EIS Newsletter #1: June 2007
Gallium — That’s an Energy Play?
Welcome to the first in a series of occasional
newsletters about investing in the energy sector. I’ve been a professional
investor for nearly 20 years and have focused on energy for the past
three. Why energy? Simple: it’s huge and it’s changing. That combination
spells investment opportunity, just as cable television and cellular
telephony did in the past, except more so.
This newsletter and future editions will be stored on my new website
called Energy Investment Strategies: www.energyinvestmentstrategies.com.
I will write the newsletter as often as seems useful, maybe once a
month or so, and email it to anyone who signs up for it on the website.
The website is essentially the file system for my investment business.
It contains a summary of what I know about the energy world and where
I think it is headed longer term, my current portfolio allocations,
my thinking about the current investment outlook, some actionable
investment ideas, and a record of the results of my investing activities
on a monthly basis. The website will also post some commentary by
readers who email me in response to something they read on the website,
a dialogue of sorts.
Energy is fascinating beyond simply its investment opportunities;
it’s also one of the major lenses through which we view many political
events. For example, the emergence of Russia as a new power is clearly
all about energy. Mexico may be a disaster waiting to happen...because
of it’s collapsing oil field called Cantarell. The website will discuss
political news and views, particularly as they may affect energy prices.
Why are energy prices changing? Oil and natural gas are peaking in
the rate at which they can be harvested, which puts their prices in
a very long term uptrend. A succinct and compelling discussion of
this appears on page 23 of the 2006 annual report of XTO Energy Inc.,
one of the world’ most respected hydrocarbon harvesting companies.
Here’s what they say about oil:
From the worldwide oil perspective, daily supply has now reached more than 85 million barrels. Unlike the past 3 decades, OPEC nations are essentially producing at full capacity. Saudi Arabia is the only nation controlling excess volumes of about 1 million barrels per day of heavy or sour crude. Production available from Russia, Norway and Latin America is slipping. Domestically, daily production has dropped to almost 5 million barrels, less than 35% of our needs. More to the point, the annual decline of global oil production may approach 5%. This means about 4 million barrels per day is lost each year. In just 2 years, oil production equivalent to the full capacity of Saudi Arabia must be found just to stay flat, without accommodating demand-growth projections. New resource is available in the deep oceans, the Arctic regions and the Middle East, but billions of dollars will be required to develop it at considerable technical and political risk. Even with exploration success, it will take years to bring new production to the markets.
XTO is talking about Peak Oil, about which there
is a good deal more information on my website. Natural gas, a somewhat
different matter, is also discussed there.
While the long term trend of prices is clearly UP, anything can happen
in the short to medium term, which can seem like a very long time
if your portfolio is at risk. Therefore, I analyze price vectors -
factors that can influence the price of oil and gas within the next
year. So, for example, my take on Nigeria’s MEND insurgency is not
just that it’s been pushing up the oil price as it tries to shut down
what’s left of Nigeria’s former 2.5 mb/d (million barrel per day)
oil production. I also remind myself that between Iraq, Venezuela
and Nigeria combined there are possibly as much as 5 mb/d currently
kept off the market by political events, and that if some of it comes
back onto the market because political conditions change, I would
need to reconsider all my investment assumptions. On my website is
a section describing and discussing current price vectors.
So, enough (already) with the introduction. Here’s a sample of the
goods, the sort of investment thinking that you can expect in future
Energy Investment Strategies newsletters:
The oil
sands of Alberta are believed to contain nearly 200 billion barrels
of oil, possibly the largest oil reserve in the world. My first investment
in the energy sphere was Suncor (SU), a large oil sands producer.
Oil sands stocks are among the largest positions in my portfolio today.
If I had to buy only one stock for a grandchild to be sold on her
21st birthday in 2028 (no ETFs allowed), it would be a Canadian oil
sands producer. Some companies I like, in addition to Suncor, are:
Canadian Oil Sands (on the Toronto exchange: COSWF), Nexen (NXY) and
Husky (also the TSO: HUSKF).
The long life of the asset base - in the case of COSWF, a fifty year
supply of oil at growing production rates - is obviously their key
advantage. Most oil companies must spend billions of dollars every
year on risky drilling programs simply to replace the oil they sold
the prior year, and increasingly they are not achieving that goal.
If they did not drill, most would be out of business within ten years.
But oil sands companies have all the oil they need for generations
to come.
The enormous advantage of a long-lived oil reserve asset is magnified
when one considers the likely higher price of oil in future years.
The inevitability of Peak Oil means that eventually the global oil
production rate will fall. Some believe that will come soon or has
already begun, others that it will happen within the next five years,
and a few think it will not happen until sometime in the 2020's. Once
the point of Peak Oil is passed, the price of oil will be many multiples
of its current price. (Incidentally, my own views on Peak Oil are
discussed in "The Long View" section of my website.)
Clearly, if you combine a huge, long-lived oil supply with a rising
price trend for oil (and eventually rising very dramatically), you
would seem to have a uniquely valuable asset. That is the primary
investment thesis behind owning oil sands stocks. I obviously believe
it has merit.
Creating synthetic oil from oil sands currently costs $25 - $30 per
barrel, among the highest oil production costs in the world and rising
due to labor shortages in Alberta. Future cost increases could also
come from possible higher natural gas prices, an important cost for
some oil sands producers. Bottom line, keep in mind that production
costs would be a serious problem for these companies if the price
of oil were to decline - perhaps temporarily due to a weak economy
- into the $40 range or lower.
Exxon-Mobil, which does one of the best jobs of making public its
long range planning, has stated that by 2030, the demand for oil is
likely to reach 130 mb/d, up from the current demand of 85 mb/d. But
if oil production peaks sometime in, say, the next ten years, the
most oil that could be produced in 2030 may be in a range of 50 -
75 mb/d, a shortfall of enormous proportion. Sometime down the road,
wouldn’t you like to own shares in the world’s largest supply of oil?
Gallium
is a mineral so rare that only insiders know the real market price.
As best I can tell, the price seems to have declined from a few thousand
dollars per kg in the mid-1990's to maybe $500 today. So why is it
of interest? Two reason. The first is that gallium is a great example
of the breadth of the energy-related investment universe. Secondly,
gallium might be a great investment.
Gallium is a component in two important developments, LED lighting
and solar power. LED’s (light emitting diodes) are used today in digital
read-outs and other special purpose lighting. But the lab guys have
recently figured out how to make white light from LEDs which opens
up the basic consumer market. I think LED’s will take a significant
share of the consumer lighting market within five years. Why? First
LED’s use about 5% of the electricity for equivalent light as a standard
incandescent. Second, they last about 20 times as long as a standard
incandescent - particularly important for difficult-to-access lights.
LEDs come on instantly and are dimmable, unlike flourescents.
Gallium is also a component of some “thin film” solar photovoltaic
(PV) units. It is part of what’s known as the CIGS process - a combination
of elements of which the G stands for Gallium that are painted onto
plastic sheets, stuck outside somewhere, and convert sunlight to electricity
far more efficiently and much more cheaply than current PV products
made from silicon sheets. Many people, believe thin film is likely
to be the wave of the future in PV solar. Suntech Power (STP), a large
and smart Chinese solar company, just announced a new thin film product.
Ascent Solar (symbol ASTI), which recently received a substantial
investment from Norsk Hydro, another very smart company, is developing
a thin film product using CIGS.
So envision a future in which suddenly both LED lighting and CIGS-based
solar PV products are growing like cell phones were in the early 1990's
- and both of them use a rare mineral called Gallium. You might want
to own some. I own a little by way of a very junior Canadian mining
company, and I’m keeping an eye on how it does.
Incidentally, one final comment on solar energy:
despite the enormous growth rate that solar will continue to experience
for many years into the future, I am leary of owning solar stocks
for a couple of reasons. One is that there are so many stocks available
at such huge capitalizations that there may be a glut of such stocks
on the market. More importantly, I suspect that the ultimately successful
solar technology may still be in some Silicon Valley garage being
funded by Kleiner Perkins and that when it becomes known to me, it
may knock the existing solar stocks out of the box.
If you find this stuff interesting and/or useful, check out the website
at www.energyinvestmentstrategies.com where
you can sign up to get on the email list for future editions of this
free newsletter. Also, you can send me your feedback at jim@energyinvestmentstrategies.com
for possible posting on the web site.
I hope you will enjoy the site and look forward to hearing from you.
Jim Kingsdale