Guest Post: Another Special Report from SRSrocco

Sun, Sep 16, 2012 - 6:28pm


For many years, the oil and gas industry has been hyping their new miracle baby called "SHALE ENERGY". Through advances in technology such as fracking and higher natural gas prices, unconventional sources such as shale gas became commercially viable. The U.S. Government first estimated the total shale gas reserves in the country at a staggering 827 trillion cubic feet. Furthermore, BP stated that shale gas and oil will make the United States self-sufficient by 2030.

However, cracks began to appear in the GREAT SHALE GAS MIRACLE when in January of this year, the U.S. Dept of Energy released new projections which cut the reserves to nearly half to only 482 trillion cubic feet. Even though this was a 42% decline in reserves... it is still a great deal of natural gas that the country can depend on. Or is it?

On Sept. 2nd, 2012, something very startling occurred. The USGS - United States Geological Society, came out with revisions to the shale gas fields' reserves... and it wasn't pretty. Before we get into the details of the data, let me give you some background information.

I have been reading TOD - for years. I wrote a two part series called THE GREAT SHALE GAS SCAM on Turd's blog which you can find at these links (PART 1, PART 2). The series was based on work at TOD by Art Berman. Since 2009, Art has been skeptical of the hype put forth by the shale gas industry.

The EID - Energy In Depth (a public relations firm started and funded by the oil & gas industry) had to say this about Art last year:

"We think he's wrong about shale. But the good news is: we won't have to wait two or three years to find out who's right."

Well, it looks as if the folks at the Energy In Depth got their answer a hell of a lot quicker than they expected.

According to an article by Deborah Rogers, "USGS Releases Damning EUR's for Shale":

Chesapeake Energy (CHK) claims average EUR’s for the Marcellus at 4.2 Bcf. Range Resources (RRC) has claimed average EUR’s as high as 5.7 Bcf in investor presentations. According to the USGS, however, the average EUR for the Marcellus turns out to be about 1.1 Bcf.

(EUR stands for Estimated Ultimate Recovery)

Folks, this is quite alarming. Chesapeake had stated that the average estimated ultimate recovery of an average shale gas well in the Marcellus field was 4.2 Bcf (billion cubic feet). The USGS just cut that estimate nearly 4-fold to only 1.1 Bcf. In addition, investors with dollar signs in their eyes who purchased stock in Range Resources ... now get to experience how a 5-fold decline in reserves will impact their share price. I imagine SHALE ENEMAS are in store.

The USGS shale gas downgrades do not pertain to only a few areas, they reach across the whole country. Chesapeake Energy also claimed the average EUR in the Fayetteville was between 2.4-2.6 Bcf. But, according to the Powers Energy Investor, an industry publication stated:

“To put into perspective how ridiculous Chesapeake’s claims of 2.6 Bcf is, consider the following: of the company’s 742 operated wells completed on the Fayetteville, only 66 have produced more than one Bcf and none have produced more than 1.7 Bcf. Chesapeake’s average Fayetteville well has produced only 541 Mcf.”

Only 9% of Chesapeake's shale gas wells in the Fayetteville have produced more than 1 Bcf. I would gather Chesapeake probably doesn't believe the average figures it puts out in its propaganda pieces, but can you really blame them when they have to keep running the investor treadmill slaughterhouse? The USGS also confirmed this by stating the average EUR of the Fayetteville was only 1.1 Bcf.

One of the important factors not to overlook in estimating the ultimate recoveries of a shale gas field, is the realization that the sweet spots are drilled first, saving the mediocre and dead-beats for later. Thus, as the field ages with shale gas wells depleting exponentially by second year, it's nice to know the industry has decided to save the best for last.

Once you understand the insanity coming from the bowels of the Shale Gas Industry & Lobby, it becomes easier to pick out the charlatans promoting the business in newsletters and commercials. One name sticks out like a sore thumb -- Porter Stansberry.

Porter made a name for himself when he had Alex Jones narrate his END OF THE DOLLAR commercials that aired on MSM. He got a lot of exposure from these commercials that warned Americans of the upcoming collapse of the U.S. Dollar. He advised his subscribers and readers to buy gold and silver to protect themselves when the dollar finally died.

Everything was going fine for Porter until he decided that he could make more money getting people to believe in the Great Shale Oil & Gas Scam. This is how Porter describes Peak Oil:

OVER the past decade I have written many times that I consider Peak Oil to be one of the greatest intellectual frauds ever perpetrated.

Porter has no idea of the falling EROI - Energy Returned on Invested or the declining Net Oil Exports that peaked in 2005. I wonder if he is paying any attention to the recent USGS shale gas down-grades.

There is another interesting trend taking place in Texas. In the past several years, shale gas from Barnett field has gone up in an exponential fashion. If we look at the chart below, we can see just how much shale gas the Barnett field is supplying to the market:

In the past three years, shale gas production rose 20%. You would think this huge increase would greatly impact the overall supply. However, if we look at the NAT GAS production coming out of Texas, we find that total supply has actually declined since 2008:

In 2011, the Barnett Shale produced 1.936 Bcf or 25% of the total 7.6 Bcf that came out of Texas. For the Barnett Shale to be able to make the U.S. self-sufficient by 2030, it will have to produce a great deal more shale gas than it is today.

Unfortunately, this may not be possible as it looks as if the Barnett may be reaching peak production currently:

The only way shale gas production can increase to this level, is by the rapid rate of continued drilling. We must ask ourselves this question. How will the Barnett Shale increase future production if the industry practice is to drill the sweet spots first? Furthermore, shale gas wells depletion rates are running at 70-80% after two years of production.

Once we add up all the negatives such as, the recent USGS downgrades, the high depletion rates and the industry practice of exploiting the best areas first in the field... how in the living hell is shale gas going to make the U.S. energy independent?

This brings us to the next supposed SHALE MIRACLE.. and that is SHALE OIL.

Basically, what is taking place in shale gas industry, is also taking place in shale oil. I could get into a lot more detail, but this article would become too long and too boring. Instead, I have chosen a few charts done by Rune Likvern to give the reader an idea of what is taking place.

The shale oil players are doing the exact same thing as their shale gas counterparts by manufacturing, packaging and selling SHALE SNAKE OIL. These companies have overestimated their recoverable reserves as well as hyped how much their new technology will be able to extract more oil from future wells.

If we take a look at the first chart, we can see that there is an accelerated addition of wells just to sustain a specific well production in the North Dakota Bakken. The hamsters are running faster in the wheel -- getting nowhere:

In this next chart, the shale oil production that started in the summer of 2011, is much lower in its peak than the wells started a year prior. In 2010, peak production from these group of wells was nearly 130,000 BBL's ( barrels a day). But in 2011, the next group didn't quite reach 100,000 BBL's.

What we have taking place in the Bakken Field in North Dakota is a severe downturn in oil production per well as the best advanced technology is helpless in stopping it.

Rune made this comment on TheOildDrum about his findings:

For the studied wells in Sanish the decline in well productivity was around 40% over a year. Brigham’s wells (all of them which are spread over a huge area) showed a decline of around 10% in well productivity over a year.
Marathon’s wells show some gain in well productivity.
Overall the decline in well productivity was around 25% in one year.

So in light of this it becomes interesting to read that Marathon has decided to cut down on their activities in Bakken.

So did Occidental

Marathon & Occidental are cutting back their activities in the Bakken while oil prices are upwards of $100 a barrel? Do you see what is happening here?

As nitwits like Porter Stansberry continue to berate Peak Oil while pushing the SHALE MIRACLE, the data coming from the field provides a very sobering reality soon to knock on the door of the American Public. And that is, Shale Oil & Gas is not our future energy savior, but rather another delusion in a series of delusions propagated on U.S. citizens.

This is indeed the problem. The world has been closely watching the United States and its supposed new SHALE ENERGY PARADIGM. Countries throughout the world have been banking on our recent success so they can reproduce the same technology in their own supposed shale gas fields. However, we are finding out that our own experiment in this new energy field has proven quite disappointing.

The world will not be able to count on Shale gas or oil to supply a large percentage of its needs for a long period. In the end, shale energy will just give us a little more time before we have to realize that we as a species are going to have to survive on a lot less.


I have been writing about energy and its impact on the mining industry for a few years. The U.S. and world has been counting on advanced technology and unconventional oil sources such as shale oil & gas to allow us to keep running our car dependent lifestyles for at least another 3 or 4 more decades. I think we will run into trouble within the next several years... and this is without any black swan events occurring in the Middle-east.

As you know, I have been writing articles showing the declining gold and silver ore grades in the industry and how more energy is needed to mine the same or less metal each following year. I have finally updated the top 5 gold miners average annual gold yields, reserve head grades as well as their diesel consumption.

The first chart shows the growth (or lack of thereof) gold supply from the top 5 gold producers:

In six years, the total gold production from Barrick, Newmont, AngloGold, Gold Fields and GoldCorp has fallen 5% or 1.3 million ounces. As you can see from the chart Barrick and GoldCorp are the only two companies that have increased their production since 2005. Here are the details:

Change from 2005-2011

BARRICK = +2,216,000 oz

GOLDCORP = +1,378,000 oz

GOLD FIELDS = -734,000 oz

ANGLOGOLD = -1,835,000 oz

NEWMONT = -2,300,000 oz

If we start the data from 2006, even Barrick has less production by nearly 1 million oz. Furthermore, if I had chosen Harmony Gold instead of GoldCorp in the top 5 group, the overall declines would have been much worse. For instance, Harmony Gold produced 2.9 million oz in 2005, but only 1.3 mil oz in 2011. The reason why I selected GoldCorp over Harmony was due to two reasons. GoldCorp will be the larger producer in the future, and due to the fact that I was unable to obtain diesel consumption data from Harmony's website or through several email attempts to their management.

In researching the gold and silver mining industry there are a few terms that needs to be explained. There are average reserve ore grades (head grades), average processed (or milled) ore grade, and average yield. In the past, I may have misused these terms. I will clarify this in the material below.

Every year a gold or silver company lists their annual reserves and resources. I will only focus on reserves at this time. As the company mines their reserves and replaces it with new reserves (proven & probable), they state the new amount each year along with an average ore grade or head grade. Below are the top 4 gold producer's head grade based on year-end reserves:

If we calculate a simple average, we get a decline in overall head grade in the top 4 producers at 4% per year. I did not include GoldCorp in this chart because they do not list an average head grade in their annual reports. I decided to do a weighted average of reserves in from their 2006 annual report and found it to be 1.05 grams per tonne. For the life of me, I don't know why GoldCorp does not show their average annual head grade for their proven and probable reserves. They do list each of their mines' reserves and respective average head grade (and even a total amount of gold reserves at the bottom), but no overall annual average head grade.

So, all we need to take away from this chart is that the average head grades in their reserves are continuing to fall at the top gold producers in the world.

The next chart reveals the relationship between head grades and diesel consumption in the these gold producers. Here we can see that the lower the head grade in the mining companies reserves, the higher the amount of diesel is consumed. Newmont (shown in red in both charts) has the lowest head grade of the bunch, and it consumes the highest amount of diesel.

On the other hand, Gold Fields (purple) has the highest average head grade and consumes the least amount of diesel. If we assume that GoldCorp's reserve head grade is similar to Newmonts, and it was producing the same amount of gold as Newmont, its overall diesel consumption would be more than twice of what it is currently.

According to their 2011 Annual Report, GoldCorp forecasts a 70% increase in gold production (1.75 million oz) in the next five years. If they are successful in bringing on this new production, I would imagine they would have to increase their diesel consumption from 58 million gallons in 2011, to nearly 100 million gallons by 2016.

As I have mentioned before, as ore grades decline more diesel is consumed is the mining process. Furthermore as open-pit mines age, it takes more energy (diesel) to extract the same or even less metal. In the past five years, the top 5 gold companies have increased their diesel consumption 72% per ounce of gold produced.

In 2005, the top 5 only consumed 12.7 gallons of diesel to produce an ounce of gold, but by 2011 it took 21. 8 gallons to produce that same ounce. Here are the individual results:

Diesel Consumption from 2005-2011

GOLDCORP 2005/2011 = 8.5 gal oz / 23.2 gal oz

GOLD FIELDS 2005/2011 = 4.9 gal oz / 10.6 gal oz

ANGLOGOLD 2005/2011 = 8.1 gal oz / 15.2 gal oz (2005 estimated)

NEWMONT 2005/ 2011 = 18.9 gal oz / 28.7 gal oz

BARRICK 2005/ 2011 = 15.4 gal oz / 24.6 gal oz

We can definitely see the distinction between the five companies' diesel consumption. The South African miners Gold Fields and AngloGold consume the least because they are predominantly underground mines with higher average ore grades. However, this trend is changing due to the fact that good quality underground gold resources are becoming increasingly scarce.

I would like to clarify one aspect that is not represented in the charts. The total diesel consumption from Barrick includes the energy it uses in mining its copper projects. This is also true to a lesser extent for Newmont. Instead of going through the time and effort to try and figure out what amount of diesel is consumed at just its gold operations, I have lumped it all together. I believe if a primary gold mining company is going to dilute its primary status by getting into the mining of base metals such as copper, they deserve to have it impact their gold to diesel production ratio. We must remember, where there is copper, there is gold. So, I look at their copper mining projects as very low quality gold deposits.

The next chart shows the change in average gold yield in the top 5 producers. These miners list the average ore grade of the total processed ore (milled) in their annual reports, but this is does not reveal their true gold yield as they lose a certain amount of gold in the leaching and refining process. To get this average yield, we have to take their gold production and divide it by the total amount of processed ore (in tonnes).

In the past six years, the average yield in these top producers has declined 23% or 3.8% per year. Thus, in order for these top miners to keep production flat, they have to add nearly 1 million ounces of gold production (3.8% = 900,000 oz based on 2011 figures) each year to offset these loses. They can do this by adding new mines or ramping up the total amount of processed ore. Either way, it takes more diesel to do so.


Let me tell you, the information on diesel consumption in primary silver mining is little to non-existent. I have just started to research this data and have only found sustainability reports for Pan American Silver and Hochschild Mining. There simply isn't that much data from these primary silver companies as they don't consume a great deal of energy or impact the environment as much as the larger gold and base metal counterparts.

Hochschild does not list their diesel consumption in a single amount, they list it in a ratio to their processed ore. Without a great deal of time and math calculations, I have decided to just list Pan American Silver's diesel consumption. Here it is:

Pan American Silver Diesel Consumption

2010 = 5.8 million gallons

2011 = 8.5 million gallons

Pan American produced 24.3 million ounces of silver in 2010 and 21. 8 million ounces of silver in 2011. Thus, we have a ratio of 0.25 gal. of diesel per ounce of silver in 2010 and 0.40 gal per oz of silver in 2011. Even though this figure is increasing we can see that mining silver from primary mines takes a hell of a lot less diesel than mining gold.

Pan American Silver had an average yield of silver in 2011 at 4.7 ounces a tonne, or 146 g/t (grams per tonne). To get an idea of how diesel consumption in primary silver mines compares with primary gold mining, below are the following figures:

TOP 5 GOLD MINERS 2011 AVG YIELD = 1.3 g/t




RATIO of DIESEL CONSUMPTION = 21.8 / 0.4 = 54.5

Here we can see that the top gold miners use 54 times more diesel to produce an ounce of gold compared to an ounce of silver coming from Pan American Silver mines. As Primary Silver miners ore grades continue to decline, their diesel consumption will increase in the future.

Lastly, there is a reason why the market price of diesel is more than gasoline. In the refining of a barrel of oil, on average it produces 19.2 gallons of gasoline and 9.2 gallons of distillate fuel oil. Of that 9.2 gallons of distillate fuel oil, it consists of a portion of diesel fuel as well as heating oil. The world's demand for diesel continues to increase, but the supply has been relatively flat over the past several years.

There has been some advances in refining technology to produce more diesel from a barrel of oil, but this is not a huge amount. I still run across people who tell me that the price of diesel is manipulated because it is just a waste product from the refining of a barrel of oil. That may have been true back in the 1930's, but it is not true today... I can assure you of that.


As I mentioned, the world has been closely watching the United States and its supposed success in its new SHALE ENERGY PARADIGM. According to the facts and data provided in the energy portion of this article, it looks as if shale gas & oil will not be able to supply our increasing demands for liquid energy in the future. Moreover, it may be difficult to just keep shale gas & oil production from falling in the next several years.

With the pathetically low price of Nat Gas (at least $4-5 below breakeven prices for the shale gas players), drilling rig numbers in this sector have been dropping like a rock over the past several years. The hype coming from the Shale Oil & Gas companies will come back to bite them very hard when the public and the world realizes they have been sold an horizontal pipe dream just to keep the HAMSTER SHALE ENERGY WHEEL TURNING.

As the world wakes up to the fact that these unconventional liquid energy sources will not be able to offset the ongoing depletion of conventional crude production, the world will have to survive on less in the coming years. And, that means less gold and silver.

So, the popping of the SHALE GAS MIRACLE just erased any remaining doubts that the world will be able to continue its delusion of maintaining business as usual... forever.

About the Author

tfmetalsreport [at] gmail [dot] com ()


Sep 16, 2012 - 11:28pm

"  "

" "

Sep 16, 2012 - 11:26pm


Alcohol is a powerful drug.


Sep 16, 2012 - 11:22pm

Randomly changing the

Randomly changing the denominator is bad form, SRS. Stick with energy. Or zimbux if you want to manipulate the data to "prove" your point.

Sep 16, 2012 - 11:19pm


On what day did god create big gov. and why couldn't he have rested on that day also

Sep 16, 2012 - 11:18pm


DrkPurpleHaze... yes, I have seen the data on retrofitting diesel engines to LNG. The world will try to work around its limitations for a while with some measure or success. There are many different technologies to also convert underground coal to liquid gas UCG, natural gas to diesel (Pearl Plant in Qatar) GTL, and so on and so forth. But, I believe they will not be able to offset overall oil depletion.

Where I live, a hub of UPS haul trucks converted to LNG. I have spoken to some of the drivers, and they have told me that they are not getting the mileage that was expected with the LNG.

Furthermore, LNG infrastructure is very limited and its costs would be great to do it on a widespread scale.

Tmosley... the term EROI and EROEI have been interchanged. Charles Hall, one of the leading experts in this area uses EROI. We are splitting hairs here. Regardless, the dollar is used as a measurement because everything is either sold or paid in a monetary figure. That doesn't change the fact that the overall EROI -EROEI of US Oil & Gas has fallen exponentially since the 1930's.

It just takes a great deal more energy to produce energy today.

Lady GauGau... In a nutshell, shale gas reserves (as well as shale oil reserves) have been recently downgraded significantly.... in some areas by a factor of 4. These are huge downgrades. Furthermore, I believe these downgrades will continue as time goes by because in producing shale gas, the sweet spots are drilled first. This means that a field that may have a supposed 10 trillion cubic feet of gas reserves is based on the gas being equally dispersed in the field... and its NOT.

Shale gas and Shale oil have been hyped as our savior so the USA can keep running WalMart, Walt Disney & the Interstate Hwy system for decades to come (that line comes from James Kunstler). Now that actual data is coming from the shale gas and oil fields, the reality is quite sobering.

This means, unconventional oil sources may not be able to offset coming depletion.

Kingboo... I believe the current huge spread between oil and natural gas cannot last much longer. Break-even for Shale Gas is $7-8 mmbut... and if the shale gas industry plans to survive, it needs to make profits to pay for more drilling and capex. That means, natgas will have to even higher at some point in time.

Thats all for now.. need to go....

thanks for all the comments

Sep 16, 2012 - 11:17pm

I've been studying this crap for a long time ..

Is it peak oil? Is it peak whatever?

I think it's peak Government.

Get local, get real.

Edit: Buy stock in KatieRoseInc or form your own company if you can't find the ticker.

Edit 2: Looking back on this interview timeframe. Silver was around $9.

You will have to ask Katie R. what hay cost back then.

I'm glad I held a bit of my savings in it back then.

Sep 16, 2012 - 11:15pm


Could it be?

There is one big problem with economic recovery in the west - China. How does one compete?

Now what if China was taken out? How to do it?

1) Wait for economic downturn

2) Get Japan to invade island - cause civil unrest.

3) Close the strait of Hormuz - cut off a big supply of oil to China - force her into economic chaos. The US get little oil from there.

4) Let them destroy themselves from within.

5) The west gets global domination over worlds resources.

6) Game over.

The alternative is a bankrupt west and a thriving BRICK - Left too long then the US etc have too much civil unrest and Hyper inflation.

It really could be that simple.

Ask - why on earth would JAPAN, at THIS time, of all nations take a piss podical island from China - did they act unilaterally - I very much doubt it. It would appear to be part of a much bigger plan.



Sep 16, 2012 - 11:12pm



Sep 16, 2012 - 11:11pm

Peak Gov.

When do we achieve "Peak Gov.??

Sep 16, 2012 - 10:41pm

This guy has an interesting idea

The Turnkey PhD is always on the lookout for arbitrage opportunities, so when I showed him the below chart, which depicts the $/BTU spread between natural gas and oil, he got interested quickly:

If you focus on the 2012 spread, you will note that we are in an extreme condition versus the historical spread. I also added futures prices for both commodities, and you can see that the market is saying the spread will narrow over the next few years. So what is going on here? Looking back, it appears the two commodities traded near parity from 1995 through 2005, after which time all hell broke loose. Several factors contribute to the shapes of these curves. On the oil side, a weak dollar, growth in Asian consumption, and a reduction in spare capacity all contributed to rising oil prices over the past 10 years. The price of NYMEX crude oil for 2012 is currently at ~$109/barrel, having nearly quintupled over the past 10 years, from $22/barrel in 2002. The oil futures market is currently in backwardation, with the near to intermediate term spot prices having been bid up based on fear of a conflict with Iran, which would impact supply. Meanwhile, on the gas side, the shale gas revolution flooded the market with new supplies of natural gas, leading to a dramatic reduction in prices over the past roughly 5 years or so. The current front month spot price is ~$2.70/MCF, which matches prices last seen 10 years ago. The market predicts a gradual increase in gas prices over the next few years, as more natural gas is used for electricity and industrial applications, and as the U.S. begins to export liquified natural gas abroad.

Just to give you sense for the methodology behind the above graph, there are about 6 million BTUs in a barrel of oil, while there are about 1 million BTUs in an MCF of gas. This means that if you want to compare them on a $/BTU basis, the mathematical rule of thumb is simple: just take the natural gas price, and multiply by 6, and this will tell you how many dollars you have to pay for approximately 6 million BTUs of either oil or gas.

The point here, however, is that while BTU parity between these markets is roughly 6X, today we are seeing a spread of approximately 35X (avg. oil for 2012 of $109 / avg. nat gas for calendar 2012 of $3.12 = 35X). Put another way, the oil to natural gas prices ratio is almost SIX TIMES HIGHER than if they traded at parity. That can’t last, right? There are ways we can substitute natural gas for oil, which would tend to compress this spread back towards its equilibrium of 6 times, so it seems like we should be able to put on some kind of trade that takes advantage of that spread compression. Ok, you say, well what could we do?

One obvious way to arbitrage the spread would be through the futures market. You could go out a few years, and buy the natural gas futures, and sell the oil futures of the same date. Then every so often you could roll over the position. The problem with this approach is that, as seen above, the market is already showing prices will compress, so you have to bet the actual rate of compression takes place faster than the market says it will. Even if the spread does compress faster, there aren’t huge returns to be made here, and there is a real risk that the spread will compress more slowly than the market thinks.

Another approach would be to go long natural gas exploration and production (E&P) companies, such as Chesapeake Energy, and short crude oil companies, such as Exxon. A few problems here. First, it’s somewhat difficult to construct a good market neutral hedge. You could use ETFs or put together dollar- or beta-neutral baskets of these stocks, but it would be hard to get the pure spread compression exposure we are looking for. Second, here again, you have the stock market which presumably prices in the spread compression we see in the futures market, so as with the futures market you might ultimately be at the mercy of the rate of compression.

You could try investing in companies focused on the markets that focus on the spread, as with for natural gas for vehicles, since burning natural gas in cars makes sense at these spreads. But that’s really a bet on compressed natural gas, which is not to say that it won’t work out well, but that it’s just not a spread bet. You might invest in LNG terminals. Cheniere Energy Partners just got $2 billion from The Blackstone Group, which obviously thinks this is a good way to go. But for the public market investor, these LNG stocks have already been bid up, and as with market for natural gas for vehicles, LNG terminals are only on one side of the trade: the natural gas side.

What about gas-to-liquids (“GTL”) technology, through which natural gas is converted into synthetic oil products? The technology for manufacturing synthetic fuel is not new. During the second world war, Germany was seeking oil for its war effort, and began experimenting with the Fischer-Tropsch process as a means of deriving synthetic fuel from its abundant coal resources. More recently, several major oil companies have used natural gas as a feedstock for generating synthetic crude oil. Examples include Chevron’s Escravos project in Nigeria, and Shell’s Pearl GTL plant in Qatar. The problem here is that the economics of these plants are embedded in large oil companies, so we can’t invest in them directly. Or can we? Before we write off this approach allow me to suggest that perhaps you don’t need to be Chevron or Shell to make such an investment.

Despite that the projects above are huge, it turns out that you don’t necessarily need to rely on economies of scale to make the technology work. It’s not rocket science – the Germans were doing it in the 20s. These giant plants can be scaled down to a very modest size and still generate attractive returns on capital. The technology is not prohibitively complex, although you do need a sophisticated engineer who understands Fischer-Tropsch and can design and run your plant. Many of the parts required to construct such a GTL plant are common and can be purchased off the shelf, and put together by a knowledgeable and experienced contractor. Once constructed, a skid mounted module can be trucked out to a site where it is connected to a natural gas source.

Let’s walk through the economics of a potential project.

Ok, assume you are an entrepreneur focused on taking advantage of the BTU spread discussed above. You hire an engineer who tells you he can construct a small GTL plant for $15 million. The plant requires feed gas of 1 million MCF per year, which is roughly equivalent to 1 million MMBTU. The output of the plant will be 4.6 million gallons of diesel fuel, which is roughly 650,000 MMBTU. Therefore, for every BTU of input gas, you get 0.65 BTU of diesel output, which means the plant operates at 65% efficiency.

Next you approach a small producer of natural gas, who owns some small gas fields. You tell him you want a reliable supply of 1 million MCF of gas per year for the next 8 years to supply your project, but you’ll give him a great price. The producer has 30-40 wells in one field he is prepared to dedicate to the project. Below is the futures curve for natural gas versus the fixed $4.50 per MCF you are prepared to pay him over the next 8 years:

This seems like a pretty good deal for the gas producer, and he agrees to supply the gas for the project.

Next you want to find a company who you can enter into an offtake agreement with for the diesel. It just so happens that there is a large local distributor with a fleet of trucks who is interested in a long term contract. Below is a futures curve for diesel fuel versus the fixed price $2.75 per gallon offer you make to the distributor:

This looks like a pretty good deal for the distributor, and he agrees to buy all the diesel the project can produce for the next 8 years.

Now let’s take a look at the single year economics on the plant, and see what our cash flows will look like:

We can see the project generates approximately $12.6 million in revenues, with the feedgas cost of goods of $4.5 million. There are $0.5 million of expenses, which includes the cost of an engineer to keep the plant running. We assume 8 year straightline depreciation, and a 40% tax rate. With ~$5 million in cash flow, your yearly after-tax cash yield on your initial $15 million investment is roughly 34%. What do the project IRRs look like?

It appears you make your money back in year 3, with unlevered IRRs climbing into the mid-teens range in year 4, and into the 21-34% range for years 5-8.

You’re going to want a strong return like this based on the many risks you run. The project might take longer than you think to get started, and you may suffer cost overruns. The plant efficiency may be lower than 65%. Your $0.5 million of expenses per year may be understated. You have counterparty risk, with the possibility that either your gas producer or diesel buyer goes bankrupt.

But there are ways to manage around these problems, and even if that 30%+ got whittled down to something lower, you might still do very well. Additionally, there could be ways to finance the project with debt that would enhance the economics dramatically. And if you could put a few of these deals together, you might start to get smart about how to build, manage and finance them efficiently. Perhaps best of all, this kind of investment captures the current and future spread in the market and takes advantage of it in a way that you can’t really do in the public markets. If you can lock in the supply and distribution arrangements described above you should be able to generate strong returns for many years.

There are entrepreneurs out there today working on projects very similar to this, and they are looking for financing. With the BTU spread between oil and natural gas at historic highs, perhaps its time for investors to start looking at these projects. We’re here to tell you that you don’t need to be a major oil company to make money on the giant BTU spread. You just need to find the right project with the right agreements in place.

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Key Economic Events Week of 9/21

9/21 8:00 ET Goon Kaplan
9/21 10:00 ET Goon Evans
9/21 Noon ET Goon Brainard
9/21 6:00 pm ET Goon Williams & Goon Bostic
9/22 10:30 ET Chief Goon Powell on Capitol Hill
9/22 Noon ET Goon Barkin
9/22 3:00 pm ET Goon Bostic again
9/23 9:00 ET Goon Mester
9/23 9:45 ET Markit flash PMIs for September
9/23 10:00 ET Chief Goon Powell on Capitol Hill
9/23 11:00 ET Goon Evans again
9/23 Noon ET Goon Rosengren
9/24 1:00 pm ET Goon Bostic #3
9/24 2:00 pm ET Goon Quarles
9/24 10:00 ET Chief Goon Powell on Capitol Hill
9/24 Noon ET Goon Bullard
9/24 1:00 pm ET Goon Barkin again & Goon Evans #3
9/24 2:00 pm ET Goon Bostic #4
9/25 8:30 ET Durable Goods
9/25 11:00 ET Goon Evans #4
9/25 3:00 pm ET Goon Williams again

Key Economic Events Week of 9/14

9/15 8:30 ET Empire State and Import Price Idx
9/15 9:15 ET Cap Ute and Ind Prod
9/16 8:30 ET Retail Sales
9/16 10:00 ET Business Inventories
9/16 2:00 ET FOMC Fedlines
9/16 2:30 ET Powell Presser
9/17 8:30 ET Philly Fed
9/18 8:30 ET Current Acct Deficit

Key Economic Events Week of 9/7

9/9 10:00 ET JOLTS job openings
9/10 8:30 ET Initial jobless claims
9/10 8:30 ET PPI
9/10 10:00 ET Wholesale Inventories
9/11 8:30 ET CPI
9/11 9:45 ET Core CPI

Key Economic Events Week of 8/31

9/1 9:45 ET Markit Manu Index
9/1 10:00 ET ISM Manu Index
9/1 10:00 ET Construction Spending
9/2 8:15 ET ADP employment
9/2 10:00 ET Goon Williams
9/2 10:00 ET Factory Orders
9/3 8:30 ET Initial jobless claims
9/3 8:30 ET Trade Deficit
9/3 12:30 ET Goon Evans
9/4 8:30 ET BLSBS

Key Economic Events Week of 8/24

8/24 8:30 ET Chicago Fed Idx
8/25 10:00 ET Consumer Confidence
8/26 8:30 ET Durable Goods
8/27 8:30 ET Q2 GDP 2nd guess
8/27 9:10 ET Chief Goon Powell Jackson Hole
8/28 8:30 ET Pers Inc and Consumer Spend
8/28 8:30 ET Core Inflation
8/28 9:45 ET Chicago PMI

Key Economic Events Week of 8/17

8/17 8:30 ET Empire State Manu Idx
8/17 Noon ET Goon Bostic
8/18 8:30 ET Housing Starts
8/19 2:00 pm ET July FOMC minutes
8/20 8:30 ET Jobless claims
8/20 8:30 ET Philly Fed
8/20 10:00 ET LEIII
8/21 9:45 ET Markit flash PMIs July

Key Economic Events Week of 8/10

8/10 10:00 ET Job openings
8/11 8:30 ET Producer Price Idx
8/12 8:30 ET Consumer Price Idx
8/13 8:30 ET Initial jobless claims
8/13 8:30 ET Import Price Idx
8/14 8:30 ET Retail Sales
8/14 8:30 ET Productivity & Unit Labor Costs
8/14 8:30 ET Cap Ute and Ind Prod
8/14 10:00 ET Business Inventories

Key Economic Events Week of 8/3

8/3 9:45 ET Markit Manu PMI July
8/3 10:00 ET ISM Manu PMI July
8/3 10:00 ET Construction Spending
8/4 10:00 ET Factory Orders
8/5 8:15 ET ADP employment July
8/5 9:45 ET Markit Service PMI
8/5 10:00 ET ISM Service PMI
8/6 8:30 ET Initial jobless claims
8/7 8:30 ET BLSBS for July
8/7 10:00 ET Wholesale Inventories

Key Economic Events Week of 7/27

7/27 8:30 ET Durable Goods
7/28 9:00 ET Case-Shiller home prices
7/29 8:30 ET Advance trade in goods
7/29 2:00 ET FOMC Fedlines
7/29 2:30 ET CGP presser
7/30 8:30 ET Q2 GDP first guess
7/31 8:30 ET Personal Income and Spending
7/31 8:30 ET Core inflation
7/31 9:45 ET Chicago PMI

Key Economic Events Week of 7/20

7/21 8:30 ET Chicago Fed
7/21 2:00 ET Senate vote on Judy Shelton
7/22 10:00 ET Existing home sales
7/23 8:30 ET Jobless claims
7/23 10:00 ET Leading Economic Indicators
7/24 9:45 ET Markit flash PMIs for July

Forum Discussion

by Wizdum, 37 min 57 sec ago
by Green Lantern, Sep 20, 2020 - 8:36pm
by Trail Trekker, Sep 20, 2020 - 7:35pm
by Alembic, Sep 20, 2020 - 7:31pm