Oil Reserve Calculations

It struck me, after posting my recent note on the problem with the unchallenged reserves quoted by the Saudi’s and the members of OPEC in general, that few people outside of the oil industry have a clear understanding of how these reserves are calculated.

Unlike the mining industry, who quite rightly minimize reserve calculation because it is very expensive and needs to be sufficient only to remain several years ahead of production, oil operates against a very different model because the reserves can be calculated early and accurately.

To book a reserve creditably in the oil business, it is necessary to make a discovery well first. That puts you in a field. At that point it is possible to map the confines of the field’s closure with relatively inexpensive seismic. A judicious placement of the next well usually toward the farthest closure boundary confirms continuity. At that point, provided the well is successful, you can do a preliminary reserve calculation that will probably stand up.

In fact it will stand up. That is why a deep discovery with only the discovery well in the pocket can be proclaimed so confidently as a multi billion barrel reserve. A second production well quickly refines the numbers to a level of confidence that permits production planning.

Thus, once such a reserve calculation is made, it is very unlikely that it will ever be upgraded significantly by additional in field drilling. Technology changes will upgrade resources, such as happened with the Alberta Tarsands. Expect additional upgrades driven by the development of THAI. Just remember though that no new oil is been found or even needs to be found in Alberta and Saskatchewan. The resource itself already exceeds a trillion barrels and apparently hugely exceeds that.

Therefore the addition of 150 billion barrels of Saudi reserves, not previously quoted by the pre Aramco discoverers is very suspect. Folks who find fields do brag about them at appropriate industry seminars. And the nature of reserve calculation as I have just described makes it very unlikely those reserves are coming from prior discoveries.

And it is not just the Saudis who are playing bullshit poker, so is the entirety of OPEC. As a result, the world has been gulled into sitting back and behaving like very good customers. The World has not invested aggressively in other resources with the exceptions of Canada in the Tarsands and Europe in the wind business and in nuclear. The US political system chose to sleep as this unfolded and is only now waking up to the dire necessity of action, although business has not been sleeping and has been pushing everywhere for position in the coming race to provide fresh energy.

By the by, if those reserves had a drop of credence, Saudi production would not be sitting at 5,000,000 barrels per day and teetering on the edge of sharp decline. You would have brought those reserves on line and lowered the take on existing fields. Instead they applied water injection to their best field as a method to maintain production volume. In the event, the shoe is overdue to drop. The way they squirmed last summer before they promised to release more oil, surely tells us that their above ground reserve is drawn down and is leaving them with no flexibility to massage the market.

The truth is that the dominos are falling slowly as field after field is in clear decline already, and the last to hit the wall will be the Saudis if it has not happened already.

Market Shivers

The one thing that I learned decades ago about markets is that over the long term, the bulls win. The bears may be right on selecting the losers but over time the winners eat up the garbage left over by the losers and the only real losers are those holding stock in the losers. A certain amount of cash is disappeared but the expanding credit system easily produces more.

The tragedy of 1929 is that the banking system did not understand this and over reacted to a bad market break by cutting of credit and savagely reducing the money supply. It took years for the global economy to claw back to the economic levels of 1929 and we have not made that mistake twice.

The difficulty we have today is that our money supply is not a true fiat currency. It is linked inexorably to oil, since oil still represents over ten percent of the global economy. This means that continued economic expansion will be stifled by tight oil supplies. And a real contraction in the daily oil output will have the same massive effect as a contraction in the money supply.

Hello Houston, we have a problem. In this blog we have investigated and discovered alternate strategies to replace this pending oil shortfall. I know and if you have followed my reasoning, you know that we can completely free ourselves of using any geological oil by making agriculture our principal partner in the solution. It will still take time. But once done our economy will never again be dependent on a finite resource and we will be good for a million years.

In the meantime, the market is slowly waking up to the nasty fact that we are unable to expand oil production significantly anywhere in a hurry. After all we have now had almost five years of high prices to encourage expansion and it simply is not happening fast enough. That is why the overall market is starting to adjust downward with a series of 300 point breaks and consolidations. This is a good time to assemble cash and to learn patience.

Right now the market is waiting for the other shoe to drop. That would be a 2,000,000 barrel drop in production somewhere. There are candidates and it is inevitable somewhere. Saudi Arabia would be the most dramatic. It would end all denial.

This type of very bad news will induce a deep market break and take a long time to overcome. As should be clear, however, the probability of bad news like this is steadily increasing while the probability of good news is declining.

In fact the only source of commensurate good news on oil can only come from the drilling rigs out in remote difficult basins. There may be another Saudi Arabia out there that can give us another fifty years to get our energy act together. After all my readers have seen the future. Fifty years of progressive scientific development will make the implementation of these ideas easy.

On an optimistic note, I suspect that the one great untapped trillion barrel oil resource will turn out to be conventional oil in the Mackenzie delta and the Beaufort Sea. Discoveries have been made and anyone who has worked through the geological logic described in my article titled Pleistocene Nonconformity can figure it out. This oil was produced in the last million years and has not had millions of years to escape. At least there is little evidence that it has with the exception of the trillion barrel tar sands.

There may also be others. Most people do not realize how hard it is to understand the geology of an oil basin or how much has to be spent to get lucky. I never forget the 100 hundred dry holes in Alberta before Leduc #1. You look at the map today and you wonder how they ever missed.

In the meantime, there is a real Sword of Damocles hanging over the market and the market will be unsettled for a long time.