We Study Billionaires - The Investor’s Podcast Network - TIP 089 : Oil - A Bearish Opinion (Investment Podcast)

Starting point is 00:00:00 We study billionaires, and this is episode 89 of The Investors Podcast. Broadcasting from Bel Air, Maryland. This is the Investors Podcast. They'll read the books and summarize the lessons. They'll test the waters and tell you when it's cold. They'll give you actionable investing strategies. Your host, Preston Pish and Sting Broderson. Hey, hey, hey, how's everybody doing out there?

Starting point is 00:00:30 This is Preston Pish, and I'm your host for The Investors Podcast. And as usual, I'm accompanied by my co-host, Stig Broderson, who's out in Denmark. Today we have a really fun guest for you because everyone likes to talk about oil. And oil is such a hot topic right now. And just so if people are listening to this show into the future, the date today is 15 May, 2016. And oil is just like such a hot topic because it's been all over the place. And so what we did is we went out and everyone knows we had Morgan Downey on our show who is an oil expert. I'm sure our guest today is heard of Morgan from his book Oil 101.

Starting point is 00:01:09 Yeah, she's not in her head. But man, do we have a guest for you today that knows oil like no one else? And this is Gail Teverberg. So she comes with a decade of experience in oil specifically. But more importantly, Gail runs a blog and the name of the blog is Ourfiniteworld.com. where she's been blogging. How long have you been doing it, Gail, for a decade have you been blogging? Since 2007.

Starting point is 00:01:36 Since 2007. And that's when it was really interesting, too, back in 2007. But her blog is all about the energy sector and oil specifically. And she literally has just years upon years of writing some of the most astute information on the oil industry. Gail has a Masters of Science from the University of Illinois at Chicago in mathematics. Right now, she's the director of energy economics at Space Solar Power Institute. And, Gail, going through your site, you have three main objectives that you like to do. And the first one is to be a researcher.

Starting point is 00:02:10 And that is beyond evident when you go to your site. The other thing that you like to say that you're intimately involved in is your actuary work. And we might get into that a little bit during the show. And then the last thing is that you're an educator. And this is the thing that Stig and I just really empathize with because that's what we're trying to do with our show is we're really trying to be educators. And so, Gail, the first thing that we want to talk about is you. We want to get to know you a little bit.

Starting point is 00:02:37 So everyone in our audience can learn more about you. How does a person like yourself get so interested in oil? How does that happen? Like, what was the fascination for you that really kind of brought you into this interest, if you will? Well, I'm an actuary. An actuary, we model insurance companies, what they're going to be. doing in the future, what kind of investment returns are going to be getting, and various kinds of related things, how much cost will be going up in the future, much returns will be going

Starting point is 00:03:07 up. And I became aware that essentially actuaries were assuming that returns would be the same indefinitely. They would never start going down. But, you know, this is what economists were assuming as well. And this, you know, really didn't make sense to me because we live in a finite world. So this was in the back of my head all along. You know, there's something wrong with this whole assumption that people have. Well, then about 2005, I became aware of the oil limit story. And the oil limit story was being told as a geological depletion story. And that's true.

Starting point is 00:03:47 It is. But it's also a financial story. And I realized that from 1973, 1974, and what it had. happened back then because I worked in a financial industry back then. And it just was not some kind of, oh, you know, it just goes up and goes down. It doesn't affect anything else. You know, you have some really bad recessions and you have the stock market going way down and you have, you know, all kinds of bad effects. So I came from that background. So in 2005, I started, I became aware of the situation. and I started doing some reading.

Starting point is 00:04:30 I wrote some articles for insurance and actuarial periodical. But I could see that I couldn't really continue to work for my employer. And write about this because, you know, if you're working for an employer who's doing work on pension plans, forecasting the returns for the next umpteen years, and they're saying that the returns can be, you know, whatever it is, we'll say 8% a year or 10% a year or something like that. And I'm saying they're going to be going down. That's not going to go over too well. So I needed to leave the insurance industry. So in 2007, I took early retirement and I hadn't expected that it

Starting point is 00:05:17 would ever, quote, turn out to be anything. I didn't have any ambitions to be a great blogger. That is phenomenal. And I'll tell you, we've looked at your site. We know the numbers that are coming through your site. And I mean, you're throwing up some huge numbers of people coming through your site and reading your information. And it's not by a marketing trick or anything. It's purely your content is phenomenal, Gail. It really is.

Starting point is 00:05:42 Just to kind of tell our audience. So Gail wrote a white paper and the name of the white paper is oil supply limits and the continuing financial crisis. Brilliant writing. Absolutely brilliant. and we'll have a link to this in our show notes. Stig, go ahead and fire off the first hard question that we have. So, Gail, Presta and I have carefully studied the debt situation in the oil and gas industry. It has tripled to more than $3 trillion in just 10 years.

Starting point is 00:06:08 For me, this is just concerning. And knowing that many of the hedging contracts that was written back when oil was, say, at $80 plus has just run out, it's really adding fuel to the fire. So how do you expect the debt burden will influence investors and the oil economy in the time to come. Well, the way I see it, energy is really the foundation of the economy. Way back from the hunter-gatherer days, the way we distinguished ourselves from other animals was the fact that we could pick up sticks and burn them.

Starting point is 00:06:40 And when we could burn them, we could cook our food. And when we could cook our food, we no longer needed the big heavy jaws and the big intestines. We could grow bigger brains. So over the years, we gradually added more energy sources. Now, as went on, we found that we were burning down all the trees, and we got ourselves into fossil fuels. We got into coal and natural gas and oil. But they have to be cheap.

Starting point is 00:07:11 They have to not take too much of our own energy to do it. Once you start getting a big debt burden, you suddenly realize that there's something badly going wrong with the system. The energy products are the ones that should be throwing off lots of taxes. They should be allowing the governments to build roads cheaply, for example. But if instead, the energy products are the ones that are themselves generating debt, then you got debt upon debt, upon debt, upon debt, and everything starts looking like it's going to topple over. And that's when the government suddenly say, oh, we've got to do something to stop our big debt situation. And what should they do, Gail? I mean, if you were the CEO of the oil and gas industry,

Starting point is 00:08:01 if that was even a position, should they just start deleveraging? What should they do? Well, what happens is that they sort of automatically deleveraged by going bankrupt. and that bankruptcy passes on to a new owner who sinks with a new lower basis price that they bought it. They say, oh, we can make it given the lower prices that we're being charged right now for renting a drill rig. But they don't realize that those prices are going to go right back up again if those oil prices go up. So they really can't make it at that lower price. Yeah, and Gail, I think it's a really interesting discussion. I had the pleasure of speaking with Morgan Downey, who presid mrs.

Starting point is 00:08:45 before about this specifically. And we kind of agreed that there would be a lot of turmoil in the time to come. But in the end, it will probably lead to less supply, which will, so in the long term, have an effect on the oil price pushing the upper direction. Would you agree with that statement? Is that also how you see the debt burden play out? The way I see it is that ultimately the oil price is going to go down. It may spike up, but the general direction is down.

Starting point is 00:09:11 And the thing that people miss is that demand depends on people actually having jobs to buy the oil. And for that, we really need the middle class that's been cut out to a bigger and bigger extent over the years. So we don't have enough buyers for the things that we're creating with this high-priced oil. And this is what puts a cap on the prices. I think the other thing is that the way prices are determined is really based on a combination of wages and how much debt increases. So if your wages are going up a lot, you don't need a big contribution from debt. You know, people can go out and buy a car if their wages are high enough. But if their wages aren't high enough, then, I mean, they could save out.

Starting point is 00:10:09 for the car and the car is cheap, there's no problem. But if their wages aren't high enough, they need debt. And if the price keeps going up, they need a longer and longer term auto loan, and they need it at lower and lower interest rate so that they can sort of make it. And it does kind of look like it works for a while. But of course, these poor people can't buy another car very quickly because they now have a whatever seven-year loan or however long it is. And it takes forever to try to pay it down. And they need interest rates down near zero to keep the whole system going. So, Gail, whenever I think about the price of oil, I really look at two main variables really kind of dictating the price on it. The first one you've kind of hit out a little bit,

Starting point is 00:10:58 which is the supply and demand piece, whether you have a ton of producers, kind of like what we have right now from the last cycle, the last credit cycle where you had this massive influx of producers because the cost of money was next to near nothing. So you had all these people that flood the market and you got this oversupply situation versus the demand. So the supply and demand is one piece of that. I think the other part of it that I don't necessarily know a lot of people give enough credit to is central banks and the control of fiat currency and how that currency is also playing a part and the overall price. So as credit expands and contracts, I think that that really, you know, the commodity versus

Starting point is 00:11:40 currency thing really kind of plays into that pricing portion as well as the supply and demand. Those are the two variables that I kind of view the price of oil through. So I'm curious if you have a similar opinion. And I'm kind of curious to hear your opinions on this currency to commodity correlation. Well, you know, as we've had this situation where the various countries have been trying to lower interest rates farther and farther. What we've had is the quantitative easing and such things. And what we've also had is a lot of, quote, hot money running around from country to country based on where the lowest interest rate is and such things. So we have kind of a funny situation that I had never thought about much.

Starting point is 00:12:28 much before either. Back after the 2008, we had a price spike in 2008, and then we had a big crash in 2008 in prices. But right before the turnaround in prices, that was when quantitative easing was introduced. That was to get the interest rates down to try to get more debt out there, and it would hump up the economy enough to bring prices back up again. bring the economy back up again. And in fact, it did sort of work. And so as long as the quantitative easing was in there, it gradually pumped things back up. I think 2011 was sort of the high point. And then, you know, the oil prices sort of started drifting down between 2011 and 2014, just a little bit. But it was, but the general drift was downward. Well, once we got to 2014,

Starting point is 00:13:28 And the United States decided that it was going to discontinue its quantitative easing, and it was going to actually raise interest rates, as opposed to the rest of the world not raising interest rates. Then we suddenly had a situation where the dollar started rising relative to other currencies. And it also affected hot money that was out there being lent out because the interest rate was so low. So suddenly, instead of wanting to lend out those dollars, that interest rate, they wanted to do something else. That's what starts shifting everything around, and we ended up with the dollar very much higher than these other currencies. And that's when it wasn't just oil prices dropped way low. It was coal prices. It was natural gas prices.

Starting point is 00:14:22 It was food prices. You name it. because these other currencies, when looked at in dollars, could no longer buy as much oil. You know, on a day-to-day basis, practically, what happens is as soon as the dollar starts rising again, then the price of oil and these other things starts going down. And then it reverses and you get the same effect. Let's take a quick break and hear from today's sponsors. All right. I want you guys to imagine spending three days in Oslo at the high.

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Starting point is 00:19:03 but I listened to an interview between Boone Pickens, who I'm sure you're familiar with. We read one of his books. We weren't impressed. But the interview was with Boone Pickens and Carl Icon. And this interview took place right around Chris. Christmas timeframe of 2015. So just a few months back. And the two of them are sitting there and the Boone Pickens, I'm sure you're well aware,

Starting point is 00:19:26 had been saying oil is going to be $70, $75 a barrel within, you know, by the end of 2015, which he was dead wrong on that. And in this interview that I was listening to him and Carl Icon, he was still beating that drum that oil's going back to $75 a barrel. And it was really interesting to watch Carl Icahn's response to Boone Pickens. both these guys are billionaires. And Carl Icon said, yeah, you know, I don't necessarily agree with you on that one. And he was very skeptical.

Starting point is 00:19:56 So Carl Icon was basically saying, I think it might even go lower than where it was at in December or at least hang around for quite a while. And Boone Pickens was still beating the drum that it's going back up to $70. So I'm curious, your opinion, who do you side with? Carl Icon or Boone Pickens? Well, my view is that the oil price is not going to be able to stay very high for very long. You know, it may bounce up a little bit, but I think that the general level is going to be under $50 a barrel. And in fact, it may go much slower. So now we've got to put the time horizon that you kind of feel that that's the case.

Starting point is 00:20:34 I completely agree with you. That's the same song and dance I've been saying for a year now. I think Stig views it a little bit differently, and he knows that I'm kind of coming after him a little bit with my comment, but really I'm not. Stig looks at things more from a value investing standpoint of, hey, it's not a bad price. I'm going to buy it while it's not a bad price because my holding period's forever. So that's his vantage point. Now, and I have a very similar vantage point. I guess I'm just not a buyer at this point because I have the same opinion as you.

Starting point is 00:21:05 I think it's going to really kind of linger for a lot longer than people realize. But I think when you're looking at that, when do you see that kind of timeline maturing? Because I believe during the next credit expansion, which I think is going to be completely driven by quantitative easing and helicopter money, I think are the only tools that our government really has left. I think when they go into that mode, full blown, they're just, I mean, really going at it strong trying to create this next credit cycle. I think that oil is going to really kind of shoot up and have a major recovery in a major way. Do you see that playing out? And we have no idea what time horizon this is. But let's just say that this is a year or two years from now.

Starting point is 00:21:47 Do you see that kind of coming back or do you see this really lingering for a long period of time? Well, at most I think that the helicopter money and more quantitative easing is maybe going to get it up to $75 a barrel. And maybe it'll last for six months. you know, maybe it lasts for eight months or something. But I think these negative interest rates are having a terrible effect on banks. The banks are doing badly to begin with. These new Basel 3 rules are terrible from the point of view of increasing the overall credit to the economy.

Starting point is 00:22:20 You know, there are a lot of things that people don't realize that are counterproductive with things, they think they're lowering risk, but they're really reducing the total growth rate. of the world economy. So I completely agree with you on that. But I guess this is why I think that maybe, and I'm not saying this in the next year by no means, I think it's going to get pretty ugly by the end of the year. And I'm obviously a big bear. But this is my mindset of why I think that maybe three years from now you might see a recovery in the price is because I think that in the next year to a year and a half,

Starting point is 00:22:56 you're going to see a lot of death and destruction in the oil industry. I think you're going to see a lot of companies go under. And I think that in the end, when that happens, because this is a fight of market share, I think we all agree on that right now. This price action that's really kind of pushing it lower, it's a fight of market share. You got every producer in a world fighting for this market share. Would you agree with that, Gail? Is that really kind of get to the heart of the issue?

Starting point is 00:23:22 I definitely agree that it's a flight of market share, that everybody needs to continue to maintain their market. share. All of the economies depend on the oil exports. All of the oil producers' economies depend on selling oil. So they will do anything to maintain this production. So you don't get the reduction in supply when prices go down as fast as you would expect. And of course, having derivatives in place to hold prices up helps that all the more. And the fact that they have so much debt that they have to service makes it they can't just quit and what happens when you have bankruptcy is these companies that buy them out don't even stop production so no matter what happens the supply just keeps on at whatever price it is they will just stand on their head

Starting point is 00:24:18 to get out as much oil from the ground as they can so the lower price doesn't really cut back on supply. So what happens is that I think we end up with a much worse financial crash than what people are forecasting. Each person starts from a narrow view of what, you know, okay, the oil thing will do this. Okay, well, maybe it will. But if you take your basal three rules and you take your natural gas and you take your coal and your electricity overall problem, and also the fact that you have the lower currencies relative to the dollar, all of this money that was borrowed, the U.S. dollars that were borrowed overseas in dollars become so much higher, harder to pay back when these other currencies are lower. That creates another kind of a problem. So we've got so many

Starting point is 00:25:12 different debt problems all at the same time, they sort of start compounding. That's a big point that Ray Dalio, your last point there, as far as all this dollar denominated debt around the world. And as the dollar gains strength and becomes more valuable, it gets so much harder for all these emerging countries to pay back all those loans that they have in dollar denominated debt, which is a huge issue. And I think people don't realize the magnitude of how much dollar denominated debt there are or pegged dollar denominated debt that's out there, because that's a whole other issue is how many currencies are pegged to the dollar. And I don't think people really realize how big that behemoth really is. So a fantastic point. I'm going to throw it over

Starting point is 00:25:55 to stick for his question. So, Gail, I have to admit that when I started out, I was really mainly focused on the demand side when it came to the oil market. And I had this thesis that as long as we're growing demand for oil, and we do have a growing demand for oil, we're talking about an extra million to 1.5, perhaps a day, year by year. Well, then the price of oil would gradual increase, considering the proof oil reserves would be depleted. But after the recent crash in oil prices, I had to revaluate my original thesis, at least for the short run and perhaps also for the long run after reading your material, because after reading your material, I got a much better understanding of the supply side of it. So what you found is that as price drop, production

Starting point is 00:26:40 increases, which is completely counterintuitive to conventional economic theory. And you briefly touched upon that point before also in your response. But could you please provide us with the most important points to understand the supply side of the oil market? Well, I think I was trying to explain that situation before that, you know, all of the, you know, the current debt that we have out there, the current derivative markets we have out there, companies are unwilling to cut back. They, especially the oil exporting countries desperately need to keep up their oil exports, or they won't be able to feed their large populations that they have today.

Starting point is 00:27:22 They depend on the high tax revenues that they get. And so they can't live with $50 a barrel oil. They start having to get a lot of debt themselves. When I teach my students about microeconomics and I say, well, you have supply and when the price decreases, you will see less supply because people are not willing to supply in the market where the price is low. And then I was digging into your material again. It was really interesting to hear all of the different factors that actually needs to be

Starting point is 00:27:54 included when you see a price drop. Another factor that you also hit on is that if I have an oil rig and I might be producing at a deficit, it might still make a lot of sense to me to keep producing because if I don't, I might lose my crew. So I might be losing in the short run, but I have to hope that in the longer run I can keep producing because prices pick up. So that was just one factor. I know that there are more factors out there that you've been looking on that really

Starting point is 00:28:23 where it kind of makes sense to keep producing at a deficit because we hope price will pick up. Well, what happens, of course, with oil is that you drill a well and a big share of your costs are up front. So once you've already got this well in operation, you're not going to go out there and physically cut it off. I mean, it's going to cost you money to do that. And as you said, you also want to keep your staff.

Starting point is 00:28:52 So what you're going to do is you're going to keep all of those wells going as long as you do because you can because they're going to throw off some positive cash flow. And so at least from that point of view, you know, they may not cover all of your overhead expenses, but at least they will be providing something to do that and have loan covenants that say you have to do such and So you're going to keep them up for that reason as well. So, Gail, when I look at the spike in production, especially since 2010, a lot of the extra supply in the market that come from North America, which might not be too surprising since the marginal cost in producing here is a bit higher, especially compared to the Middle East.

Starting point is 00:29:36 But where do you see this supply, this extra production go in the future? Do you see a decline in North America? You know, they can continue to produce from existing wells, but they can't afford to undertake new projects that may be five or ten years from now. So right now they're working on projects that they started five years ago. You know, we're doing our deep water. I think we're putting more production online from that because it started so many years ago. So that kind of counteracts part of the decline, say, in the Baca. So you get some mixture in it.

Starting point is 00:30:15 But I think the general direction is going to be down. But I think also if there's lots of debt defaults, as we were saying, and a lot of financial problems, I think the demand is going to go down at the same time. Hey, Gail. So one of the things that Morgan Downey brought up whenever we had him on our show, and he had some amazing points. And one of the things that he was talking about is how expensive it's becoming as time goes on. and he's looking kind of more in the next 10 years and beyond. As we look at these producers and where they're pulling their reserves from, the locations that they're using are getting more and more expensive.

Starting point is 00:30:55 So like Saudi Arabia being able to pull it out of the ground, you would know the number a lot better than I do, but let's just say it's $20 their cost to pulled out of the ground in Saudi Arabia. That's slowly getting depleted. And as he was looking at it from a long-term perspective, he's saying that the price has to go up in the long run because of the cost it's going to take to pull oil out of the ground. So he was saying, like up in the Arctic, it might be $200 a barrel just to pull it out of the

Starting point is 00:31:20 ground as we continue to deplete these reserves. So my question for you is, as we look forward and we're thinking more long term here, knowing that that cost is going to go up to the producers, but you've got this massive competition around the world to basically own the market share. Do you see the nominal price kind of slowly creeping up, and we're talking very long term? Do you see that happening? Or do you see that the monetary policies of the world central banks at 0%? And my understanding is that your expectation is that would continue to persist,

Starting point is 00:31:56 basically annihilates any type of margin and it's going to actually maybe keep the price a little lower than we might expect. Would it be the latter? Would that be a proper description of how you see the world moving forward? Well, there's a whole lot of resource that would be available if we could get the oil price up to, I think the International Energy Association has one chart, a figure I think it's 1.4 in the World Energy Outlook 2015 that shows the oil price is going up to $300 a barrel. And with $300 a barrel oil, there's no doubt that there's just a ton of oil out there. But the problem is, the that you can't make the world run on $300 a barrel oil. It just makes the cost of products too high relative to people's wages. And so I'm afraid that we've already hit that cap. We hit $100 and then we're starting going back down.

Starting point is 00:32:57 I think we're going to have a hard time. You know, maybe we get it up to 75, but it's going to fall back from that. Let's take a quick break and hear from today's sponsors. No, it's not your imagination. Risk and regulation are ramping up, and customers now expect proof of security just to do business. That's why VANTA is a game changer. VANTA automates your compliance process and brings compliance, risk, and customer trust together on one AI-powered platform. So whether you're prepping for a SOC 2 or running an enterprise GRC program, VANTA keeps you secure and keeps your deals moving. Instead of chasing spreadsheets and screenshots, Vanta gives you

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Starting point is 00:36:18 be found in the income fund fund fund's prospectus at fundrise.com slash income. This is a paid advertisement. All right, back to the show. So a few months ago, I wrote a blog post about how one could possibly calculate the intrinsic value of oral. And it was an article that I shared with Gail. And it was really interesting to get feedback on because I always go to Gail's resources to be proven wrong. I'm smiling as I'm saying this because I know I'm prone to confirmation bias. I know that I have a tendency to always find people that agree with me whenever I have a thesis. and there's no secret.

Starting point is 00:36:55 I'm definitely more of a bull in oil than the Preston and also Gail. So when I see Gail's material and I can just read how well documented is, it's always really interesting for me to get back on whatever thesis that might be. And one thing I would like to address particular is that the philosophical discussion that many academics and I can wrap my head around is the presence of a dynamic intrinsic value of one barrel of oil. If possible, Gail, I would like to hear your thoughts about what you think is more realistic and sustainable price of oil over the next three to five years, especially given the

Starting point is 00:37:33 discussion we had about affordability before. Well, I think what we've seen is that as long as debt can keep going up, the price can keep rising. You know, it's a combination of what wages do and how much debt increases. But once the debt stops rolling, then you can't get the oil price to go up. I mean, what you pay for it really has to be based on wages. You know, we can talk about the business sector, but the business sector depends on the workers. When it comes to the government, it depends on the workers as well.

Starting point is 00:38:17 So if the wages of the workers are not rising enough, then you have to supplement it with debt. And as long as you can keep the debt growing, then the whole system can work. And Gail, just so our audience knows, what debt is it that you're referring to? Are you talking about the overall credit in the economy? Is that what you're referring to? Well, what we're looking at, if we're looking on a world basis, what happens is that as the dollar readjust relative to the other currencies, that becomes a big problem for keeping the price of oil up.

Starting point is 00:38:51 I absolutely love the fact that you're talking about that because one of the things that we've been talking about on our show a lot is really kind of Ray Dalio, billionaire Ray Dalio, net worth probably $16 to $19 billion. That's really his thesis. His thesis is that credit contraction and credit cycles are really what's driving the prices in all these markets. We talk about his video. I don't know if you've ever seen Ray Dalio's video, Gail, but we'll send you the link to it if you haven't seen it after we're done recording. But that's his big point is that debt spends just like hard currency or your monetary baseline currency, which only makes up a small portion of the overall economy and the overall spending. So he says whenever that credit starts to contract, it has this ability to basically manipulate and adjust all asset prices around the world. So one of the things that I was watching and one of the reasons I really kind of turned into a huge bear in the markets in general.

Starting point is 00:39:50 And the main reason for that was really looking at these credit cycles and quantitative easing ended in November, I want to say, of 2014. And then you really started seeing some changes there during that Christmas time frame of 2014 and at the start of 2015 where credit was starting to tighten. You saw this in the high yield market where it really kind of had the little. lowest yields at that point in time and you've seen them slowly start to trickle up. And all these indicators that you're talking about is exactly what Stig and I have really been talking about a lot on our show. So really refreshing to hear you say some of this stuff. This is just fantastic.

Starting point is 00:40:28 I've got a question that I want to throw at you. So in the past three months, and this is one of the indicators that I've been talking about on the show that I'm really kind of looking for for maybe a bottoming or signs that the oil market's really starting to show some changes. is the default rates in the oil sector. So in the last three months, we've seen a number of defaults in the oil sector start to pick up. For example, in January, just this past January 2016, there was only $30 million in oil

Starting point is 00:40:58 defaults that by April of 2016, just last month, which was only three months later, there was nearly $15 billion in oil defaults. So my question is this, are we getting to the point where, and you kind of already hit at the fact that oil is going to, your expectation is it's going to remain below $50 for this year. But are we getting in a point where you think that those defaults are going to continue to increase and get worse as time goes on? I'm sure that we're going to see more and more defaults. These companies have, you know, they're trying to keep things together the best they can. Each of them says, I'm going to sell assets and you wonder, you know, where are you going to sell?

Starting point is 00:41:42 assets too, hedge funds. You know, there's just not too many markets out there that want to buy these assets. When they do sell them, they've got to close them down and such things. The residual value is just not there. So it's not worthwhile. So November 2014, I was on the podcast and I said, hey, I think oil's going down in a major way. And the reason why there's this massive supply demand imbalance and I think it's going to, you know, crush the price. Three months later, Warren Buffett sold his Exxon mobile position and you really

Starting point is 00:42:16 started seeing oil go way down. Here we are at, you know, May of 2016 and the price has had a slight recovery from as low as 26, which was crazy. It was there for just a snapshot in time, hovered around 30 a little longer. Now it's clear up 46. And so when we were out in Omaha, everyone was saying, hey, you know, it's coming back. It might have made the turn and everything. And I said, And, you know, I think in the last year and a half, the big thing has really been the oversupply. But I think now moving forward, it's really going to be all about the under demand because of the credit contraction. And I kind of see the global economy kind of turn it in a bad direction. And I think that you're going to really start people, you're going to see people really start to cut back on their demand for oil.

Starting point is 00:43:02 Would you agree with that? Do you really think that the story in the next nine months is really going to be all about demand? It's been much more about all about demand so far than people realize. And I think it's going to continue to be all about demand that we just don't have the demand there. If we were selling $20 a barrel oil, there would be plenty of demand. It's what happens is that you just cannot keep the demand up if you go to $100 a barrel. If you go to $150 or $200 or $300 a barrel oil, there's no way the demand is there. I think that's a really interesting discussion because, Gail, what you're saying is that

Starting point is 00:43:42 the price of oil has to be somewhat low, otherwise we can't afford it. And then you would have other people, including me. And that's also why so good speaking to you, Gail, because I want my thesis to be tested here. Say that we don't have any more oil left at $30. Say that it's not profitable not to produce at this level, which is not for many companies. So say that the oil kind of has to go up, to call it $50, $60, $70. And people, $1.00. And people's not, it's not for people can't afford it. Well, what can't happen? Because you can't just replace a barrel of oil with a windmill.

Starting point is 00:44:14 It doesn't have the same chemical properties. So what's the alternatives here? Where do you see this going? Well, unfortunately, if we go back through history, we find that lots of civilizations have collapsed. And what they have collapsed from is too low return on human labor. And that too low return on human labor is really human labor leveraged with whatever kinds of energy supplies you have. And what's happening now is the same thing that happened before.

Starting point is 00:44:47 The wages of workers are not high enough. And if the wages of workers leveraged with energy supplies were higher, we'd be better off. But once the price of oil goes too high, it becomes too expensive to use. to leverage the wages of workers. It's not just oil, but it's coal and all of these other things. So what has happened in the past is that the economies eventually have collapsed. It couldn't collect enough tax money, basically, but also that the workers' wages were too low. So, Gail, a person who's listening to this podcast, their thought right now has to be, well, how does this happen?

Starting point is 00:45:31 How did we get in this position that? these are the circumstances that we're dealing with. Why do you think we've arrived at this situation? Why are we here at this juncture? I think the reason we're here at this juncture has to do with the fact that we've taken out most of the really cheap to extract oil. I mean, if you stop and think about it, Saudi Arabia, even if their price theoretically is $20 a barrel to get out, they still have to take care of all of these millions of people

Starting point is 00:46:02 they really need a high tax base from this oil besides getting the oil out of the ground. So what's happened is that our costs of oil production, when you take into account all of those roundabout costs, has gone up so much that we're in a position where it's hard to make the whole cycle work anymore. The workers are not getting enough out of it. We're ending with a situation where students get out of us, you know, they're in great. college forever, then they have lots of debt that's hard to buy new houses. So that makes the building industry contract. You have all of these things going so that the economy just doesn't grow the way it should. That that's kind of keeping things back and the fact that we've set

Starting point is 00:46:50 so much work to the parts of the world where the wages are so low. That's a really interesting discussion, Gail. And Preston and I, we are tossed on this issue with the middle class in the US a few times before. And it's like, obviously, it's a political loaded question. And I don't want to say, well, not it's right or wrong, but it's not good for the consumption. That's one thing that's for sure in the U.S. that accounts for approximately 70% of GDPs. Obviously, that's a big issue that we have these problems with the middle class.

Starting point is 00:47:18 But I'm curious to hear your thoughts on this globally because you have a set a few times that even though that you might see a rising middle class, for instance, China. and you also see that in India. They still have much low wages than they do in the U.S. So do you see that in time that the oil demand would be, in turn also the oil price will be supported by the less developed countries? Is that the way you see it? Or do you simply see that it would take too long

Starting point is 00:47:48 and would not be sustainable for those countries to support the oil price? Well, I'm not convinced that those countries can do it alone. I mean, we need our economy. very much tied into oil. China has tried to develop its economy around coal, and India also is heavily into coal, not quite as much as China. It's hard to see that that's going to work, and I've been to India. I've been to both China and India. India is so far behind China. You can't believe it, but it's hard to see that India can grow on its own or Africa. They need a cheaper energy source. Oil is just terribly expensive relative to coal. And coal was what the industrial

Starting point is 00:48:39 revolution started with. And coal is what China started with. And you have to have a cheap energy source to make things work. Okay. So before I ask the last question, I just want to encourage everyone out there whenever they read some of the material. And they sent me an email saying, oh, thank you, Stegger. Now I think I understand the oil market. Please go to Gail's material also because here's a different opinion of me. So whenever you read some of the material that we have on the podcast or I don't want to drag pressed into this, but some of the material I know that I have put in there that are more bull and oil, always make sure that you have a second opinion.

Starting point is 00:49:15 And I would definitely recommend Gail's material. But Gail, where can people find your material? Well, I have a blog which is called our finite world.com. And so I have, whatever, some large number of posts, 270 or something like that. And you can go back and you can read individual ones of them. You can search for words. I also have a page where I've made PDFs of quite a few of them. All right, Gail, fantastic.

Starting point is 00:49:44 And for people that are listening to the show, we're going to have the link to your website on our show notes. We're also going to have the link to that white paper that she wrote called Oil Supply Limits and the Continuing Financial Crisis. Gail, thank you so much for coming on our show. This was such a pleasure to talk to you about a debate that Stig and I have been pretty much having for almost two years now. So it was fun to bring you on and hear so much conversation where you agreed with my position. Because I needed this. That's so good. But thank you very much for your time.

Starting point is 00:50:15 We really appreciate it, Gail. All right. So that's all we have for you guys and we'll see you guys next week. Thanks for listening to The Investors Podcast. To listen to more shows or access to the tools discussed on the show, be sure to visit www.com. Submit your questions or request a guest appearance to the investors podcast by going to www.com.

Starting point is 00:50:39 If your question is answered during the show, you will receive a free autographed copy of the Warren Buffett Accounting Book. This podcast is for entertainment purposes only. This material is copyrighted by the TIP Network and must have written approval before a commercial application. Thank you.

We Study Billionaires - The Investor’s Podcast Network - TIP 089 : Oil - A Bearish Opinion (Investment Podcast)

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