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Monday, February 18, 2008

Peak Possibilities.

IN JULY 2006, THE WORLD'S OIL RIGS pumped out crude at a rate of nearly85.5 million bbl. a day. They haven't come close since, even as prices have risen from $75 to $98 per bbl. Which raises a ques¬tion of potentially epochal significance: Is it all downhill from here?

It's not as if nobody predicted this. The true believers in what's called peak oil—a motley crew of survivalists, despisers of capitalism, a few billionaire investors and a lot of perfectly respectable geolo¬gists—have long cited the middle to end of this decade as a likely turning point.

In the oil industry and the govern¬ment agencies that work with it, such talk is usually dismissed as premature. There have been temporary drops in oil pro¬duction before, after all—albeit usually during global economic slowdowns, not boom times. In most official scenarios, production will soon begin rising again, peaking at more than r ro million bbl. a day around 2030.

That's alarming enough in itself. Even the optimists think we have less than three decades to go? But at industry confer¬ences this fall, the word from producers was far gloomier. The chief executives of ConocoPhillips and French oil giant Total both declared that they can't see oil production ever topping roo million bbl. a day. The head of the oil importers' club that is the International Energy Agency warned that "new capacity additions will not keep up with declines at current fields and the projected increase in demand."

This isn't quite the same as saying that oil production has peaked and is about to start declining sharply—the view of the true peakists. In "peak lite," as some call it, the big issues are not so much geologi¬cal as political, technical, financial and even human-resource-related (the world apparently suffers from a dearth of quali¬fied petroleum engineers). These factors all delay the arrival of oil on the market, meaning that production would not so much peak as plateau. But with demand rising sharply, especially from China and India, even a plateau could be precarious.

It's not that the world is running out of oil. There are massive reserves avail¬able in Canadian tar sands, Colorado shale, Venezuelan heavy oil and other unconventional deposits. The problem is that most of this oil is hard to extract and even harder to refine, and it isn't likely to account for a significant share of global production anytime soon. Almost everybody agrees that the pump¬ing of conventionally sourced oil outside the Organization of Petroleum Export¬ing Countries (oPEc) has already peaked or will peak soon, a reality that even discoveries like the recent 8 billion–bbl. find off the coast of Brazil can't alterbecause production from so many exist¬ing fields is declining.

The big question mark is OPEC, which represents the oil powers of the Middle East and a few other big exporters and currently accounts for 410/0 of world oil production. Every optimistic scenario assumes that this share will rise dramati¬cally in the coming decades. That is, if things turn out well, the U.S. will become substantially more dependent on Saudi Arabia and its neighbors. Great!

Then there's the gloomy view. In his 2005 book 71vilight in the Desert, energy-industry investment banker Matt Sim¬mons opened up a still raging debate over whether Saudi Arabia, OPEC's top produc¬er, really can pump much more oil than it does now. Since the book appeared, Saudi output has dropped from 9.6 million bbl. a day to 8.6 million, despite rising prices.

Saudi officials used the occasion of an OPEC summit in Riyadh in mid-November to say they could up produc¬tion at any time. But that raises the pesky question of why they don't. So far, the answer from OPEC leaders has been that high prices are the fault of speculators and the falling dollar, not low produc¬tion. They're not just blowing smoke. Lynn Westfall, chief economist of refiner Tesoro Corp., says there's more than enough oil for sale right now. The price pressure, he explains, "is coming from fi¬nancial participants in futures markets."

If oPECS members are not able to boost production in coming years, though, it will be impossible to keep blaming the traders as prices rise. What happens then? "If we had better data, we could hold a global summit and say, 'Gentlemen, it's nobody's fault, but we've peaked,"' says Simmons. "We've got to embrace some conservation practices that are draconian, or we will be at war with each other."
Among the peakists, war and econom¬ic breakdown are favorite themes. They figure that cheap oil is the essential fuel of modern capitalism, which will found¬er without it. A more hopeful take is that innovation is the essential fuel of modern capitalism and that high oil prices will drive rapid advances in conservation and alternative energy. Either way, the begin¬ning of the end of the oil era may be upon us, well ahead of schedule

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Friday, February 8, 2008

A Market Mood Swing

TANG WEISHA NG IS EMBARRASSED to admit that he might have made a mistake. Just over a year ago, the 27-year-old sales executive thought he could make a better living trading stocks listed on the Shanghai bourse full-time. He started investing in 2002 with $33,700, and he says he has done pretty well. So, after convincing his wife that he could make enough money to support them, he quit his job and stayed home every day, trading stocks via the computer in the bedroom of the couple's Shanghai apartment.

Now, says Tang glumly, his wife is "telling me almost every day that maybe it's time to go back to a regular job." These days who could blame her? After a furious 18-month run that saw shares of listed Chinese companies more than triple in value, the country's bull market is stumbling. Indexes in Shanghai and Shenzhen are both down about 15% from their October peaks, and recent moves by the government to cool China's runaway economic growth appear to have deflated the mania for stock investing that has gripped urban Chinese, from maids who quit their jobs to devote their time to trading stocks, to pensioners who plunked their life savings into the markets. Almost daily, myths that were pervasive among neophyte Chinese investors—that what happens to the U.S. economy doesn't matter to China, that the government in Beijing will always prop up the market—get exploded. The giddiness of the bubble is starting to be replaced by pervasive gloom. Fear is getting the better of greed. "This is reality," says Tian Junxiao, a 52-year-old investor who has been day trading for a living for six years. "Younger people are learning that the market can go up as well as down. It's a hard lesson, but it's a necessary one."

Tian had an inkling the tide might be turning on Nov. 5. That's the day he sat in the private trading room that Shanghai Securities, his broker, makes available to their sophisticated clients and awaited the highly anticipated Shanghai-market debut of PetroChina, China's biggest oil-and-gas conglomerate. PetroChina was raising $8.9 billion, the largest initial public stock offering in China ever, and the buzz surrounding the listing was deafening. Tian thought the shares would quickly become overpriced, so he decided not to even try to buy. Indeed, PetroChina shares nearly tripled that first day, pegging the company's market capitalization at more that $ 1 trillion.

But the excitement didn't last. Since then, PetroChina shares have fallen by about 33%, resulting in significant losses for investors like Zhang Renfeng. A 63-year-old retiree, Zhang thought it was a no-brainer to buy into the big oil company. "All my friends were saying 'buy it,' so I thought, 'How could I lose?'" says the former schoolteacher, who sunk part of her life savings into stocks two years ago and often hangs out at a brokerage office near her home, watching the markets and playing cards with her friends. But her PetroChina play lost more than 12%, and her other investments have also fallen. In mid-November, Zhang gave up, selling all her shares. She says she lost 20% of the $13,500 she had invested. "That's enough," she says. "I won't invest in stocks anymore. I can't afford to lose my savings."

Whether the market malaise will frighten others into the same decision is uncertain. Chinese have few investment options—real estate markets are frothy in major cities and interest rates paid on bank deposits don't even keep up with the country's rising inflation rate. People were still pouring into the market a few months ago. In August, about 4 million new trading accounts were opened, but the numbers have been falling since, according to stock exchange officials in Shanghai.

A rush for the exits could pose problems for China's economy. According to a recent study by Merrill Lynch, China's investor class—an estimated 15o million people—has sunk 22% of its capital into the stock market, compared with 8% two years ago. Shanghai-based economist Andy Xie calculates that if the stock market drops by half, urban households will lose about 200/o of their overall net worth, putting a dent in consumer spending. Overall, economists figure that a 50% decline in equity values might lop 1-1.5% off China's double-digit GDP-growth rate.

Of course, it's impossible to predict where China stocks are headed. The Shanghai index quickly rebounded from a scary one-day plunge of nearly 9% on Feb. 27. But recently, the warnings that shares are overvalued have become difficult even for inexperienced investors, accustomed to quick scores and relentlessly rising share prices, to ignore. Last month, a top official at the China Securities Regulatory Commission, Tu Guang shao, said investors needed to "educate themselves" about market risks. "Some sort of correction was inevitable, and it's probably here," says economist Xie. Although many investors believed the government would do nothing to damage confidence in stocks before Beijing hosts the 2008 Olympics next summer, that belief has proven to be unfounded. In recent weeks, regulators ordered commercial banks to freeze lending activities through the end of the year—a major step calculated to curb the country's overheated economy that could have a knock-on effect on share prices.

Such actions are blows to even the most optimistic. So is the growing realization in Shanghai trading rooms that China is part of a global economy that could be in for a rough patch, due to the sub prime-credit crisis and the possibility of a recession in the U.S. A month ago, a relatively sophisticated investor such as Tian brushed aside any suggestion that U.S. markets, in turmoil since August, could effect equity values in China. "We're a separate market, a separate economy," Tian said on Nov. 5. Today, he concedes that the connection might be tighter than he imagined. "People are saying that if the U.S economy slumps it will hurt China—that is on the market's mind," he says. As if to reinforce the point, the government on Nov. 15 issued a report warning that a U.S. recession could be "devastating" to China's manufacturing sector.

Tang, the 27-year-old bedroom trader, is getting an education. He won't say how much he has lost in the market recently, but after three straight down days ending Nov. 19, he conceded that "it's possible" China might be experiencing the beginning of a bear market. "The market will come back—at some point," he says. But, prodded by his wife, he is now surfing online job sites for employment leads. He'll soon be working for a salary again. "Maybe [day trading] wasn't such a good idea," he says. "It was nice not to have to worry about having a boss. But it's over."

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