Right now nearly 70% of the existing energy pipelines in the U.S. are more than 35 years old. They will need to be replaced - and soon. That means these specialty companies are about to pop in a big way.
This week I'd like to talk about how this key metric affects the balance of your energy investment portfolio.
Now, this is certainly not the only element in determining preferable stock moves, but it's critical that you know the EROEI because it could make you a lot of money.
Recognizing the real elements that determine the genuine cost of energy production, EROEI is becoming an important factor in estimating profit margins.
And those margins certainly influence the performance of a stock as we've seen all across the energy value chain in recent months.
EROEI refers to the amount of energy used to produce energy.
If this ratio produces a figure of 1.0, EROEI is telling us that it takes one barrel of oil equivalent to produce one barrel as a result.
Anything under 1.0 means that more energy is consumed in the production process than is gained as an end product.
EROEI has the advantage of being a useful yardstick throughout the energy curve - from upstream production sites (wellheads, generating facilities) through midstream (gathering, transit, storage and initial processing) to downstream (refineries, terminals, wholesale and retail distribution, end use).
Some applications of EROEI are already in wide usage, although we don't tend to think about them in these terms. Energy-efficiency ratings on appliances, heating and cooling systems, windows, or building supplies are an application at the end of the energy curve.
But how can we use this to fine-tune an investment portfolio?
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But the overall medium-term trajectory for oil prices no longer appears to be in doubt.
As I have indicated on several occasions recently, the downward movement in May and June was an overreaction to softness in the sector, with the ultimate slide over twice as large as any objective reading of the fundamentals would justify.
We are now witnessing a return to a "normal" oil market. That doesn't mean a lack of volatility or a narrow range of trading.
This normal is hardly boring.
These Three Factors Determine Oil PricesWhat it does mean is that oil prices will be determined by three factors:
- Supply and demand;
- The spread between benchmark crude grades; and
- Geopolitical tensions and events. Here, we are considering matters we've discussed here a number of times.
That results in something I have discussed previously - a sort of "cart leading the horse."
And yes, they are higher.
But the real spike hasn't hit. Not yet.
The rising crisis atmosphere in the region and the genuine possibility that a fourth round of talks between the two sides will not even take place should have renewed the upward movement.
That hasn't taken place yet, either.
Oil prices are caught between the normal dynamics of geopolitical concerns - which push prices north - and continuing concerns over a global economic slowdown - which results in lowering expectations.
Now, this limbo is a delicate balance; it could change in a matter of hours.
We are likely to see a short-term rise Monday evening if the Norwegian oil and gas sector strike is not averted. Labor negotiations between Norway's oil workers and employers over pay and pensions failed - yet again - yesterday. The country is now just hours away from the first complete shutdown of its oil industry in decades. (Already, the strike has cut oil output by 13%, according to Reuters.)
Then there are the figures coming out from the Energy Information Administration (EIA) on Wednesday, which will almost certainly show a drawdown on U.S. inventories. Normally, that would also push up prices.
However, absent an Iranian move against the Strait of Hormuz or a major refinery accident somewhere in the world, the rise will be less than usual.
That's because right now, four things are tempering the oil price rise: