Easwaran Kanason

Co - founder of PetroEdge
Last Updated: November 11, 2016
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Business Trends

The US elections were not rigged after all. Defying several polls that showed Hillary Clinton had a distinct lead, Donald Trump won a majority of the electoral college to become the 45th President of the United States. It is a scenario that very few prepared for, and it is now the reality for the next four years. What does this mean for the energy sector?  

In his first 100 days, Donald Trump promises to:
….lift the restrictions on the production of $50 trillion dollars' worth of job-producing American energy reserves, including shale, oil, natural gas and clean coal.

….lift the Obama-Clinton roadblocks and allow vital energy infrastructure projects, like the Keystone Pipeline, to move forward

….cancel billions in payments to U.N. climate change programs and use the money to fix America's water and environmental infrastructure

In the immediate aftermath of the news, oil prices fell sharply, part of a broader plunge in financial and commodity prices as markets reacted nervously to the unexpected outcome. But less than a day after the news sunk in, numbers were up again, and crude oil prices were back were they were before November 8 – in the mid US$40s/b. This suggests that the market seems to think that Donald Trump being in the White House is no preclusion to business as usual. However, it is in the longer term that these ramifications will manifest.

First, domestically. If Hillary won, she would have pushed the energy industry down the renewables trend it has been on since Barack Obama took power. Trump has campaigned to reverse it, and most Republicans would be behind that, focusing instead of exploiting the US’s vast amounts of shale, as well as possibly reviving the Keystone XL rejected by Obama in 2015, that will ship oil sands crude from Canada to Nebraska, then onward to the US Gulf. As Sarah Palin once said – the mantra is, drill baby drill – and a Trump presidency would scale back regulation to allow more drilling. Proponents say it will pump money into neglected states and spur job creations, while opponents fear the environmental damage and usage of eminent domain. There’s also another thing – the pipeline and more drilling will pump supply into a market already suffering from a glut. 

Secondly, internationally. Trump’s rhetorical hostility to trade is well documented –slapping taxes on Chinese imports and bringing manufacturing jobs back. The Trans-Pacific Partnership with Asia and the Transatlantic Economic Partnership with the EU is likely to be killed. But putting up barriers to trade is counter-productive and this is one promise Trump may not be able to keep, if he ever had any serious thought of it. But if you can’t keep trade from coming in, you can boost it going out – so LNG export projects along the Gulf will pop up more. Trump has also criticised the Iranian nuclear deal, which removed international sanctions to allow Iran to significantly ramp up its crude exports this year. This could be reversed with unilateral sanction, creating an upside  for Oil prices here but this may overshadowed by increased US production or even OPEC. 

It is in geopolitics that the greatest worry is. The Paris International Climate Accord is going to be stalled, and Trump has threatened to de-fund everything from the United Nations to NATO. An America under Trump – if you believe the rhetoric – is going to become significantly more isolationist and significantly less “international policeman”. There are tremendous ramifications resulting from this. Trump’s pal Putin could move unchecked towards Eastern Europe and into the Middle East and retain hold of Syria. While China will take full advantage of the power vacuum in East Asia, which depends on the US to act as a counterbalance. This could stoke tensions; between Japan and China, between Southeast Asia and China over the South China Sea’s large oil reserves in Spartly Islands. 

Chicken Littles may be running around crying that the world is ending because Trump is President. They are probably overstating it. The world is not and will not be coming to an end. There is too little that we know about what Trump will accomplish in office come this January onwards.  This is a man who has no history in public governance. Will he really “walk the talk”, and grab Congress and the Senate by the b***s! 

For now what is certain is uncertainty itself. And this traditionally makes Oil markets volatile and keeps investments at bay in a market that is already reeling. 

The sun will still shine tomorrow. You can bet on that for now.  

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In 2018, the United States consumed more energy than ever before

U.S. total energy consumption

Source: U.S. Energy Information Administration, Monthly Energy Review

Primary energy consumption in the United States reached a record high of 101.3 quadrillion British thermal units (Btu) in 2018, up 4% from 2017 and 0.3% above the previous record set in 2007. The increase in 2018 was the largest increase in energy consumption, in both absolute and percentage terms, since 2010.

Consumption of fossil fuels—petroleum, natural gas, and coal—grew by 4% in 2018 and accounted for 80% of U.S. total energy consumption. Natural gas consumption reached a record high, rising by 10% from 2017. This increase in natural gas, along with relatively smaller increases in the consumption of petroleum fuels, renewable energy, and nuclear electric power, more than offset a 4% decline in coal consumption.

U.S. total energy consumption

Source: U.S. Energy Information Administration, Monthly Energy Review

Petroleum consumption in the United States increased to 20.5 million barrels per day (b/d), or 37 quadrillion Btu in 2018, up nearly 500,000 b/d from 2017 and the highest level since 2007. Growth was driven primarily by increased use in the industrial sector, which grew by about 200,000 b/d in 2018. The transportation sector grew by about 140,000 b/d in 2018 as a result of increased demand for fuels such as petroleum diesel and jet fuel.

Natural gas consumption in the United States reached a record high 83.1 billion cubic feet/day (Bcf/d), the equivalent of 31 quadrillion Btu, in 2018. Natural gas use rose across all sectors in 2018, primarily driven by weather-related factors that increased demand for space heating during the winter and for air conditioning during the summer. As more natural gas-fired power plants came online and existing natural gas-fired power plants were used more often, natural gas consumption in the electric power sector increased 15% from 2017 levels to 29.1 Bcf/d. Natural gas consumption also grew in the residential, commercial, and industrial sectors in 2018, increasing 13%, 10%, and 4% compared with 2017 levels, respectively.

Coal consumption in the United States fell to 688 million short tons (13 quadrillion Btu) in 2018, the fifth consecutive year of decline. Almost all of the reduction came from the electric power sector, which fell 4% from 2017 levels. Coal-fired power plants continued to be displaced by newer, more efficient natural gas and renewable power generation sources. In 2018, 12.9 gigawatts (GW) of coal-fired capacity were retired, while 14.6 GW of net natural gas-fired capacity were added.

U.S. fossil fuel energy consumption by sector

Source: U.S. Energy Information Administration, Monthly Energy Review

Renewable energy consumption in the United States reached a record high 11.5 quadrillion Btu in 2018, rising 3% from 2017, largely driven by the addition of new wind and solar power plants. Wind electricity consumption increased by 8% while solar consumption rose 22%. Biomass consumption, primarily in the form of transportation fuels such as fuel ethanol and biodiesel, accounted for 45% of all renewable consumption in 2018, up 1% from 2017 levels. Increases in wind, solar, and biomass consumption were partially offset by a 3% decrease in hydroelectricity consumption.

U.S. energy consumption of selected fuels

Source: U.S. Energy Information Administration, Monthly Energy Review

Nuclear consumption in the United States increased less than 1% compared with 2017 levels but still set a record for electricity generation in 2018. The number of total operable nuclear generating units decreased to 98 in September 2018 when the Oyster Creek Nuclear Generating Station in New Jersey was retired. Annual average nuclear capacity factors, which reflect the use of power plants, were slightly higher at 92.6% in 2018 compared with 92.2% in 2017.

More information about total energy consumption, production, trade, and emissions is available in EIA’s Monthly Energy Review.

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A New Frontier for LNG Pricing and Contracts

How’s this for a first? As the world’s demand for LNG continues to grow, the world’s largest LNG supplier (Shell) has inked an innovative new deal with one of the world’s largest LNG buyers (Tokyo Gas), including a coal pricing formula link for the first time in a large-scale LNG contract. It’s a notable change in an industry that has long depended on pricing gas off crude, but could this be a sign of new things to come?

Both parties have named the deal an ‘innovative solution’, with Tokyo Gas hailing it as a ‘further diversification of price indexation’ and Shell calling it a ‘tailored solutions including flexible contract terms under a variety of pricing indices.’ Beneath the rhetoric, the actual nuts and bolts is slightly more mundane. The pricing formula link to coal indexation will only be used for part of the supply, with the remainder priced off the conventional oil & gas-linked indexation ie. Brent and Henry Hub pricing. This makes sense, since Tokyo Gas will be sourcing LNG from Shell’s global portfolio – which includes upcoming projects in Canada and the US Gulf Coast. Neither party provided the split of volumes under each pricing method, meaning that the coal-linked portion could be small, acting as a hedge.

However, it is likely that the push for this came from Tokyo Gas. As one of the world’s largest LNG buyers, Tokyo Gas has been at the forefront of redefining the strict traditions of LNG contracts. Reading between the lines, this deal most likely does not include any destination restriction clauses, a change that Tokyo Gas has been particularly pushing for. With the trajectory for Brent crude prices uncertain – owing to a difficult-to-predict balance between OPEC+ and US shale – creating a third link in the pricing formula might be a good move. Particularly since in Japan, LNG faces off directly with coal in power generation. With the general retreat from nuclear power in the country, the coal-LNG battle will intensify.

What does this mean for the rest of the industry? Could coal-linked contracts become the norm? The industry has been discussing new innovations in LNG contracts at the recent LNG2019 conference in Shanghai, while the influx of new American LNG players hungry to seal deals has unleashed a new sense of flexibility. But will there be takers?

I am not a pricing expert but the answer is maybe. While Tokyo Gas predominantly uses natural gas as its power generation fuel (hence the name), it is competing with other players using cheaper coal-based generation. So in Japan, LNG and coal are direct competitors. This is also true in South Korea and much of Southeast Asia. In the two rising Asian LNG powerhouses, however, the situation is different. In China – on track to become the world’s largest LNG buyer in the next two decades – LNG is rarely used in power generation, consumed instead by residential heating. In India – where LNG imports are also rising sharply – LNG is primarily aimed at petrochemicals and fertiliser. LNG based power generation in China and India could see a surge, of course, but that will take plenty of infrastructure, and time, to build. It is far more likely that their contracts will be based off existing LNG or natural gas benchmarks, several of which are being developed in Asia alone.

If it takes off  the coal-link LNG formula is likely to remain a Asian-based development. But with the huge volumes demanded by countries in this region, that’s still a very big niche. Enough perhaps for the innovation to slowly gain traction elsewhere, next stop -  Europe?

The Shell-Tokyo Gas Deal:

Contract – April 2020-March 2030 (10 Years)

Volume – 500,000 metric tons per year

Source – Shell global portfolio

Pricing – Formula based on coal and oil & gas-linked indexes

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