HURRICANE
IVAN, THE COSTLIEST STORM EVER
AS U.S. PRODUCTION DROPS TO 50-YEAR LOWS
by Joseph Dancy,
LSGI Advisors, Inc.
Adjunct
Professor, SMU School of Law
October 16, 2004
When
the path of the hurricane Ivan took it to the eastern Gulf of Mexico
two weeks ago most energy analysts believed that the industry had dodged
a bullet. Energy futures assumed the production platform and pipelined
filled central and western Gulf areas were not seriously impacted.
But damage assessments indicated seven production platforms were destroyed by Ivan. In addition to the lost platforms 13 pipelines, all carrying natural gas, have been damaged by the storm. Keeping in mind that all these pipelines are underwater, some at extended depths, it might take producers weeks if not months to repair these facilities (see picture).
In
addition to the platforms and pipelines, two spars have been extensively
damaged and several mobile rigs were heavily damaged by the storm. A
number of ship channels had to be re-surveyed, and in some cases
dredging will be necessary due to silt deposited in the navigation
channels by strong storm currents.
In light of the damage discovered over the last week the view that Ivan was a non-event in the energy sector has changed. We are seeing much higher crude oil and natural gas futures prices. Many analysts now predict that from an economic standpoint Ivan may be the costliest storm ever for the energy sector!
Gulf of Mexico Production Remains Shut-in;
U.S. Production at 50 Year Lows
As of today (October 17th) around 27.2% of daily crude oil production and 13.8% of daily natural gas production remained shut-in in the Gulf of Mexico – a full month after Hurricane Ivan made landfall. This translates to volumes of 460,000 barrels of oil a day and 1.7 billion cubic feet of natural gas a day offline.
On
a cumulative basis, the volume of oil production lost is around 20.3
million barrels. The volume of natural gas production lost was around 86
billion cubic feet (Bcf). This amounts to 3.4% of the annual production
of crude oil and 1.9% of the annual production of natural gas from the
Gulf.
Damage caused by Hurricane Ivan has driven U.S. domestic oil production down to a 50-year low, and the slow recovery of production means world oil markets won't quickly shake off the storm's impact. Average daily U.S. production for September is on track to be the lowest since May 1952, which came in at just under 5.1 million barrels per day according to a spokesman for the Energy Information Administration.
The fact that much of the lost crude production is of light, sweet crude is especially worrying since the low-sulfur crude is in high demand as refiners work to rebuild inventories of heating fuel before winter. High sulfur low quality crude appears to be more available at attractive prices, but many refineries do not have the capacity to refine these poor quality grade feedstocks.
At today’s elevated prices the total economic loss will likely exceed that incurred in prior storms. Based on the amount of production shut-in, losses are increasing at roughly $35 million a day and are on track to exceed $1.5 billion.
Energy Markets Remain Attractive
As
we enter the fall and winter months, peak seasons of demand for both
natural gas and crude oil, we find crude oil inventories below normal
(see Raymond James chart), at levels not seen in several decades. Add in
the lost production in the Gulf of Mexico
and it creates some interesting supply issues.
Due to the low crude oil inventories and the Ivan disruption, the U.S. government loaned several refiners crude oil from the Strategic Petroleum Reserve to insure they remained online to produce needed gasoline and distillates/heating oil.
Natural gas storage facilities on the other hand appear likely to enter the winter season at or near capacity, but keep in mind these storage facilities are used to meet only 20% or so of winter demand. The remainder is primarily supplied from North American natural gas wells. Several studies indicate that natural gas production has been falling around 2.5% to 4% year over year as the basins mature.
Due to the worldwide increase in demand for crude oil, the increase in demand for natural gas in North America, and the lost production in the Gulf of Mexico we think that higher prices for both products will be required this winter to efficiently allocate the relatively scarce supplies. We remain fully invested in the energy sector.
© 2004 Joseph Dancy
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