$US100 the magic number for oil, ore

Uncertainty over the price of oil makes Seven Group Holdings’ purchase of Nexus Energy a classic case of what business risk is all about.

Two of Perth’s famous families will be watching a common number over the next few months, with members of the Rinehart family watching the iron ore price and members of the Stokes family watching the oil price – and both hoping that they stay above $US100.

For Gina Rinehart and her tribe, an iron ore price above $US100 a tonne will ensure success of the family’s 70 per cent owned Roy Hill mine.

For Kerry Stokes and his clan, an oil price above $US100 a barrel could make a bold move into oil and gas via the proposed takeover of Nexus Energy a success.

Interestingly, and this is what business risk is all about, neither family is guaranteed of getting what it wants, which could be a novel experience for both.

In the case of iron ore, a lot hangs on continued strong demand for steel in China, a market that is showing every sign of economic indigestion – with too much steel being produced in a country that has entered an overdue slowdown after 20 years of hectic growth.

In the case of oil and gas there are also signs that rising supply and flat demand could drive the oil price down sharply, with one of the world’s top oil analysts recently forecasting that $US75 a barrel is the target, and perhaps a lot lower.

Compounding the problem is the potential for the Australian dollar to rise as commodity prices are falling – the ultimate pincer of pain for a resource-focused state such as Western Australia.

Much of what’s happening in the commodity and currency worlds is conjecture, which is another way of saying everyone’s guessing.

No-one really knows what’s happening in China, except that it is a country which must maintain a high growth rate to avoid social dislocation.

And no-one really knows which way the oil price will move because of the way it invariably becomes entangled with political factors.

However, on the evidence available it seems that iron ore at around the $US100/t mark is more assured than oil at $US100/bbl, especially given the latest thoughts from the person who first warned the world that a revolution was on the way in the shape of shale gas.

Amy Myers Jaffe, an academic at the Davis campus of the University of California and previously at Rice University in Texas, famously forecast in 2010 that, “shale gas will rock the world”.

She was right. Shale gas has rocked the world, and will go on rocking it.

The boom in US gas production alone (with other countries likely to follow) has turned the oil and gas industry upside down, with most of the predictions made by Ms Jaffe four years ago proving to be correct, including her forecasts of shale gas putting severe pressure on the finances of ‘oil states’ such as Russia and Saudi Arabia.

This week, just as the Stokes family places a big bet on the future price of oil by acquiring control of Nexus, and Australia’s biggest annual oil conference – Australian Petroleum Production & Exploration Association conference and exhibition – opens in Perth, Ms Jaffe is at it again.

This time around, with the aid of fellow academic Mahmoud El-Gamal, she reckons that the oil price will “fall precipitously over the medium term of three-to-five years”.

There might be peaks above and troughs below but the average oil price will be around $US75/bbl, a level that will cause problems for most oil and gas producers.

I’m sure we’ll be hearing a lot more about the oil price and the Nexus deal at the APPEA event.

There is little doubt that conference delegates will be keen to see the price of oil stay above $US100/bbl, and that some might be inclined to dismiss Ms Jaffe’s latest analysis as that of a lone academic.

The problem with dismissing Ms Jaffe is that she has such an impressive track record of getting it right, which is what she did in 2010 by forecasting the US shale boom and the pressure it would apply to the world’s energy sector.

Costly corn

One of Ms Jaffe’s forecasts in 2010 was that the rise of shale gas, and the way in which it would hold down the oil price, signalled trouble for the renewable and alternative fuel sector.

As if on cue with her new $US75/bbl price forecast, it is worth noting that the biofuels industry has hit the wall (as she predicted), with ethanol in the US currently costing more than petrol despite being less efficient as a transport fuel.

Officially, the reason for a gap opening between ethanol and petrol is that the US has had a poor corn harvest, which has driven up the price of the feedstock essential for ethanol production.

In truth, it is a combination of less corn being made available for fuel production as demand from food producers rises, and the price of petrol remaining highly competitive because there is an abundance of supply.

No-one is making this forecast yet but it might not take long for the competitive petrol price to kill the biofuels business, and then set off in pursuit of the other heavily subsidised energy alternatives – wind and solar.

Job security

If energy prices are hard to forecast, then try predicting what jobs will emerge unscathed from the rise of automation and computerisation.

As a thought starter, consider these suggestions from a letter published last week in London’s Financial Times newspaper.

• Lawyers: because computers can’t replace the science of making a mountain out of a molehill.

• Politicians: because no computer can bang its own drum while pretending to play everyone’s favourite tune.

• Bankers: because no-one quite knows what a banker does.

• Doctors: because they are always in demand as demonstrated by the time taken to make an appointment, and the wait when you get there.

• Public relations consultants: because computers cannot supersede the human art of persuading people to change direction by using misleading signposts.