 Welcome back to Think Tech Hawaii, more specifically, welcome back to Energy in America, which we do on Wednesday afternoons at three o'clock every other week, and we're doing it today with Max Pescher, and he's a researcher with the Energy Policy Research Organization in Washington. He joins us by BMIC's call from New York City. Hi, Max. How are you? Good evening. Well, good afternoon, I think, in Hawaii. Happy New Year to everybody. Happy New Year to you, too. So we had a lot of action lately. We've had action, of course, in Iran and Iraq, and with President Trump and the assassination a few days ago, and all the fallout that fell out afterward. And one of the things that fell out, there are many things that fell out, but one of the things that fell out was oil, and people were very concerned, a lot of global anxiety, I think, and the price of oil went up through like $70, and then began to come down again. And I'm so curious how you feel about what your research tells you about that process, what we have experienced in the past on such dramatic events, what we experienced in this case, the last few days, and what we can expect to experience going forward as a result of this controversy, this confrontation between Iran and the United States. So Max, tell us about the history of oil prices in crisis. Well, many of us have this memory of oil price crises, especially the one that was induced back in 1974 with the Arab oil embargo. And that has been, that story, that myth has been carried over forward into the present. To some degree, it was reinforced during the First Iraq War in 1990, 1991. But the lessons of the last 10 years, it's sort of like the Energizer Bunny story, just, we can't keep, there are just too many things that just keep coming back from that story. And that's the North American shale revolution. The fact that we've had such robust development in the midcontinent of the United States, huge developments in crude oil and natural gas resources, and production, we've managed to mitigate major potential price spikes from geopolitical events, such as the ones that have been taking place, especially between the United States and Iran, for the last four or five years. That's essentially the theme that's been in play. However, there are a considerable number of people, commentators. Speculative commentary is the term that I've read just this evening. Too much speculative commentary saying that drastic things are going to happen. And they forget that story of the last 10 years, the Energizer Bunny story, that we've had this incredible abundance brought on us because of what's going on in the midcontinent of the United States. Well, so, okay, I was going to ask you a question that has really been on my mind for a long time. And that is, how are these prices set? So, you know, the implication, as with the stock market, would be that if you have people are anxious about the future supply of oil, if they perceive, if traders perceive that there will be, and consumers perceive, there will be a shortage because of global events, crises like this, then the price grows up. And that's what happened in the past few days. But if they perceive that maybe it's not a crisis anymore, then the price will rebalance and settle down a little bit. But my question for you is, how does that work? Who are the people who are influencing that price? Who are the traders, if you will, if it is traders and organizations around the world who experience the anxiety and who push the price up or down, depending on the news. The news in the U.S., the news overseas, the news from the administration, which we can't rely on very well, and the news from, you know, the media, which are going to be more accurate. So what's the process as you see it, pushing it up and bringing it down? The headline numbers that we see, the benchmarks, are generally driven by the futures market. Futures markets are global. They run pretty much 24 hours a day. They balance the interests of three constituencies. Producers, the crude oil producers, who need to find future markets. So they use the futures market to sell forward into the future. Consumers who need to buy at different periods across these particular calendars, mostly refineries. And then you have speculators in the middle. And speculators, it's an encompassing term, hedge funds, individual traders. And again, they're located globally. Some just speculate in the futures markets themselves. Some people, some constituencies take interest in particular cargos that are being shipped from one point to another and also trade the paper against it. So there's that middle ground, the so-called speculators take a variety of shapes. Mostly paper, mostly cargos or some combination of paper and cargos. And what ends up happening, that's the headline number that you see throughout the day, throughout the trading day, and gets quoted at the end of the day. Primarily, there's two critical benchmarks. There's the one for North America, West Texas Intermediate, and for the US markets. And there's the one for Atlantic Basin Markets, which is known as Brent. And then there's two or three other ones, Dubai and a few other ones that give you a sense of discrepancies between prices globally, between these different regions. So those are the people, that's the activity that you're seeing. And I think to your point about, well, the geopolitical angle. There are news stories, some speculators try to push the price one way or the other, play either play the short side or the long side. And the hedgers, such as the producers and consumers, producers, oil producers, or the consumers being the refiners, try to lock in something to their advantage in this whole interplay that takes place. Well, you point up one thing that I think people may not fully understand, and that is that people in the market, organizations in the market, have no reason to make money, and they want to place their bets in such a way so that they win the game. But let me explore one other thing with you, and that is, you know, recently I saw the Eddie Murphy movie called Trading Places with Eddie Murphy and Ralph Bellamy. And it was the New York commodities market, if you remember, not far from where you're sitting right now, I think. It was a chaos when they started manipulating and the price went up or down. And, you know, what struck me was the physicality of it. Of course, we all know that the New York Stock Exchange is like that, and certainly the commodity market moves faster than that, but is oil something that's traded in an open, physical market like that, with traders standing around with little buy and sell chits, or is it more computerized? How does it work these days? I think it's a combination of both. You have the pit at the NIMEX, the New York Mercantile Exchange, just off the Hudson River, the Manhattan side of the Hudson River, and you have electronic trading that goes on 24 hours a day. And you have futures markets for not just physical commodities like, energy commodities like crude oil, but currencies, agricultural commodities, and metals, and so on. These markets, the currencies in particular, move 24-7. I'm not sure of the parameters on the energy commodities, but the trading that takes place at the NIMEX, the physical trading, where you see traders wave their hands and do any number of other things, grimace at each other all day long, and then there's the electronic trading, such as when people don't see each other, they just see numbers pop up in the screen. You're starting to ask a question. You mentioned, Max, that there are little markets in various places, particularly in the Middle East, and I suppose in any market, there's a set with buyers wanting to buy and sellers wanting to sell. And so what is the effect of a given settlement in a given market against other markets around the world? If you say that there's a market in this city or this country, how does the price established in that market affect the market in another city, in another country? What's the global network on that? Well, generally people use the benchmarks, the ones that I mentioned, West Texas and the immediate for North America, Brentford Atlantic Basin, and they key from that. You can actually, if viewers are interested, viewers and listeners are interested, they can go to Shogun's website and they can see the prices as they're quoted for different particular grades of crude oil, and it will be something to the effect plus or minus a dollar against WPI benchmark on a particular day, plus or minus a few pennies on a particular day versus Brent benchmark, something like that. So all these things are listed and which refinery would be buying them. So right away, that aspect of it is very transparent for a consumer like Chevron that needs crude oil for its refineries on the West Coast. I don't know how to finish that particular sentence, but... Now we know, for example, here and why that a lot of electric oil uses still a lot of oil. We're working on renewables, but we still use a lot of oil to generate electricity for the economy. And Hawaiian Electric buys this for months at a time. They enter into contracts to buy, for example, Indonesian light oil for, I don't know, four, five, six months where the price is set for that period. That's got to be a moderating factor, isn't it? Because we don't have to worry about the price of oil for several months. We already bought it at a established rate. So why should we care about these machinations in the market going up and down? After all, we're settled. Yes and no. You're settled a hedger, like a consumer, like a refiner, wants to make sure that they can lock in their price and understand what their cost structure is. Rather than be exposed to the volatility of the market, they'll use the futures to hedge their future purchases, say Indonesian oil, such as you mentioned. And in that way, they can offset, they can either take advantage of some of the fluctuations or offset some potential losses. So when they finally produce products from that crude oil, petroleum products, gasoline, diesel jet fuel, their revenue streams are relatively more predictable than without the hedging instruments. So I suppose Align Electric and any other utility, even as it deals on future contracts, it's going to be watching these events in the Middle East. And of course, traders who trade on a commodity basis, they're going to be watching hedge funds and the like, using bets, if you will. They're going to be watching everything moment to moment, aren't they? Right. Well, the market participants that use the futures market for hedging purposes are the producers and the consumers. They're not particularly active. So what you need to introduce is equities. If somebody needs to sell, somebody needs to be on the other side of the trade. And that's where the speculators come in, the hedge fund. They provide the liquidity throughout the day. So that's what the engineering of the market is. And the financial inducement is different. For the speculators, they're looking for some way to play either a rising market or a market that's decreasing as far as price, whereas the consumers and the producers are seeking the hedge. They're different incentives and they balance, and the clearing people within the markets tend to balance these interests out. So you have a constant trading available. And that's what creates the liquidity. So it strikes me that not all traders, not all buyers and sellers, are equally competent guests into the future to make their bets. Exactly. And there's a different feature between a trader who is making some money or may be losing, and a trader who is making a lot of money is his or her ability to analyze the news as it is revealed to him or her into the future. And like crystal ball. So if you're more accurate on how things are going to go tomorrow, the day after and so forth, based on the headlines, based on whatever you're reading and thinking and hearing, then you'd be more successful. If you're accurate in perceiving the future, if you're accurate in your speculation, you're going to make more money. Am I right about this? I think so. I think one thing we haven't touched on here yet is who's the helmsman. So we have Donald Trump as president. There's a lot of unpredictability there. Things change just even throughout the day. Whereas the fire president appropriately had the nickname No Drama Obama. So the contrast is, even colloquially, that contrast I think is strong. So there's no telling how the current administration is going to pursue foreign policy. Is it going to be on wind? We have the whole impeachment process. So I think certain speculative interests try to anticipate maybe a sharper move than expected, but it's not unwarranted given the last three years history. The amount of unpredictability we've had across maybe say 20 minutes even throughout a day. And he who can figure out what Mr. Trump is going to do tomorrow morning, he'll do better. On the other hand, there are very few people who can predict what Mr. Trump is going to do tomorrow morning. Let's take a minute break, if you will, Max, and we'll come back and then we'll talk about your slides and some of the drill down that we are bound to discuss in this connection. We'll be right back on the other side of this break. Okay, we're back with Max Pescher of E-Pring Energy Policy Research Organization in Washington. And he joins us by a V-Mix call from New York City. We're talking about the effect of the confrontation with Iran on oil prices. We've seen them go up and down dramatically within a day or two. And now we're trying to figure out why. We're trying to figure out what will happen in the future. Max, you had some examples you wanted to point out of some of the principles we've been covering. There was a graph, I think. Yeah, let's look at the slides. This one's called, to spite the geopolitical excitement, product prices are range bound. Interesting. Right, so we had some activity during the beginning. These are the key product prices over the course of 2019. Near the beginning of the year, we had inventories that were tightening. And so the blue line, which is gasoline, you see it rise. But from about July through the end of the year, we've been in this tight range. And that's what the two black bars, horizontal bars indicate. We've had any number of events that have taken place in these last six or seven months. But I thought it would be good, given our discussion, the prior discussion we had in the last 15 minutes, just to isolate two events, especially as they relate to Iran, and just to show what effect they had on prices. So the first critical event was what took place on September 14th in Saudi Arabia. The drone attack on the oil production facilities, which eliminated half or five million barrels per day of Saudi production. That's the top red era. And you can see the sharp spike. But the world, not just we, but the world was in such a fortuitous situation, fortunate and fortuitous situation. We had abundant supplies, lots of sources, so you can see how that spike drained away very quickly. And Saudi production was restored. Then the second event is more a set, which can take place from the middle of the center through most recent. And again, you see a small rise to a peak on Friday, January 3rd. That's what that little peak is there. And then a dissipation. So it goes back to where the theme that sort of I said at the beginning of our discussion was, like the energizer bunny that just keeps on giving, the North American shale story just keeps on giving it. The last 10 years have provided these substantial buffers to geopolitical tensions. And that favors consumers like you and myself. People have to rely on commuting by a vehicle or so effectively it neutralizes. But you know, Max, we were living there in a period of a day anyway, maybe more, where we thought we were going to be in a war, that we were in fact in a war that the whole Middle East would melt down into a highly dangerous, highly volatile display of weapons and attacks between the United States and Iran. That's what it certainly looked like. And it had all the prospects of going global to that matter. This has got to be a real shake up to those who would make vets and hedge bets on oil prices into the future. And the question to you is, those limitations that we saw on your slide, where it's not going to exceed this price and not going to be below that price, moderating even crisis events, would those limitations apply if your worst fears were realized? If in fact this is 1914 all over again or 1939 all over again? The Guns of August, yes. I use the term speculative commentary. One of the speculative commentaries that I read where you would really have something serious happen in this part of the world is if the Straits of Hormuz were blocked. Thankfully, because of I think one or two U.S. aircraft carrier groups and other constituencies in the Gulf, that doesn't look as though it's going to happen. But if that sort of event took place, then you would have between one-fifth of the world's oil supply would be blocked. That sort of event does not seem imminent. Maybe Friday evening, January 3rd, maybe through the weekend that people were considering that, but that threat has dissipated. My sense is that if we speculate, if that sort of threat was imminent, that's when those two black bars that you saw on the graph would be, what's the word, we'd fly through the upper bar. That's where prices would go through the roof. But we're not there. Interestingly, when we reference Iran, we forget how much oil it produced during the time of the Shah. So it was between five and a half and six million barrels. Right now, it's producing between one and a half and three million barrels, half the amount. And that's for a variety of reasons. So even just removing Iran's production off the world markets is not as big of a deal. It was back in 1979 when the Shah abdicated, the U.S. Embassy was taken, the embassy employees were taken hostage, and we had to stand off for that extended period. I guess it shows you that the straits of Hormuz not only carry Iranian oil, they carry oil from other countries in the Gulf. And so if the straits of Hormuz were somehow blocked, either by what somebody threatened the Iranians, threatened sinking a ship there, it's 21 miles wide, I'm not sure how many ships you'd need. But if it was blocked by military force or otherwise, then it would be more than that one and a half million barrels of oil from Iran. It would be a lot more and it would have a bigger effect than just Iran. Right. And there's a lot of vested interest there because 90% of Saudi Arabia's national budget is determined by oil revenues. You stop that, granted they have terminals on the Red Sea side. But again, their main production fields are on the eastern side of the other country. If you inhibit that, then the government revenues cease to flow in. So it's not the rest of the world. It's not Japan. It's not China. And the US maybe receives, North America receives very little Saudi imports these days. One of the things that you guys follow is LNG, natural gas around the world from the US and other sources. And I wonder, I'm taking a guess here. I'm guessing that none of this affair with Iran affects the price or availability of natural gas. And the natural gas market would continue unabated. Am I right? Well, yes and no. I mean, the largest LNG producer is Qatar, located in the Persian Gulf. So their production, their exports, and they're solely relying on, mostly relying on exports. That if anything happened in the states of Hormuz, their cargos would not be able to get through. So there would be an effect? It would be an effect. But you've had this development, especially in Australia, especially in the United States. Again, in the last 10 years, the Energizer Bunny that keeps on giving. And there would be coverage from those particular constituencies if Qatar's LNG exports were, for somehow, were not able to be moved through the other states of Hormuz. Okay. We're out of time, Max. We'll have to leave it there. I wish them more time to discuss this, but I feel that we'll be talking about it again. Great. Great. Thank you, Max. Happy New Year. Ebrink, great to talk to you. Happy New Year. And we'll see you again hopefully in better times. Absolutely. Yes. Aloha. Thank you.