LNG USER COUNTRIES STRIKE BACK

December 4, 2013 § 1 Comment

Japan and India are collaborating to fight back against high LNG prices.  In the Reuters report the countries are stated as strategizing to keep costs down.  Both these countries, and others in Asia, Korea in particular, depend upon LNG for critical needs such as power production.  This is especially the case in Japan, where the post Fukushima Daiichi disaster decision to shut down nuclear plants has caused natural gas to be a preferred fuel option.  India and China continue to use coal in large measure.

lng tanker

The problem faced by Asian buyers is that the delivered price is completely out of kilter with actual costs involved. First there is the pricing mechanism.  LNG price is pegged to the price of oil.  This harkens back to the days when oil and gas were at parity on the basis of energy content.  That went by the boards a while back and today oil is five times as expensive as gas in the US and about twice as expensive in Europe.  So the pegging to oil prices is simply a windfall for LNG producers. The users are striking back, and new options for sourcing, such as the US and new capacity in Australia, are helping.  Australia is particularly advantaged.  Their location allows for relatively low shipping costs and yet they enjoy the pricing dictated by other more distant producers.  This also applies to their export of iron ore to Asia.

The Japan collaboration with India is interesting in part because the collaboration is not with the near neighbor Korea, the second largest importer in the world next to Japan.  Clearly shipping logistics are not in play here, but more so diplomacy and the willingness to cooperate.  The mechanisms mentioned include coordinated purchasing.  Landed prices in India are already lower than in Japan, in something of a nod to the shorter distance from the Persian Gulf sources.  But these are still over 3 times the controlled price that domestic producers are allowed to charge.  This sort of disparity is evident in Argentina as well, where Bolivian gas is imported at a higher price than paid to domestic producers.

Although alternate pricing mechanisms are inevitable, this is still something of a sellers’ market.  Shale gas in the US has disrupted that balance to some degree.  Certainly LNG destined for the US is no longer needed.  That capacity is now going elsewhere, temporarily depressing prices in part because it all happened with such rapidity.  Eventually this will return to a supply demand balance that existed prior to the shale gas event.  The only disruption to this scenario would be significant shale gas production in importing countries.  All the indications are that this is unlikely any time soon.  Europe was the best bet but results in Poland to date have been disappointing.  The UK is making noise in this area but not much in the form of tangible results as yet.

 

Russia has every incentive to retain the current mechanism because it artificially raises the price they can charge for their pipelined gas to Europe and China.  Furthermore, highly variable pricing, such as based solely on Henry Hub may always be impractical.  This is because LNG production facilities are multi-billion dollar undertakings that rely upon predictable pricing for raw materials and product.  At least that is the argument that producers are vociferously making in the cited piece above.  No matter that similarly capital intensive industries such as iron and steel have survived, albeit barely in some years, with variable pricing on the product.

The slowness of federal permitting of US LNG exports is raising the issue as to whether this is in contravention of WTO regulations.  Some believe it smacks of protectionism.  Another interesting wild card is the expected explosion in the domestic use of LNG in transportation in displacing diesel.  Likely, however, is the scenario that much of the LNG will be from miniLNG sources and not the massively idled import terminal capability currently applying for export permits.

Vikram Rao

TWIN PEAKS

August 19, 2013 § 2 Comments

A recent issue of the Economist has a piece predicting a peak in oil demand.  Until recently all the noise has been around the theory of peak oil production.  Much ink has been put on paper on this topic and it even has variants.  The version that I subscribe to is not peak oil in the sense of declining resources, but rather peak ability to produce.  While this may seem like hair splitting, the difference lies in what is available versus what is economically available.  Necessarily, therefore, these numbers depend heavily on a forecast of price.  The higher this is, the more viable certain resources.

Peak oil demand dinosaur

This is why the discussion of that other peak, that of demand, is crucial.  If in fact that turns out to be the case, oil price may well remain at levels that are unprofitable for some resource bases such as the Arctic.  The Economist article even depicts oil as a dinosaur (reproduced above from the article).  Lovely imagery notwithstanding, dinosaurs were wiped out by a cataclysmic event.  Oil will be eroded away steadily and may never ever become extinct.

In our previous discussion on peak oil, we referred to the phenomenon as a plateau not a peak.  The two studies upon which we premised that blog, both came in with their plateaus in the low to mid nineties million barrels oil per day (bpd).  The lower number, that of the French Petroleum Institute, IFP was 92 million bpd.  Notably, and almost certainly coincidentally, the Economist citation of two studies is precisely that number, this time for demand.  The Twin Peaks, as it were, if they were to materialize, would produce immense price stability.  In the absence of a demand plateau we had theorized that a flattening of supply would lead to a continual rise in oil price.  This was a partial basis for our belief that the oil/gas spread would remain large, at least in North America.

Implications of a Demand Peak:  Worldwide about 60% of oil usage is for transportation.  That percentage is much higher in the US.  But the point is that the non-transportation uses are probably the most vulnerable to substitution by natural gas.  The largest two sectors are as a fuel (heating, electricity, other industrial processes) and in chemicals production.  The degree of substitution will be driven by the spread in oil/gas price and the longevity of the same.  Unlike in the past, the newer shale gas sources are abundant and forecasted to have predictably low prices for natural gas for decades.  If this forecast holds it will cement the substitution and thus lower the peak oil demand.

Easy to understand is the conclusion that the coincident peaks will put supply and demand in balance, thus stabilizing the price of oil.  In that case the price of natural gas alone will determine the spread.  Arguably all of the oil to gas substitution will put some upward pressure on natural gas price.  LNG notwithstanding, gas is dominantly a regional, not world, commodity.  The upward pressure will be less in North America, with shale gas resources that will unleash in response to demand.  Eventually other countries will have that capability, notably China and Argentina.  In the meantime higher local prices could slow some of the oil substitution.

Will a peak in demand cause a reduction in the ability of the Saudis to manipulate oil prices?  Probably not; if anything it could increase the urgency to prevent serious dips in price.  The cost of their social programs dictates the need for stable high prices.  But if reduced output is needed to prevent dips, this could have a net negative impact on their economy.  But in an odd twist, the current move to switch from oil to other means for electricity production could come under review.  If surplus oil were available due to export curtailment it could be burnt for power without a deleterious impact on revenues.  In any case, diversification away from oil as the dominant source of income will be a key.

We have in our columns here discussed the displacement of oil based products with natural gas sourced fuels and chemicals.  Certainly the displacement of coal by gas in electricity production has been at a high rate, almost single handedly lowering CO2 emissions to 1994 levels.  But this Economist article is the first I have seen that discusses energy efficiencies combined with substitution of oil to the point that demand plateaus.  Dinosaurs are cool.  But the accurate imagery is that of Luft and Korin, turning oil into salt.

Vikram Rao

DEIFYING AND DEFYING DIESEL

August 12, 2013 § 1 Comment

Diesel rightly deserves a place of pride in the world of transport fuels. The high density fuel combined with a high efficiency engine provides fuel economy which is a full third over that of gasoline. This is why it is the sole fuel of choice for long haul and heavy duty trucks, and off-road equipment that are the backbone of agriculture. 95% of school buses run on diesel. But diesel carries environmental baggage. For that reason, and because it is by and large a product of oil, it invites substitution, especially in urban areas.
Rudolf-Diesel
Diesel fuel and its use have seen significant advances over the last twenty years. The principal of these is the utilization of low sulfur fuel. While this has been mandated for on-road vehicles, the off-road regulation has been left to the states and is variable. Also, there are nearly a million diesel generators in the US performing a variety of functions. In places like India which are subject to regular electricity shut offs, virtually all the generators use diesel. A high concentration of these is in urban areas.
The other major advances have been in the implementation of particulate filters and urea injectors. Oxides of nitrogen (NOx) are formed at the relatively high temperatures of combustion in a diesel engine. Urea injection removes nearly 90% of the NOx by converting them to nitrogen and water. But despite efforts to date, the preponderance of evidence suggests that the fine particulates from diesel combustion (PM 2.5) are serious contributors to mortality and morbidity.
All of the above has caused diesel displacement, initially by compressed natural gas (CNG) particularly in urban areas. In 1998 the Indian Supreme Court mandated the switch on all public vehicles in Delhi and full implementation took several years. The World Bank reported on significant improvements in mortality and morbidity. Since then Kuala Lampur has done the same, as have many other Indian cities. In the US the pace of adoption has been much slower but is picking up, mostly due to the low cost of natural gas. But, except for the Honda Civic, no passenger vehicle has been designed to run on CNG. The daunting aspect is that the volumetric density is nearly one fourth that of gasoline. But numerous research efforts, many of these funded by the DOE’s ARPA E, are targeting a doubling together with 500 psi storage pressure versus 3500 psi in conventional systems. This last will allow faster and cheaper filling stations and will be an enabler for home filling.
The substitutes are many. They start with diesel produced from natural gas. This is sulfur free and ought to be devoid of any aromatics. Even the appearance is benign: a whitish somewhat translucent fluid. At a meeting I spoke at in Qatar Shell showed off their product by dispensing from a transparent pump. This substitute of course is a simple drop-in and should actually sell for a premium. Biodiesel was much in vogue for a while. It too is a drop-in but the raw material for its production tends to be in pockets of availability. Crop based biodiesel, from Canola, for example is very easy to make; practically a garage operation. But sources such as soy bean have drawn fire for using excessive water in the cultivation. On balance this avenue is likely to remain a boutique.
All the other substitutes come with degrees of difficulty in the engine or the infrastructure and dispensing. The aforementioned CNG is the current leader, and is most applicable to short haul fleets because of the ease of filling logistics. The other candidates are liquefied natural gas (LNG) and dimethyl ether (DME), in that order at this time.
LNG is believed to be more viable for long haul transport than is CNG, simply for reasons of range. Until recently I was bearish on the distribution costs. LNG production plants are large, with even a modest size one having production of about 5 million gallons of diesel equivalent per day (about 9 million gallons of LNG). Given that each truck carries 180 gallons, that plant will need to deliver considerable distances in refrigerated containers at -163 degrees F. But recent reports of a relatively new refrigeration technology, the nitrogen expansion cycle, offer the promise of small footprint production at reasonable cost. These would be in the range of just 30,000 gallon diesel equivalents per day.
The latest entrant is DME, emboldened by the low production cost driven by the current and projected low cost of natural gas. It is clean burning, with reduced NOx emissions due to the lower temperature burn and zero particulates. This last is the big driver. Volvo, and their subsidiary Mack Trucks, have announced the 2015 launch of a standard 13 liter engine running solely on DME. DME is stored and transported much like propane and the viability of economic infrastructure will likely be reliant on small footprint production.
Even methanol is entering the derby, albeit at a research stage for the present. Professor Cohn at MIT has designed and built prototype engines running on a diesel blend with methanol. In his concept methanol is injected at discrete intervals during the piston stroke. The evaporative cooling allows for higher compressions. He claims that his 9 liter engine with these features will do the job of the standard 13 liter diesel engine. A lot of the benefit comes from the reduced weight.
The diesel engine was one of the early internal combustion engines devised and named after the inventor Rudolf Diesel. Gasoline displaced it over the years. Yet, the modern diesel engine is the workhorse of commercial transport, and for good reason. But the health ramifications of fine particulate emissions are driving the desire for substitutes. This is especially the case in non-attainment areas. Cheap shale gas, at least in North America, is a significant enabler. Displacing powerful incumbents is hard. The reasons must be compelling. Here in the US we may have those.
Vikram Rao

OF POWER SHIFTS AND SPARE CAPACITY

August 2, 2013 § 1 Comment

A recent article by Bordoff (Columbia University) and Levi (Brookings Institution) makes some interesting observations with regard to a possible shift in the balance of oil power from the Middle East to the Western Hemisphere.  Of particular note is their discussion of the concept of spare capacity.  For a net exporting nation this would be defined as the ability to shut in or produce more at will.  They report that the Saudis have spare capacity of 3.5 million barrels per day (MMbpd) against total exports of 8.7 MMbpd.
saudi prince
This immense spare capacity allows the Saudis to be the moderating influence on oil prices. If prices rise steeply, with the risk of causing demand destruction, the Saudis can open the spigots. They could also respond to pressure from influential importing nations. No small wonder, therefore, that the US continues to have a comfortable relationship with the Kingdom despite major differences of opinion on issues such as women’s rights and the war on terrorism.

For net importing nations the concept of spare capacity scarcely applies. For the US, increased domestic production, which is proceeding in leaps and bounds, merely means decreased reliance on foreign oil. But here is the kicker. Our new found oil is all from tight formations and virtually all of it is sweet, light oil. It commands a higher price than the heavy oil from Canada, Mexico and Venezuela. Many of our refineries have invested heavily in coking equipment to deal with the heavy stuff. Their margins are less for the light crude. So, the displaced crude will be the light oil from Nigeria and some from the Middle East, which is increasingly turning heavier, despite the benchmark name Arabian Light.

All of this complication underlines a truism: oil is not just oil and refineries are very picky about what crude suits them.  The smartest move may be for us to export the light crude at high prices and continue to import the heavy crude at low prices (that differential can be as much as $30 per barrel).  That requires Presidential approval, I do believe.  For reasons best known to someone other than I, refined products can be exported at will but the raw oil or gas export requires approval, except to NAFTA countries.  Permitting oil exports at high prices has no downside to it especially if the resulting import is from friendlies such as Canada.  The question of Canadian oil being dirty can be debated elsewhere.  Suffice to say there are solutions if folks are prepared to be a wee bit innovative.  Unconstrained export of LNG will have a significantly net negative impact on the economy.  When you go to this link, go further to the report linked therein.
The authors of the cited article opine that the Saudis will continue to be the controlling factor on oil prices even if our dependence drops dramatically. This seems right because even if the US drops to zero oil from the Middle East, it will have an interest in keeping oil price moderated. In part this would be to keep our own imported oil price in check, and in part it could be to protect our allies. But this probably means that the dreams of a few of us, of ceasing the policing of the Strait of Hormuz, may well need to be relegated to the wishful thinking pile.

One important point missed by the authors is the potential impact of gas and gas derivatives reducing domestic demand for oil.  They recognize the oil/gas price spread and the arbitrage opportunity it brings in the chemicals industry.  But they don’t sufficiently recognize the significant movement in displacing diesel with compressed natural gas (CNG), liquefied natural gas (LNG), gas derived synthetic diesel and dimethyl ether (DME).  Technology is increasingly enabling this direction and it could have a material impact upon the demand for oil.  When added to the oil derived chemicals, such as nitrogen fertilizer, ethylene and propylene, as already noted by them, significant demand destruction of oil can be anticipated in the US.  This was noted recently be a Saudi prince (pictured above) in a warning to the Saudis to diversify.
One final argument relates to the previous point regarding the role of abundant and cheap natural gas in the US. To the extent that this affects demand destruction of oil, natural gas could be the spare capacity nobody is thinking about. It can be turned on in under a month when needed. Shutting in natural gas is more feasible than shutting in oil. In an odd twist the oil substitute natural gas could be our spare oil capacity.
Vikram Rao

“Just In Place” Manufacturing

July 22, 2013 § 6 Comments

Many are aware of Just In Time (JIT) manufacturing.  It was originally invented by Toyota Motor Company and then copied elsewhere.  This is one of the principal tenets of lean manufacturing, the technique of manufacturing with a minimum of waste.  The most powerful piece of JIT is inventory control.  Inventory is kept slim at each juncture of the manufacturing cycle and made available only just in time as needed.  Similarly products are made only as needed, thus minimizing finished goods inventory.

JIT image

JIT is powerful and the principles go beyond the fairly obvious efficiencies in sequential assembly line type of manufacture.  Goldratt broadened it into his Theory of Constraints as first detailed in his extremely readable book The Goal.  In all of the discussions in the past manufacturing has been defined by large plants that make and then distribute products.  We will discuss here a relatively new concept: make it when you need it (just as in JIT), but also right where you need it.  I call it Just In Place (JIP) manufacturing.

Almost by definition JIP entails smaller plants.  This flies firmly in the face of the engineering principle known as Economies of Scale.  Larger plants are simply more efficient per unit of production.  Consequently, we are presented with the engineering challenge to ameliorate this effect.  Certain endeavors, such as production of vehicles, will simply not meet the criteria.  Electricity production using solar panels fits like a glove.  In fact, one could argue that solar power ought to be distributed to take advantage of the inherently valuable feature, and not be force-fed into large solar farms.

JIP plants will enjoy the economic advantage of reduced distribution infrastructure.  In the limit, as for example of transport fuel produced directly at a truck stop, the infrastructure is essentially zero.  This brings us to the question: which products may inherently be better suited to JIP? Rather than taking a crack at a generic argument, we will discuss two examples, both in the transportation sector.

Cheap natural gas in North America has emboldened the displacement of gasoline and diesel with natural gas.  To the extent that methane is used directly in the engine, the production of the fuel simply entails tapping into the natural gas infrastructure, which is extensive.  If compressed natural gas (CNG) is the fuel carrier in the vehicle, it can be filled at a service station.  But if the more energy dense Liquefied Natural Gas (LNG) is required, as it would be for long haul trucks, distribution infrastructure for LNG becomes an issue.  LNG is conventionally made in massive plants and refrigerated transport over great distances could be prohibitive. Each normal LNG plant produces at least 9 million gallons per day.  That is about 5.2 million gallons diesel equivalent per day (LNG has about 58% of the energy content of diesel).  That is a lot of truck fill ups at 180 gallons a pop, so distribution will be needed to a lot truck stops.

Mini LNG plants are slated for about 50,000 gallons per day.  This is about 160 fill ups.  Also the natural gas requirement is only 4 million cubic feet per day a manageable rate for most gas supply lines.  A number of big players are after this segment, including Linde, Shell and GE.  An ongoing study at RTI appears to indicate that if the newer nitrogen expansion cycle method of refrigeration is used, small scale plants could deliver LNG quite economically.  Keep also in mind that preparing on or near the site for essentially same day use is a good deal cheaper on refrigeration than shipping over distances.  This stuff is stored at -162 degrees Fahrenheit.

Volvo recently announced a truck engine running on dimethyl ether (DME).  DME is derived from natural gas and produces zero particulates when combusted.  At current natural gas prices on a diesel equivalence basis it can be manufactured for far less than the cost of diesel.  Volvo is teaming up with Oberon Fuels, a California company, who have designed plants to make DME economically on a scale over 100 times smaller than conventional plants.  Although Oberon is the current leader, others are heading in the same direction.  Some of these others are targeting the production of diesel from natural gas, a somewhat more difficult target than DME.

One other tidbit. Smaller plants are easier to finance, are quicker to build and distribute jobs all over the country rather than in concentrations such as the Houston Ship Channel.

Just In Place manufacture is on its way.  Watch that space.

Vikram Rao

Putin Preaches Energy Security

July 1, 2013 § 1 Comment

In a recent news report President Putin of Russia defends current pricing of natural gas.  One expects self-interest to play roles in the voicing of opinion by country leaders.  But really, invoking buyer energy security to support the Russian position is rather specious.  Russia dominates gas supply to most of Europe, especially southern Europe.  Countries such as Greece are completely dependent.  Their energy security would be enhanced by alternative sources not increased reliance on Russia.

Putin was defending two different, albeit related, Russian stances.  One is the need for take-or-pay long term contracts.  Expensive pipelines require these to justify the investment.  Not indefinitely, though; after the amortized lifetime the argument is weak.

The second issue, pegging the contract terms to the price of oil, is indefensible.  Back in the days when oil and gas had pricing parity on the basis of energy content, this made sense.  Today, with oil anywhere from twice to five times more expensive than gas, pegging to oil gives the gas producer an advantage.  It creates absurd situations such as in India, where imported LNG, pegged to oil, is priced at over $15 per MMBTU, while domestic producers are allowed to sell gas for only $4.20.  Furthermore, all current models indicate that gas price will rise modestly compared to oil prices.  In Europe, gas contracts probably ought to be pegged to landed LNG prices, this being the only serious alternative to Russian gas.

Vikram Rao

Another Brick in the Wall

June 30, 2013 § 7 Comments

A recent announcement by Volvo is yet another salvo into the fortress of oil.  They announced the commercial launch of a truck engine that uses Dimethyl Ether (DME) without any diesel blend.  We have spoken about DME previously in this blog, but it bears repetition.  The structure of the molecule is such that when it burns no soot is produced.  The principal knock on diesel is not the carbon dioxide produced on combustion, it is the soot.  Things have improved markedly since the days of the black smoke belching from the back of school buses.  But small particulates, which the cognoscenti refer to as PM2.5, are implicated in various respiratory illnesses.  When New Delhi moved from diesel to Compressed Natural Gas (CNG) on all public vehicles, the mortality and morbidity improvements were dramatic, as reported on by the World Bank. By the way, that move was prompted by an order from the Indian Supreme Court.  And you thought the Supremes only bothered with the likes of hanging chads and rogue sheriffs in Arizona.DME truck

This underlines a favorite theme for me.  I am all for reducing carbon dioxide emissions because there appears little doubt these are harmful.  But in the short term, the health effects of diesel emissions loom larger.  In general, substituting for oil based fuel is a good idea, especially when the substitute is better for the health of the populace.  Pink Floyd aficionados will blanch at my use of their signature song in the title.  But I have always interpreted the lyrics as meaning that any individual teacher was no more than just another brick in the wall of learning.  So, in that sense, DME fueled trucks are an important step in that long road to eroding the monopoly of oil.  Sure, there will be issues.  The vast majority of the DME used in the US is imported.  Distribution of the fuel to gas stations will be daunting.  But most anything good is going to take effort.

The announcement referenced above concerned a vehicle demonstration by Volvo in Sacramento.  They were joined by a fledgling outfit named Oberon Fuels.  These folks announced the launch of small plants producing a modest 10000 gallons per day of DME.  This sort of distributed production of fuel will be a key to the infrastructure dilemma.  For perspective, typical DME plants would be sized for over 1 million gallons per day, requiring serious distribution infrastructure.  Another advantage of the small plants is the low cost and easier financing. Importantly, they can be expected to be operational in two years, as compared to four or more years for conventional plants.

I was recently making a presentation to administration officials in which one part referred to the environmental benefits of blending DME in diesel.  I noted that up to 20% could be blended with no modifications to the engine.  The secretary of the agency in question asked about the viability of pure DME.  I said they were experimenting in Sweden and Japan, but that I would check.  Weeks later came this announcement.  His interest was in part for school buses.  That is a neat concept: our children will be spared diesel fumes.  Incidentally, as far as that goes, CNG fits the bill as well.

We have discussed just the health and environmental benefits of substituting for diesel.  A compelling value is cost.  At natural gas prices today, DME can be produced at costs well below that of diesel.  Cheaper and better: one could well quaff one’s favorite beverage to that.

Vikram Rao

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