for the first time, proven oil reserves in the United States exceed those in Saudi Arabia (and Russia).

     The US holds more oil reserves than Saudi Arabia and Russia, the first time it has surpassed those held by the world’s biggest exporting nations, according to a new study. Rystad Energy estimates recoverable oil in the US from existing fields, discoveries and yet undiscovered areas amounts to 264bn barrels. The figure surpasses Saudi Arabia’s 212bn and Russia’s 256bn in reserves.

Not surprisingly, Texas has almost a quarter of those 264 billlion barrels; Texas oil wealth will thus continue. According to the report, “three years ago the US was behind Russia, Canada and Saudi Arabia. ….More than half of the US’s remaining oil reserves are in unconventional shale oil.”

   What does this finding mean? First, at last, the decline of Saudi geopolitical influence. Saudi money has financed worldwide Wahabi Islam, an extreme form of Islam that has at times ‘inspired’ bad guys, as in 9/11. The Saudis may now have to keep more of their money at home, and already have issued an ambitious plan for weaning Saudi Arabia from oil, after its former oil minister purposely flooded the market, bashed the price of oil to historic lows – and was fired.

   Second, greater energy independence of the United States, and hence less pandering to oil-rich Mideast nations. And perhaps, less geopolitical influence on the part of Russia. Both Russia and Saudi Arabia have not been forces for good in the global arena, in the past.

   Those who have written off American global leadership, under a weak Obama administration, may have to think again. Oil and geopolitics are close syblings. One qualification, however. U.S. shale oil costs a lot to recover, perhaps as much as $50 /bbl. Saudi oil has a marginal production cost of just a few dollars, as it is pumped easily out of the desert sand. So Saudi still holds a few Trump cards.

Cheap Oil: Why Is It Bad News?

By Shlomo Maital

 cheap oil

 

   All too often, economic analysis seems to many like a good news/bad news joke. No economic news is ever completely happy, is it?   Take for instance oil prices. The price of oil has fallen below $30, and with Iran about to add millions of barrels to the excess supply every day, it looks like the price of oil will remain low for some time.  

   So this is good news, right? Cheaper gasoline, more discretionary income to spend, cheaper energy prices, and indirectly, cheaper goods and services… all good news. Because, when the past oil shocks (1973/4, 1978/9) zapped oil prices way up, the result was recession. So the opposite should cause…boom?   Right?

   If so, then why have global financial markets reacted very negatively to the oil price fall. Why is the rule of thumb – a 10 % fall in oil prices boosts GDP growth by 0.1 to 0.5 points – not longer true?   Why have global stocks fallen sharply?

   Note that the cause of the current oil glut is clear – Saudi Arabia. Its Minister of Oil (acting under the aegis of King Salman, young and highly pro-active) chose to take on Saudi’s enemies, Iran and to some degree Russia, by engaging in an oil price war and bashing prices down. Saudi Arabia can do this, because it is by far the world’s low cost oil producer. It can still make money when oil is $30, unlike Russia, Iran and most other nations. And $30 oil can kill a lot of American oil production, through fracking, and reduce competition in the long run.  Saudi Arabia though is suffering too, and the Oil Minister may yet lose his job.

   Collapsing oil prices seem to be taken by the world as bad news, not good, because: * they will increase instability in an already unstable world, in countries like Venezuela and the Gulf States; * oil producers are slashing their spending and investment, especially Russia, as oil revenues collapse; * many investment projects involving energy exploration are now on hold; * emerging market corporate debt of an added $650 billion was in oil and commodity industries; that debt is now much more risky; * Higher risk aversion to energy firms has spread to other parts of the market and other industries as well. * real interest rates are at near zero and there is no room to slash them lower.

     There are some winners. E.g., India, China, South Korea. But, notes The Economist, with the world still trying to dig itself out of the 2008 financial crisis hole, “the world could yet be laid low by an oil monster on the prowl.”

The most distressing aspect of the fall in global equities, due to cheap oil, is that it signals who really matters in the world. Big Oil, big capital, tycoons, the 0.01 per cent…THEY matter and they are the ones who are hurting. The rest of us 99.99?  Well, we benefit from lower oil prices… but since we are not players in global money, we don’t really count. 

How the U.S. Govt. Helped Smash the Oil Cartel

By Shlomo Maital

oil

With the price of oil below $50, and likely to remain low for quite some time, with $100 oil unlikely to return,  it is interesting to discover why.  The main reason?  America is now the world’s biggest oil producer, topping Saudi Arabia, because of fracking and frantic drilling – and the Saudis choose not to fall on their swords and slash their production.  

    But WHY has America been able to produce so much oil?  The answer is in Eduardo Porter’s piece in today’s Global New York Times (“Behind drop in oil prices, the hand of Washington”).  It is:   U.S. government policy and funding, dating back to Nixon, Reagan and the elder Bush.     “Facing years of a broad energy shortage, in the shadow of an embargo by Arab oil producers [in 1973], Nixon..and Congress laid the foundation of an industrial policy that over …four decades developed the technologies needed to unleash American shale oil and natural gas onto world markets”.    Porter cites a scholar who notes, “public investments in technology innovation [e.g. energy] can bring a huge benefit for both the economy and the environment”.

    Congress approved the Prudhoe pipeline from Alaska just weeks after the Arab embargo.   The 1974 Energy Act, creating the Dept. of Energy, kick-started a period of heavy government investment in R&D to recover gas from shale. This agency provided the funds to develop ‘horizontal drilling’ and polycrystalline diamond compact bits to cut through the shale, and performed the first big proof of concept hydraulic fracking, while Energy Dept. labs created a multi-well fracking site.  The inventor of shale fracking, George Mitchell, got a lot of help from the government.  And, the Reagan Administration, earlier, abolished price regulation, to remove a major barrier to unconventional development of gas deposits. 

    Of course, bold entrepreneurs who took risks and invested in fracking deserve credit.  But as in many new technologies, the hand of government, in regulation and investment, was highly visible. 

     A key point is that even if rock-bottom oil prices drive oil shale producers out of business for now,  the ability to quickly revive oil shale output will put a ceiling on oil prices that is far below the record $111 peak.    Saudi Arabia can produce oil at a marginal cost of $5 to $8 a barrel, enabling it to smash prices lower.  But America’s ability to produce virtually infinite amounts of fracked shale oil at a marginal cost of around $58 will help keep crude oil prices reasonable in the near future. 

     Let’s keep in mind, however, that persisting low oil prices will bankrupt countries like Russia, Iran, Venezuela, and others.  This may not be good news.  Russia is already looking for creative ways to make trouble for America, in Yemen and in Iran,  out of spite for America’s lead in imposing sanctions on Russia.  The world will remain unstable, despite low oil prices and in part because of them.

 

Deadly Dominoes: Who Falls Next?

By Shlomo   Maital 

dominoes  

   According to Reuters News Agency, “a prominent opponent has warned Vladimir Putin his days in power are numbered, as Russia awaits the president’s response to the dramatic decline of the rouble. Putin has been silent as the currency collapsed against the dollar.”

   It’s that old déjà vu all over again. Remember August 1998? Russia defaulted on its foreign debt, after the price of oil collapsed. Oil prices, in turn, fell, because of Thailand’s crisis in July 1997 (which saw the baht devalued from 25 per dollar to over 50), leading to the so-called “Asian Contagion”, in which other Asian currencies fell and Asia went into recession. As Asian demand for oil fell, so did the price – toppling the Russian domino. Russian, in turn, would go on to topple Brazil, Argentina…and so on….

   And it is more or less recurring. The cause of Russia’s crisis, this time, is not Asia, but rather Russia’s leader Vladimir Putin, whose adventure in Crimea and Ukraine has proved costly. The Russian people appear to believe that it is all a Western conspiracy to wound Russia.   But in fact, it is in part a Saudian Arabian move, done not infrequently by that country, in order to bash oil prices down and hurt the Return on Investment for alternative energy forms that compete with its oil.    By keeping oil prices unstable and variable, Saudi Arabia can mess up the boom in fracking, wind, solar and other energy forms.   And at the same time, no one in Saudi weeps if Iran’s economy is badly hurt, along with that of Russia – and America’s enemies in general are also damaged. This episode has happened before – a sharp fall in the price of oil helped disassemble the USSR in 1989-91.

   Meanwhile, the dominos continue to fall. Israel’s agricultural exports are badly hurt by the falling ruble. Turkey’s currency hits a record low against the dollar. Bonds of oil companies Petrobras, Pemex and Gazprom plummet and yields soar. Investors bail out of emerging markets, even those that are solid.   This is a problem – emerging market companies sold $1.7 trillion in bonds since 2009. Petrobras’ debt is especially high.

     Bottom line: No reason to rejoice over Russia’s woes, even if you dislike Putin. In the end it is always the people who suffer. Once again, we learn that adventurous leaders can ruin countries, even large nuclear ones. And it is the citizens who pay the price. Once again, we learn that we live in a global village, where dominos fall continuously and sometimes in ways we cannot predict or even imagine.

Blog entries written by Prof. Shlomo Maital

Shlomo Maital
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