Entries from August 2020 ↓

The death of oil?

RYAN   By Guest Blogger Ryan Lewenza


Contrary to what Green Party leader, Elizabeth May recently said, oil is not dead! Mrs. May was quite frank in her outlook for oil and the Canadian energy sector, recently stating, “My heart bleeds for people who believe the sector is going to come back. It’s not.” And in her view, “Oil is dead.”

This flippant and in my opinion, silly thing to say, shows little compassion and support to the nearly 300,000 Canadians directly employed within the sector and the countless more indirectly benefitting. Nor does it recognize that oil and gas (O&G) represents our largest export at $132 billion (2018), that it contributes 10% to our total GDP and the $14 billion in annual revenues to the Canadian government. May’s comments really struck a chord with me, so today I provide my rebuttal to this doomsday view of oil and why Canada should continue to develop our estimated 170 billion barrels of oil reserves rather than letting the sector wither and die as May proposes.

Let me preface today’s blog post by stating that I am believer in climate change, that human activity through the consumption of fossil fuels is contributing to global warming, and that we should try to minimize the impacts of O&G exploration on our environment and planet through government regulations and new technologies. While this may seem incongruent with my earlier statements, at the end of the day I’m a pragmatist and realist, so I believe there should be a balance to both energy production and the environment. Let me explain.

First, I believe May and other environmentalists focus too much on supply (i.e., production) and not enough on demand. The simple fact is the world consumes roughly 95 million barrels per day (bls/day) of oil alone and this is forecasted to rise to 105 mln bls/day by 2030, according to the IEA. Yes the IEA then expects oil consumption to plateau around that time and then decline, but it will be gradual, likely taking decades.

Whether we like it or not, oil and other petroleum products are an integral part of our lives and economy. This includes transportation fuels like gasoline and jet fuel, heating oil and electricity generation, the petrochemical industry where petroleum is used as a raw material for thousands of different household products like clothing, electronics, and agricultural products. To get off oil quickly would have devastating impacts on our economy, our standard of living and overall way of life.

Not sure about you but I like traveling, the freedom from driving my car (Note: not a Porsche!), ripping golf balls down the fairway, buying some new duds and upgrading to the latest iPhone so I can more quickly respond to blog comments. Well, the last part’s a lie but you get my drift.

Oil and petroleum products are ubiquitous and an absolute necessity in our daily lives. This is critically why the death of oil has been greatly exaggerated by May and other environmentalists.

Global Oil Demand Continues to Rise

Source: Bloomberg, Turner Investments

Second, May and others believe that oil and fossil fuels will be replaced by renewables like solar, wind and geo-thermal. While these areas will continue to see robust growth and over time will play a bigger role in our energy consumption, it will likely take decades before oil is largely replaced by these new energy sources.

British Petroleum (BP) publishes an annual report on world energy trends and it’s clear from this report how prominent fossil fuels are in meeting our global energy needs. Currently, fossil fuels (oil, natural gas and coal) make up 85% of our total energy consumption, with nuclear, hydroelectric and renewables making up 4%, 6.5%, and 5%, respectively. So renewables make up only 11% of our total energy consumption. Looking at just wind and solar, they represent a paltry 2% and 0.7%, respectively.

I’m from Windsor, ON and when I drive home to see the folks I see hundreds of wind turbines across Essex County, which personally I think is a great thing (despite the way it was handled by our previous Ontario governments). But it’s clear from these statistics that renewable sources make up a small percentage of our energy consumption and while these areas will see the highest growth, it will still take decades before these sources replace fossil fuels.

World Energy Consumption by Fuel Type

Source: BP 2018 Statistical Review of World Energy 2018

What about electric vehicles (EV)?

While Tesla shares continue to rally to new dizzying heights, electric vehicles currently make up a minuscule amount of global car sales. Last year global electric vehicle sales rose to 2.1 million units, which represents just 2.6% of global auto sales. There are a number of different forecasts for EV sales but even the most aggressive ones have EV sales at 20% of global auto sales by 2030. Sure the growth is phenomenal, but EV sales will continue to represent a small fraction of global sales in large part due to their higher upfront costs (EVs average selling price is $55,000 versus $36,000 for a regular gas powered car).

The other huge obstacle to EVs and them getting a wider adoption are the batteries, which requires massive mining of nickel, cobalt and lithium. While EVs cut carbon emissions, they are not without other environmental consequences. For example, it is estimated that for every ton of lithium produced, an equivalent ton of carbon dioxide is created. And nickel is ranked as the eight worst metal to mine in terms of pollution and global warming.

Lastly, a huge reason why we’ve become a fossil fueled planet, which will likely continue for some years to come, is the high energy density of oil and natural gas relative to other energy sources. Energy density measures the amount of energy that can be stored in a given mass or volume, and is one way to compare different energy sources output.

Below is an interesting table that puts different energy sources like oil, natural gas, solar and wind on a comparable scale and it shows how much more energy you get from oil or natural gas compared to solar or wind. Essentially, oil and natural gas provide a “bigger bang for your buck” versus other renewable sources at present.

Energy Density

Source: Bradley Layton, A Comparison of Energy Densities

When you put it all together – future oil demand, a low percentage of renewables and electric vehicles, the higher energy density of oil and gas – I fail to see how oil and other fossil fuels will quickly be replaced by renewables and most certainly that oil is far from dead, as May recently proclaimed.

If Canada tomorrow where to put a moratorium on oil production to help combat climate change, the US, OPEC or Russia would just step in and replace those 4 to 5 million barrels. In this case, nothing would change for oil demand and consumption and all we would do is destroy Alberta and our overall economy while doing nothing for addressing climate change. Given all this we should continue to treat that resource as the crown jewel that it is.

Ryan Lewenza, CFA, CMT is a Partner and Portfolio Manager with Turner Investments, and a Senior Vice President, Private Client Group, of Raymond James Ltd.


The weird continues

Covid diary for 14.8.20. Have you noticed how the pandemic has come to define every single aspect of life? This is now a virus blog, despite its waggy tail and wet nose. Oh well. Here’s some recent stuff you should know…

Over the hurdle

TD is the latest bank to drop its key 5-year, super-duper, clients-only five-year fixed mortgage rate yesterday. Down to 2.24%. But if you make eyes at [email protected], or bow slightly and ask sweetly, you can get the cash for less than two points. As we’ve been telling you lately, the cost of money has gone totally, seriously insane. Fivers are widely available at 1.97%, or even a few basis points lower. Depends on your smile (behind the mask).

Realities: this is unlikely to happen again in your lifetime, unless the virus completely eats Texas, Trump declares martial law and we fall into a continental depression. Second, you should lock in. Going variable to save three dollars a month when the cost of money is essentially free (given inflation’s progress) is hubris. Bad idea. In fact there’s logic – as was spelled out here a few days ago – in securing a decade-long loan at 2.5%, so long as you don’t move within the first five. Half a decade from now the virus will be a memory and CBs will be doing all they can to gently hike rates as they ready for the next disaster.

Another reality: cascading rates at the banks have made the federal mortgage stress test a little less stressful. It used to be at 5.19%, now eroded to 4.79%. This is the number at which borrowers must qualify in order to get their insured money, regardless of what crazy-low rate the bank is offering. The latest drop is twenty bps, which means buyers with a hundred grand income and 10% down can carry about $8,000 more debt. Not a lot, for sure. But every little bit helps fuel the FOMO now smouldering through the burbs.

By the way, the difference between the stress test rate and the on-the-street cost of a home loan is now about 2.8%. That’s huge. It means, essentially, borrowers have to prove the can carry the financing at more than twice its actual cost. The real estate cartel says this is absurd. And yet sales/prices keep going up, even in a pandemic. Just imagine if there was no test at all. Realtors would move from Audis to Lambos and be even more insufferable.

Did the virus just infect your RRSP?

So Covid threw a lot of people out of work, resulting in more than eight million taking the CERB pogey. For most, this was not their fault since politicians turned off the economy and therefore had a responsibility to cushion the blow. But it did underscore the fact families in the bottom half of the income/net worth scale have almost no financial reserves. They panic over one missed paycheque, so six months of virus unemployment is catastrophic. Many carry gobs of debt. This is why almost a million families stopped making mortgage payments. Soon both the CERB and loan deferrals will end. Pow.

But what about the years to come? Does it still make sense, despite the bug, to be squirreling money away for retirement? In your RRSP?

Maybe not.

Writing in the Financial Post this week, money guy Dale Jackson raises valid points. First, understand how RRSP tax breaks happen. This plan favours the well-to-do. The more you earn, the bigger the prize. The size of the tax break increases with income and marginal tax rate.

So, if Covid stole your income for most of 2020 to date, putting money into a retirement plan may give you a much smaller deduction than waiting until 2021 or thereafter when your job is restored. Also remember earned RRSP room never goes away. It accumulates – so a basic strategy has always been to save it up for higher-income years, to offset the capital gains on investments, or cancel out some of the tax when you take a commuted pension, for example.

If the virus hit your household, take some of that CERB cash and stick it into your TFSA in nice growthy ETFs . No tax deduction, of course, but no tax payable either when you withdraw income in retirement impacting benefits like OAS.

By the way, remember that virus payments are taxable. So you could save some, put it into an RRSP next spring when the world is less nuts, using the tax break to offset the money owing on your CERB. Or transfer some from the tax-free account to the retirement account, getting a tax break for contributing money you already owned, to pay the bill. Thanks, Justin.

Condos: going down with the CERB

Months ago when the bug arrived we told you condos would take the hit along with Westjet. And here we are. Listings are rising, sales faltering and per-foot pricing dropping. The fear (often irrational) is that communal living in a single building is germy and dangerous.

Besides, with office towers empty and millions working remotely, the meme spreads that downtowns will be hollowed-out shells for decades, while the condos clustered around them turn into swanky pigeon roosts. This is typically extreme. By this time next year those offices will be populated and streets busy. People will still want the convenience, location and uncomplicated life condos provide – but pay a premium for low-rise (where elevators are optional) while the spires go cheap.

Here are some interesting words on the Van scene from local analyst Dane Eitel, who is boldly forecasting a 30% price plop in 2022 from the high set two years ago. As in Toronto, inventory is growing faster than sales, and a buyer’s market is quickly forming – the opposite to what’s going on with suburban single-family homes.

“Still to come,” he says, “is monstrous amounts inventory to be introduced to the market from the presales. Worth mentioning is the end to the evictions ban will likely be occurring in September. While the CERB is also seemingly coming to an end, and those whose are still without work who qualify for EI will be getting less money and some simply will not qualify. None of this bodes well for the demand sector of the Condo market.”

The biggest hit, however, isn’t a threat to condos only. All real estate will be challenged when the following occur in sequence: CERB payments end. The mortgage deferral era is over. Bond yields and mortgage rates creep higher. Taxes rise to help cover massive Covid spending. The US election turns into crisis. Unemployment lingers. And remember, “The economic impact of the first shut down is still in its infancy, imagine a second shutdown and the long term effects that would hold.”

Of course, nobody listens to him. Or me. So the next hundred days will be Biblical. You know, the brimstone part.

About the picture: Toby the one-year-old poodle hurtles towards the “Garth Street” exit on the LINC – what owner Scott (in the back seat) and other locals in Hamilton call the Lincoln Alexander Expressway. “He is very smart,” says Scott. But can he signal?