A Lump of Oil - Doomberg

24/11/2022, 13:01 A Lump of Oil - Doomberg
A Lump of Oil
Doomberg 529 133
Oct 5
“This island is made mainly of coal and surrounded by fish. Only an organizing genius could
produce a shortage of coal and fish at the same time.” – Aneurin Bevan
On March 12, 1943, the H.M.S. Queen Elizabeth set sail across the Atlantic with some
special passengers. On board was a team of 42 oilfield workers from Oklahoma
recruited to participate in a highly secretive project. Their mission – borne of
desperation and codenamed The English Project – was to radically improve Britain’s
domestic oil production. With German U-boats crimping imports, and production on
the home front struggling, the British were staring at the ugly face of defeat. The
crown needed an energy miracle.
Salvation arrived in the form of this most unrefined crew. Over the course of the next
year, the so-called “Roughnecks of Sherwood Forest” brought their technological
know-how, experienced swagger, and get-it-done ethos to the British countryside,
bringing online nearly 100 producing oil wells. The resulting ten-fold jump in
domestic oil production played a small but critical role in holding off the German
onslaught. Today, two identical seven-foot-tall statues stand in honor of these unsung
heroes who helped transform Britain into an “unsinkable tanker” – one in Sherwood
Forest, and the other in Ardmore, Oklahoma.
https://doomberg.substack.com/p/a-lump-of-oil 1/9
Oil Patch Warrior | Waymarkin
The criticality of The English Project lays bare a rather self-evident truism: oil is
inherently more valuable than coal. While Britain was awash in coal, it couldn’t power
its airplanes with the stuff. Nor tanks, ships, or trucks. Coal has important but
limited uses, whereas oil can be refined into gasoline, diesel, asphalt, greases, and all
manner of useful petrochemicals. As the Roughnecks so ably demonstrated, the
distinction can be the difference between victory and defeat.
The passage of time may have altered many things, but it has not disturbed that
truism of inherent value. And yet, we observe today a most unusual development in
relative prices across the energy markets.
This anomaly is not readily apparent, and we must first deal with the pesky challenge
of comparing prices for primary energy fuels on a like-for-like basis. As we have
noted in prior work, energy raw materials are often quoted in different units of trade
and currencies. They also have varying inherent energy content. Such distinctions
make quick comparisons difficult for industry analysts and nearly impossible for
casual market participants.
Our preferred method to correct for these obfuscations of convention is to express all
primary fuels in US dollars per unit of inherent energy. With the price of natural gas
already quoted in US dollars per million British Thermal Units (BTUs), it serves as a
useful calibration anchor for such an exercise. Harmonizing the price of oil into this
view, we note that a barrel of WTI oil contains 5.8 million BTUs of energy, and when
we divide the quoted price of oil in barrels by 5.8 we get a price we can easily
compare to that of natural gas. Finally, a metric ton of Newcastle thermal coal
contains 24 million BTUs. Dividing its price by 24 completes the transformation
needed for across-the-board analysis. Here is a useful visual for all three fuels based
on prices quoted yesterday:
The eye is initially drawn to the massive geographic energy arbitrage that exists in
the natural gas market, a topic we have written about repeatedly (and long before it
became front-page news). Look yet again and another observation – one with
potentially greater implications – emerges: the energy price of coal is now higher than
that of oil!
You can almost hear the sound of 42 Roughnecks scoffing in disbelief.
A 10-year weekly chart comparing the price of oil normalized for energy content
drives home the unprecedented nature of this market glitch:
What to make of this extraordinary price action? More than you might think. Let’s
dig in.
We initially pondered whether this might be evidence that the paper price of oil is
being manipulated downward by the Biden administration, something many of our
contacts in the industry have been saying privately for weeks. In late August, the
Saudis all but said so publicly in unusually blunt language (emphasis added
throughout):
“Saudi Arabian Energy Minister Prince Abdulaziz bin Salman said ‘extreme’ volatility
and lack of liquidity mean the futures market is increasingly disconnected from
fundamentals and OPEC+ may be forced to cut production.
‘The paper and physical markets have become increasingly more disconnected,” he said in
response to written questions from Bloomberg News.’”
Although difficult to prove, the hypothesis does have some merit. President Biden is
an old-school politician focused heavily on the price of gasoline at the pump,
correctly assuming his political prospects depend on keeping things under control.
(If you have any doubts, just search “gas from:potus” in Twitter’s search bar and click
“Latest.”) While voters might notice increasing electricity and home heating bills on
a monthly basis, they are bombarded with the price of gas each time they drive past a
filling station and feel the hit to their wallets weekly. The massive and unprecedented
drawdown of the US Strategic Petroleum Reserve (SPR) – which, coincidently, is
scheduled to taper just after the upcoming midterm elections – stands as evidence of
Biden’s desperation to keep a lid on this all-important gauge of his political
performance.
As tempting as the manipulation hypothesis might be to some, it does nothing to

explain a related market peculiarity we’ve been highlighting for months. Here’s how
we described it in a piece called Shoemaker’s Children, originally published on June 29:
“It is in this spirit that recent action in a relatively off-the-radar corner of the coal market
caught our attention and made us ponder what our trusty Bloomberg terminal was telling
us. For the first time that we can recall, the price of thermal coal has now decisively
exceeded that of coking coal for several weeks, a bizarre situation few would have
predicted. Thermal coal is burned to produce electricity, whereas coking coal is a higher
quality product used exclusively to make steel. As the US Energy Information
Administration (EIA) describes it, ‘Coking coal must be low in sulfur and requires more
thorough cleaning than coal used in power plants, which makes the coal more expensive.’”
As the updated chart shows, this inversion has persisted and widened since our
original publication:
Both coking coal and oil are predominantly used to make higher-value materials, but
thermal coal is selling for a higher price than both. While Biden might be hyper-
focused on the price of gasoline, we doubt he – like most people – even knows the
difference between thermal and coking coal. A better explanation than simple
manipulation is needed to solve these riddles.
Our intuition tells us these historic disparities indicate something ominous:

stagflation is coming.
Stagflation is defined as persistently high inflation despite a slowing economy and is

usually caused by energy shocks. If the world is desperate to stockpile thermal coal
but has a diminished need for the value-added goods derived from coking coal and
oil, we might truly be confronting a “worst of both worlds” scenario. Recent inflation
data from Europe – whose economy is almost certainly headed for a deep recession –
is consistent with this conclusion:
“Euro zone inflation hit a new record high of 10% in September, Eurostat data showed
on Friday, up from 9.1% in August and above consensus projections of 9.7%. The reading
also showed price increases broadening out from volatile food and energy prices into
nearly all segments of the 19-member bloc’s economy. Energy prices rose 40.8% year-on-
year, up from 38.6% in August, followed by food, alcohol and tobacco at 11.8%, up from
10.6% last month.”
A 30-year chart of European inflation captures the dramatic nature of the recent
move…
…while its exploding producer price index sounds the alarm on more pain ahead:
Our good friend and recent Doom Zoom guest Mike Green has been arguing for some
time that central bankers are making a huge policy error by hiking rates into what
essentially amounts to a crisis of supply.
Michael
@profplum99
@ToStRo @hendry_hugh @SrivatsPrakash @UrbanKaoboy Strongly disagree.
The policy error in play hits needed investment, not consumption. We’re
repeating mistakes of 1970s in a macho attempt to “be tough like Volcker” and
shifting the entire system to lower productivity, higher inflation, lower standard of
living.
5:20 PM ∙ Jul 6, 2022
55 Likes 5 Retweets
Is the market for primary energy telling us he’s right?
Thanks for reading! Got a better explanation for what this market be signaling? We invite
you to “Like” this piece and add your ideas to the comments.
133 Comments
Write a comment…
Ali Writes The Middle East, and Things Oct 27

If coking coal is a discount to heating coal, why haven't buyers just switched their
purchases, given the BTU per quantity is at parity? Are supply chains that rigid that
switching can't happen quickly?
Reply Collapse
Lesley Cruiming Oct 25
I profoundly disagree with the whole Mike Green schtick. One mechanism of inflation is
that artificially low interest rates and other kinds of stimulus like Europe's PEPP tend to
create zombie companies. Since these zombies bid for resources without productive
output this misallocation of resources creates inflation. I know it's not as salient as
'moneyprinter go brrr', but why don't we hear analysts talking about this mechanism?
2 Reply Collapse
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24/11/2022, 13:01 A Lump of Oil - Doomberg

Oil Patch Warrior | Waymarkin

You can almost hear the sound of 42 Roughnecks scoffing in disbelief.

As tempting as the manipulation hypothesis might be to some, it does nothing to

Our intuition tells us these historic disparities indicate something ominous:

Stagflation is defined as persistently high inflation despite a slowing economy and is

Is the market for primary energy telling us he’s right?

Ali Writes The Middle East, and Things Oct 27

131 more comments…

© 2022 Doomberg ∙ Privacy ∙ Terms ∙ Collection notice

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