Maya Crude Output, Frack to the Future and More Damn Statistics

Source: Kent Moors, Money Morning  (12/28/11)

"Having supply available locally does not automatically mean it is the preferred option, especially if the cost of extracting it still exceeds the cost of importing equivalent volume. Security of supply is another matter."

[With Kent on vacation this week, I thought it'd be valuable to go back and revisit some of best questions we received and published in 2011.

From time to time, Kent answers your questions on both major events and stories that are on no one else's radar.

Here are three that really stand out for their ongoing timeliness and the likelihood that we will be revisiting the issues addressed moving forward.

In 2012, we plan to answer more Oil & Energy Investor questions. So, remember, if you have a question or comment, we'd love to hear from you.

Just remember to register on our site, and leave your comment.

And have a safe and happy New Year.—James Baldwin]

Okay. . .Let's get to it. . .

Q: Kent, I believe Mexico is the eight-largest producer of oil, and its output equals Libya's and Iraq's combined. What is the quality of Mexico's oil, and whom does it supply? Thanks.—Kirk (February 2011)

A: Kirk, the Mexican national oil monopoly, Petroleos Mexicanos (Pemex), is currently producing about 2.6 million barrels a day (MMb/d), while Libya (before its slide into civil war) and Iraq combined come in at around 4.3 MMb/d. So not quite equal.

That's because Mexican production has experienced more than a 25% decline since reaching its peak in 2004. And there remain serious questions about the ability of Pemex to increase volume due to the lack of finding new fields of any size and a heavy debt load.

Mexico has been a major supplier to the U.S. market. However, given the problems south of the border, there are widespread opinions that Mexico will become a net importer of oil by 2020, with any guarantee of export flows to the U.S. fading by as early as 2017.

While production levels have appeared to stabilize over the last several months, prospects for any additional volume are not good.

Most of Pemex's production comes from the huge offshore Cantarell field in the Gulf of Mexico. When discovered in 1976, it was the third largest field in the world. Today, it is in rapid decline. From 1.2 MMb/d in January 2008, the field is now producing barely 480 Mbbl per day. And Pemex has nothing new coming in to replace any of this loss.

Libya provides light, sweet crude (with low sulfur content). Over half of the export flow from Mexico—including virtually all that comes into to the U.S.—is heavier, sourer oil (with higher sulfur content). Called Maya benchmark crude, this is roughly equivalent to Saudi exports, but more expensive to refine.

Bottom line here: no increase in U.S. imports from Mexico; rather, a virtual certainty that imports will decline appreciably.

Even if that situation were to reverse, Maya crude remains more expensive to process than the Libyan crude it would replace.

Q: Kent, can you address the "fracking" issue one more time?

The 2010 documentary Gasland showed how bad things can get when 600+ chemicals are used to get the oil out of the ground, especially in close proximity to water resources. What companies employ this technique?

Also, the French recently revoked the licenses of one company—Toreador Resources in Paris—because fracking would have been their preferred method of oil extraction. The stock plummeted on the news. Will other companies (and countries) that use fracking find it difficult to lease land where the water table may be affected?—R. J. (July 2011)

A: Actually, several of you have written in with similar questions surrounding the French decision on fracking. But R. J. asks several questions here, so let me address them in order.

First, all companies that utilize horizontal drilling for shale gas extraction use hydrofracking.

Second, the French decision results from where the drilling would be located.

To date, significant shale gas deposits have been determined at Bassin d'Ales, Plaine d'Ales, Montélimar and Moselle (where there is also coal bed methane). The first three are most advanced in terms of exploration; unfortunately, they are also in the Paris region and have population density concerns.

This has become a political issue in the days before an election. . .and that is rarely a good time to get an objective appraisal.

Still, the environmentalists do have it right—if a company cannot provide sufficient guarantees that drilling poses no danger to water tables, it should not receive a license.

And these French companies will have a hard time providing the required guarantee. France has no history of combining hydrofracking and horizontal drilling. There have been no environmental baseline studies completed and no previous unconventional drilling as a basis.

Third, there is shale drilling under development in other European countries: Lower Saxony (Germany), Alum (Sweden), the Makó Trough/Szolnok Formation (Hungary), the Vienna Basin (Austria/Slovakia), as well as four very promising basins in Poland.

The French have a valid concern about heavy populations in proximity to drilling. True, the Barnett in Texas was initially an urban-based play (Fort Worth to Denton). . .but France's density distribution is different.

Now let's return to the documentary. . .

The episodes portrayed in Gasland were the results of early drilling in Colorado, where, in my judgment, the companies were clearly at fault. There have been some questions raised about more recent drilling in the Marcellus on the East Coast, but these are quite infrequent.

Shale gas wells are at least 5,500-7,000 ft. below the surface. Some—such as the Eagle Ford in Texas and the deep Utica, currently under evaluation below the Marcellus—are more than 12,000 feet down.

These are well below any water resources.

The problems arise in two other ways.

  1. Gas contamination on its way up to the surface, and
  2. The use of fracking fluid.

Gas contamination is a standard problem for both traditional—vertical—drilling and the newer unconventional drilling. It is not, therefore, something that has emerged only with the advent of shale gas development.

In passing, gas contamination is what caused the igniting water shown in Gasland.

Yet the problem can be resolved with the use of concentric pipe strings. Range Resources Corp. (NYSE:RRC) has an excellent system used in the Marcellus.

Regulators need to require the usage of the better pipe strings. Most of them do already.

The other matter, fracking fluid, is more contentious.

Of the hundreds of chemicals used for fracking, most are of no consequence to health or environment.

The problems emerge with the danger of leakage from the use of ethylene glycol (to inhibit the formation of scaling; also used in antifreeze), petroleum distillates (to reduce friction), and especially glutaraldehyde (as an antibacterial agent).

Once again, a secure system of returning the fluids (along with the flow-back water) to the surface, and safe disposal of that water, is essential. Today this is accomplished by injecting it into deep disposal wells after processing.

However, new developments are already in field use in the Fayetteville in Arkansas and the Woodford in Oklahoma that eliminate the use of chemicals altogether. . .and even reduce overall operational costs per well at the same time.

Q: There is a report that current and future crude production here in the U.S. could handle all our energy needs well into the twenty-fifth century. . .Out here in Kansas, we have fields of untapped crude. The same exists in eastern Colorado, Oklahoma, Texas, Nebraska, the Dakotas, as well as along the Mississippi River, and especially near the field of shale gas in western Mississippi. So why do we need foreign crude?—Phaedra (March 2011)

A: Phaedra, the primary reason we depend upon foreign sources for almost 70% of our crude is price. Foreign oil is cheaper than much of the untapped oil available within the U.S.

The U.S. is the most mature oil-producing region in the world. Traditional fields have been declining for some time. When "Hubbert's Peak" hit in 1971 and 1972, the American market was producing about 9.2 MMb/d.

In 2011, conventional production may not hit even 5 MMb/d.

Yes, there are reserves remaining, but the volume extractable at a competitive price is not increasing significantly.

As counterintuitive as it sounds, having supply available locally does not automatically mean it is the preferred option, especially if the cost of extracting it still exceeds the cost of importing equivalent volume from elsewhere.

Now, security of supply is another matter.

One may choose to produce at home to offset the uncertainty of events abroad. Combining North American sources of unconventional with the dwindling supply of conventional crude will address this issue. But it will also significantly increase the price to end users of the oil products.

Sincerely, Kent

Kent Moors, Money Morning

[P.S. As we've said before, we're entering a time where there will be an unprecedented opportunity to make money in the energy markets.

That's why you should check out Kent's latest warning right here. . .

And don't delay. This is huge news for investors.]

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