Thursday, February 26, 2009

NYC Energy Switchers

The New York Times City Room Blog recently posted about how many NYC property owners are leaving heating oil and moving to natural gas. The post is here. And it made me sad and angry and wanting to stand on my soapbox. And since this site is really just one big bully pulpit....

When do you think we will learn? Our industries, that is...When do you think propane and heating oil will learn that it is NOT about providing the lowest annual price per gallon but rather enrolling customers for an annual commitment that makes it easy for the customer to pay? No more $800 bills - how about $150/month, instead. No more huge debit balances that you have to worry about collecting. People HATE that. My mother-in-law hates that. I hate that.

My mother-in-law is a widower that had to find supplemental health insurance. She pays through the nose. It is painful for me to see her monthly bill. But now, when she gets sick, she goes to the doctor. And she doesn't pay one penny after the monthly premium. She knows what to expect, and for this certainty she pays a premium. But she is cool with that - 'cause she hates unexpected costs. Might there be a lesson there in behavioral economics? Do propane and heating oil retailers need to take note of her buying habits? It might not hurt.

I recently got into a little wreck. Yep, again. The 4Runner got up close and personal with the receiver hitch of a Chevy Silverado. It is sad, but if my driving ability equated to a golfing score it would be a +20. But here is the deal. I did about $500 of damage to the front bumper of my car (and no damage to the Silverado). When I had the accident, at least three times the idea went through my mind "Maybe I should turn this in. I will pay more than $500 bucks in total, but at least I won't have to pay the bill all at once. " I had the money, but I did not want to spend it.

And so, propane and heating oil consistently lose customers to the electric and natural gas utilities. These businesses do their best to minimize the impact of a particular month or day of consumption by leveling payments for their customers.

How often do you hear that the local utility company has an $x/kilowatt hour rate? How often do you see that the ccf price at the natural gas burner tip cost x/btu? Likely once or twice in the last year.

How often have you heard from your customers that the propane company down the street is cheaper? Often. In the propane industry, our interest in competing with our propane competition creates a point of leverage for our real competition, natural gas and electricity. Our emphasis on price compromises our value against other sources of heat whose suppliers obfuscate the cost of their service.

Considering these factors, I have a plan. Enroll everyone you can in a cap program. Tell then their price will not exceed $x/month, but the payments might be cheaper. Begin collecting for next year's deliveries in April or May. Then spend the next year holding a credit balance with your customers and reaffirming to them that they made the right choice of an energy provider. Take the Zing! out of the payment and create customers that happily pay, tell their friends, and never switch to electric.

Wednesday, February 25, 2009

German Policy Lessons

A great op-ed from the European Wall Street Journal can be found here.

An excerpt is here:

...governments are constituted to fulfill three economic functions: providing public goods that are insufficiently provided by private agents; enforcing the rule of law to ensure private property rights as well as competitive markets; and, what we are currently witnessing, the protection against systemic risks.

Right now the government has to step in to prevent the breakdown of the financial markets and ease the immense pressure on the supply side. At the same time, the continuing economic downswing has turned into the deepest recession since World War II. This is why, for all their shortcomings, the stimulus plans go in the right direction. Sometimes you have to fight fire with fire.

However, burying a problem caused by too much easy money in another pile of (government) money obviously is a solution that will only work for so long. In fact, the provision of easy credit violated the right of ownership -- meaning the government failed in one of its central duties. Buying a house one cannot afford is not property, but pseudo-property.

In the long run, the second function of government, guaranteeing property rights, will have to guide future economic policy. For the United States this means that after the dust has settled it will have to start repaying some of its debt and reduce its twin deficits -- government debt and current account.

There are two ways to reduce the current account deficit: importing less or exporting more... 

Tuesday, February 24, 2009

How Do You Make Money? Volume!

I recently had the opportunity to visit with a Midwestern propane retailer (our meeting was serendipity - no plotting, planning, or scheming endeavored). That retailer helped me understand in our brief conversation that the competitive landscape of the Midwest remains brutal and margins remain depressed. It is sad, but it seems there is at least a 5 or 6 state territory of the Midwest that is bound and determined to give propane away. Yep, the industry doesn't like making money here in Missouri. 30 cent margins are typical for residential business, and even in the current winter margins haven't expanded much past 45 cents. It is a tragic condition of a market that moves based on the illogical business decisions of the least disciplined businessperson. The business which uses a 12-year old bobtail for front-line equipment is the one that leads the market price lower.

Ages ago, I worked for a co-op. Some of the folks in that organization said "a business goes broke by breaking even." They were right, 'cause the co-op I worked for is now out of business.

Early this last summer, I had a conversation with a propane business owner that was very engaged on a national level in our industry. One of his comments was "The propane industry needs healthier margins in the Midwest. My company won't even deliver large drop ag gas for the standard retail margin in Missouri."

Have we really delivered so little value to the consumer that we resort to giving product away at no real discernible margin?

My conversation with my Midwestern counterpart was invigorating, though - as I began to understand this marketer's mantra: "you can't fix stupid." Even still, the situation made me think of one of my favorite Saturday Night Live short skits. After listening to this one minute clip, wouldn't you agree that breaking even makes no sense?

Monday, February 23, 2009

Is there too much HOPE in that Propane or Heating Oil Hedge?

Speculation. Its a dirty word for businessmen. A word reserved to describe ex-Enron employees and others of their ilk. Certainly the word "Hedger" makes bankers happier and balance sheets more balanced. Ideally, the two words are as opposed as Black and White. Oil and Water. Don Henley and Glen Fry (in the 1980's).

But there exists some overlap - some gray area inside which the difference between speculation and hedging begin to become difficult to discern. Some call it "hedgulation" or "specuhedging." In these scenarios, the applications of the words begin to look similar. Like Plymouths and Dodges. American Pilsners. Don Henley and Glen Fry (in the 70's & 90's). Allow me to explain:

A hedge can be defined as a transaction entered in to for the purpose of avoiding risk. Often, the position is equal and opposite to another intended transaction. Typically it locks in some type of (positive) margin, which is expected to occur sometime in the future. Propane and heating oil marketers buy fixed price product to offset future fixed price sales and lock in a margin just as cattle farmers sell live cattle futures to offset the price risk associated with cattle that are getting ready to go to market.

A speculation is a transaction entered into for the purpose of taking on risk. It does not exactly match the entity's price exposure or it creates a completely new position in addition to the original price exposure. An example might be a dairy buying some coffee futures. There is really no good reason for this trade - other than to roll the dice.

But let's take a look at three transactions that have made the news lately:

1) Southwest's Gasoline Hedges - Southwest was heralded as a forward thinking company that aggressively managed thier costs of jet fuel (June-July 2008). About two months later, the case was made that they were overagressive and hamstrung by bad trades (October 2008).

2) Suncor's Producer Collar - Suncor (One of the biggest players in the Alberta Tar Sands) entered into an options collar structure to ensure a minimum price for some of the crude oil they produce.

3) Atlas Pipeline's Crude to Propane Spread - In Early 2008, Atlas Pipeline Partners entered into a crude-to-propane hedge to hedge the liquids in their pipelines. Although the last 20 years of data demonstrates a floor in the price relationship between propane and crude, the relationship of the two commodities trend as they had historically, and the partnership lost $116 million.

Which of these was a true hedge? In its purest definition, I don't know whether any of them are. Instead of eliminating price risk, they each just shift price risk on a piece of the company's overall exposure.

The speculations work as hedges for the first two companies, though, because of the unique context that the companies found themselves in. I can imagine that Southwest thought "We can make money and keep low rates at these prices...if fuel prices continue to go up, that might not be possible." Similarly, Suncor probably said "We can sell crude at a breakeven at these prices but if the market price for crude continues to fall we will begin to risk our company." Considering this context, I feel like the term "hedge" is appropriate, because the firms mitigated the risk associated with bad price outcome in exchange for limited benefit should a "good" price outcome occur.

The Atlas Gas scenario is different. The management team that considered this hedge clearly "hoped" for an outcome similar to the historic price pattern. They "hoped." And that hope was a tell-tale sign that their transaction was more a speculation than a hedge. In my mind, the more Hope is involved in a position, the more the position is likely to be a speculation. It is a great acid-test to ask oneself before a transaction is entered into - "How much hope is involved here?" In the case of covering a pre-sale program at target margins, there is none. In the case of entering a cross-commodity hedge (as Atlas Gas did), there is plenty!

Barry Ritholtz, over at The Big Picture, has a great quote in a recent article. It is about investing in the stock market, but can be applied to hedging in commodities. He says:
"In investing, Hope is a four letter word. It reflects wishful thinking, not sober analysis. It is a function of your book, not an objective read of reality...And its killing many investors."

As you contemplate pre-buy for next season...are you considering doing so because you "hope" prices will rise? Or are you considering doing prebuy because it works for your retail customers and creates a price they find desirable? The former is a hopeful, potentially expensive speculation. The latter is closest to hedging. Let's keep HOPE out of our HEDGES to minimize negative outcomes.

Sunday, February 15, 2009

Low Prices Create Heartburn for Big Oil

Here are two articles I found that do a fair job of demonstrating that current crude oil price levels are not sustainable long term.

1) No one wants to drill in the arctic (companies need $100/bbl before they start getting excited about the long term viability of such a hostile climate). - from Rigzone

2) Gas to Liquids Technology is refining lots of red ink (Chevron needs $65 to break even on this technology). - from the Wall Street Journal

Celebrating the Economic Turndown with a Drive

From the R-Squared Energy Blog:
It's been taking place slowly, week after week, but low gas prices have brought gasoline demand back up. There has been anecdotal evidence that suggested demand might be heading higher, such as recovering sales of gas guzzling cars. But for watchers of This Week in Petroleum, the data confirm the anecdotes: Gasoline demand has recovered to the point that it is now higher in the U.S. than it was a year ago. This week's Summary of Weekly Petroleum Data (off of which This Week in Petroleum is based) shows that the 4-week rolling average has for the first time in recent memory increased above (albeit slightly) the level of a year ago.

Another factor to keep an eye on as demand recovers is that refinery utilization is still quite low relative to what's normal for this time of year. Percent utilization relative to the past 3 years is 3-5% lower for comparable weeks. This is starting to impact gasoline inventories. A typical January will see a healthy build of gasoline across the month, as refiners build stocks ahead of spring turarounds. This year, however, gasoline inventories have been flat across January, and this week in fact saw a drop of 2.6 million barrels. Inventories are still in decent shape, but they bear watching as we move toward spring.

The EIA notices Retail Price Inelasticity in Heating Oil

From the most recent "This week in Petroleum":

Two factors may offer an explanation for the smaller decline in retail heating prices. The first is the relative strength of the global distillate market. Distillate fuel includes both heating oil and diesel. In the United States, heating oil makes up a relatively small portion of the domestic distillate market while diesel fuel makes up most of the remainder. This is true for much of the rest of the world. Until fairly recently, distillate prices have shown surprising strength compared to other petroleum products due to strong global demand for distillate. As a result, distillate prices did not fall as much as crude oil prices.

The second factor may be related to events of the past summer. The summer is when heating oil customers are typically offered contracts to lock-in prices for the upcoming winter. The price for residential heating oil reached its historic peak last July, averaging $4.53 per gallon. Some heating oil customers may have been anxious about those unusually high prices and wanted to shield themselves from possibly higher prices in the winter. When a customer locks in a contract with a heating oil company, the company often enters into a similar contract with a wholesaler, guaranteeing they will be able to supply that customer with enough heating oil for the winter at a stable price. (This type of commitment is even required by law in Connecticut.) Moreover, many heating oil companies buy some of their heating oil in the off-season to ensure an adequate supply for the winter, regardless of any pre-arrangement with their customers. So another reason heating oil prices this winter have not fallen as quickly as crude may be that some of the volume heating oil dealers (and customers) bought earlier was quite expensive. Thus, a portion of this additional expense may have been passed on to the customer during this heating season.

OPEC's Comments for February

OPEC further lowers expected consumption numbers in this short, once-a-month podcast.

WTI is Disconnected - and that Should Matter to Propane Retailers

Here is an excellent piece from the Financial Times on the NYMEX benchmark crude value - West Texas Intermediate. West Texas Intermediate is a grade specification that is found in Texas and Oklahoma, and has major inventory storage in Cushing, Oklahoma. (Here is a recent article from the Guardian UK about Cushing.)

The problem is, when Cushing fills up with supply, the front month of the crude price curve gets exceptionally cheap. This is the same phenomena as when corn price drops 30-50% as the harvest comes in - to much supply for the physical capacity to store the product.

Well, Cushing is full. Way full. And likely the logistical bottlenecks associated with this over-supply are likely to get worse instead of better as we run through the month of March - a time when domestic inventories typically build significantly. This over-supply is a result of several factors - lack of demand for products such as unleaded gasoline in the 4th quarter of 2008 ius a big one. But additionally, the crude market is actually making it advantageous for companies to store product right now, allowing them to forward sell the commodity and lock in guaranteed profits.

The article from the Financial Times mentions how WTI is not an effective benchmark because its logistical storage constraints are creating a disconnect between WTI crude and Brent crude (the European benchmark).

The spread between WTI and Brent, the European benchmark, which is increasingly seen as more representative of global market conditions, was trading at more than $7 a barrel on Wednesday, after reaching a peak of $10.06 on January 15.

Historically, WTI trades at a premium of between $1.50 and $2.50 a barrel to Brent.

The front-month WTI contract has come under pressure because of weak US demand, increasing supplies from Canada and rising crude stocks at Cushing, Oklahoma, a hub in the US distribution network.

Why does this matter? Because it is ALMOST IMPOSSIBLE for new waterborne propane supply to get bid into the country. Not only does one have to pay the freight, but one has to overcome the difference in the front month spread between the European market and the domestic market. This means that propane would need to increase in value by +$.10 to adjust for this inconsistency between the markets.

China - Big Problems

From 2000 to about 2006 many experts expressed concern over the current accounts deficit and the negative savings rate in the US. Additionally, folks have pointed to the over $1.0 trillion dollars of US debt that China holds on its books as a concern for the future. With the current downturn in full effect - China is bracing to get hit even harder than the US. Here are two worthwhile articles from Asia Times (bold emphasis is mine)
China On the Brink
The ripples emanating from the global recession may have seemed tiny at first as they traveled across the Pacific, but they are about to hit China with the full force of a tsunami. And there is real concern among the Chinese leadership that the impact may well surpass anything we've seen in the US or Europe. That's because the economic crisis in China is taking on a fundamentally different shape than in the countries where it originated.

The crisis in Western markets began at the top and worked its way down. When the US property bubble burst, it hurt some homeowners, but the real damage it inflicted was to undermine confidence in complex financial instruments and the banks that owned them. It was essentially a financial panic, and the first people to be laid off were Wall Street MBAs working at investment banks and hedge funds.

The effect on the real economy only came later. As big-name banks failed, consumer confidence took a nosedive, and as surviving banks retrenched, credit to consumers and business dried up. Only in the fourth quarter of last year - six to nine months after the first big bank, Bear Stearns, collapsed - did these factors result in significant working-class job losses.

The process unfolding in China is precisely the opposite. The threat comes not from the commanding heights of the economy, but from the grassroots. All along the coast, thousands of small factories that rely entirely on US and European export markets are cutting back production or shutting down. Their margins were thin to begin with, and now their orders are being slashed. The first to be affected aren't the global professionals that populate China's big cities, but the migrant workers that made those factories hum.

The Coming Fury
The collapse of Asia's key market has banished all talk of decoupling. The image of decoupled locomotives - one coming to a halt, the other chugging along on a separate track - no longer applies, if it ever had. Rather, US-East Asia economic relations today resemble a chain-gang linking not only China and the United States but a host of other satellite economies. They are all linked to debt-financed, middle-class spending in the United States, which has collapsed.

China's growth in 2008 fell to 9%, from 11% a year earlier. Japan is now in deep recession, its mighty export-oriented consumer goods industries reeling from plummeting sales.The sudden end of the export era is going to have some ugly consequences. In the past three decades, rapid growth reduced the number of people living below the poverty line in many countries. In practically all countries, however, income and wealth inequality increased. But the expansion of consumer purchasing power took much of the edge off social conflicts. Now, with the era of growth coming to an end, increasing poverty amid great inequalities will be a combustible combination.

In China, about 20 million workers have lost their jobs in the last few months, many of them heading back to the countryside, where they will find little work. The authorities are rightly worried that what they label "mass group incidents", which have been increasing in the last decade, might spin out of control.

The Ultimate Team Player

First, an apology. I have slacked off over the past three weeks or so, actually I am in the middle of a certification class to be able to teach MBA classes on line, and the certification is kickin' my butt. The coursework has really gotten in the way of my ability to write and post. I am still reading - but can't report. Not to worry, I only have one more week of the 6-week course left - and I am loaded for bear tonight with about 6 worthwhile posts. I will sit here until I fall asleep on the "f" key - as I have done once or twice before. So, without further adieu...

My first posting regards a weekend article from the New York Times on Shane Battier. (Yes, the basketball player.) It turns out that Mr. Battier is the ultimate team player - not measured by statistics but rather by his team's winning when he is on the court. The article is a long one, and it is by one of my favorite business authors - Michael Lewis (of Liar's Poker fame). Lewis spent many weeks on the best seller list with Moneyball. This article is similar, but it essentially makes the point that basketball is the most selfish professional sport - because every statistic tracked (points, assists, rebounds) is a selfish one. That is, the player might choose to rebound a ball (and recieve credit) or to deflect the ball to an open team mate to start the fast break (no credit).

Why do I post it here? It made me think about the necessity for an organization to have role-players that are not looking for the credit and high profile. Harry Truman once said "It is amazing what can be achieved when no one cares who gets the credit." Shane Battier doesn't score, or rebound, or assist particularly well. But he wins, and he helps his team win.

Enjoy the article. A selection follows:

Battier’s game is a weird combination of obvious weaknesses and nearly invisible strengths. When he is on the court, his teammates get better, often a lot better, and his opponents get worse — often a lot worse. He may not grab huge numbers of rebounds, but he has an uncanny ability to improve his teammates’ rebounding. He doesn’t shoot much, but when he does, he takes only the most efficient shots. He also has a knack for getting the ball to teammates who are in a position to do the same, and he commits few turnovers. On defense, although he routinely guards the N.B.A.’s most prolific scorers, he significantly ­reduces their shooting percentages. At the same time he somehow improves the defensive efficiency of his teammates — probably, Morey surmises, by helping them out in all sorts of subtle ways. “I call him Lego,” Morey says. “When he’s on the court, all the pieces start to fit together. And everything that leads to winning that you can get to through intellect instead of innate ability, Shane excels in. I’ll bet he’s in the hundredth percentile of every category.”

There are other things Morey has noticed too, but declines to discuss as there is right now in pro basketball real value to new information, and the Rockets feel they have some. What he will say, however, is that the big challenge on any basketball court is to measure the right things. The five players on any basketball team are far more than the sum of their parts; the Rockets devote a lot of energy to untangling subtle interactions among the team’s elements. To get at this they need something that basketball hasn’t historically supplied: meaningful statistics. For most of its history basketball has measured not so much what is important as what is easy to measure — points, rebounds, assists, steals, blocked shots — and these measurements have warped perceptions of the game. (“Someone created the box score,” Morey says, “and he should be shot.”) How many points a player scores, for example, is no true indication of how much he has helped his team. Another example: if you want to know a player’s value as a ­rebounder, you need to know not whether he got a rebound but the likelihood of the team getting the rebound when a missed shot enters that player’s zone.

There is a tension, peculiar to basketball, between the interests of the team and the interests of the individual. The game continually tempts the people who play it to do things that are not in the interest of the group. On the baseball field, it would be hard for a player to sacrifice his team’s interest for his own. Baseball is an individual sport masquerading as a team one: by doing what’s best for himself, the player nearly always also does what is best for his team. “There is no way to selfishly get across home plate,” as Morey puts it. “If instead of there being a lineup, I could muscle my way to the plate and hit every single time and damage the efficiency of the team — that would be the analogy. Manny Ramirez can’t take at-bats away from David Ortiz...

Monday, February 9, 2009

Some Snowy Reading

I checked out "The Snowball" from the library last week. Not having seen a copy of the book before, I figured it would take me a week to 10 days of committed reading to get through. Maybe not. This Warren Buffet biography is 800 pages of detail about the life experiences and thoughtful musings of the Oracle. I will definitely have to renew the book to get through.

However, I found a few excerpts from the book at the Financial Times website, In lieu of reading all eight hundred pages, these selections do well to give a flavor for the man and his world.

Part 1

Part 2: (here's a selection from this selection)

Warren Buffett and Bill Gates met for the first time over the Fourth of July holiday in 1991, when Katharine Graham, chairman of the Washington Post, and her editorial page editor and friend Meg Greenfield had dragged Buffett to Greenfield’s house on Bainbridge Island for a long holiday weekend. To Buffett, a weekend on an island a half-hour ferry ride from Seattle that could be escaped only by boat, seaplane, or hitching a ride over the bridge by car was an “anything for Kay” event. Greenfield had also recruited him for an all-day visit at the nearby four-house compound on the Hood Canal that Bill Gates had built for his family. Gates, 25 years Buffett’s junior, was appealing to Buffett mainly because he was known to be brilliant and because the two of them were neck-and-neck in the Forbes rich-list. But computers looked like Brussels sprouts to Buffett; no, he did not want to try them this once. Greenfield, however, had assured him that he would like Gates’s parents, Bill Sr and Mary, and that other interesting people would be there. With some reluctance, Buffett had agreed to go.

On the morning of Friday, July 5, Buffett pulled on a cardigan and arranged his wayward hair into a neat, gray comb-over. Greenfield crammed five of them into her little car for the 90-minute drive to the Gates compound. “While we’re driving down there, I said, ‘What the hell are we going to spend all day doing with these people? How long do we have to stay to be polite?’ ”

Gates had similar feelings. “I had a constant dialogue with my mom,” he says, “which was, ‘Why don’t you come to the family dinner?’ ‘No, Mom, I’m too busy, I’m working.’ So she told me Katharine Graham was coming, and Warren Buffett.” He was interested in meeting Graham, now a 74-year-old legend who had softened into an older but still patrician figure, like a witty version of Queen Elizabeth, but, “I told my mom, ‘I don’t know about a guy who just invests money and picks stocks. I don’t have many good questions for him; that’s not my thing, Mom.’ But she insisted.” Gates flew in on a helicopter so he could make a quick getaway. When a tiny car pulled up, he was surprised to see a group of famous people – Greenfield and her guests – pop out like a gang of circus clowns.

Graham was taken over to meet Gates, who looked like a recent college graduate, in a red sweatshirt over a golf shirt, his collar turned up in a little saucer around his neck. While Gates was arranging for Graham to take a seaplane ride, Buffett was introduced to Bill Gates Sr and his wife, Mary. Then Bill Gates III, known as Trey, was brought round to meet Buffett.

Observers kept a weather eye on this introduction. Gates was well-known for unleashing his impatience on things that didn’t interest him. Buffett no longer walked off to read a book when he was bored but had a way of disentangling himself quickly from conversations he wanted to exit.

Buffett skipped the small talk; he immediately asked Gates whether IBM was going to do well in the future and whether it was a competitor of Microsoft. Computer companies seemed to come and go, and why was that? Gates started explaining. He told Buffett to buy two stocks, Intel and Microsoft. Then he asked Buffett about the economics of newspapers, and Buffett told him that they had got worse, because of other media. Within minutes the two were immersed in conversation.

“We talked and talked and talked and talked and paid no attention to anybody else. I started asking him a whole bunch of questions about his business, not expecting to understand any of it. He’s a great teacher, and we couldn’t stop talking.” They were starting to attract attention. “We were sort of ignoring all these important people, and Bill’s father finally said, gently, that he’d prefer that we join in a little more.

“Bill started trying to convince me to get a computer. I said I don’t know what it’s going to do for me. I don’t care how my stock portfolio is doing every five minutes. And I can do my income taxes in my head. Gates said he would pick out the best-looking gal at Microsoft and send her to teach me how to use the computer. He would make it totally painless and pleasant. I told him, ‘You’ve made me an offer I almost can’t refuse, but I will refuse it.’ ”

At sunset the helicopter had to leave. Gates did not go with it.

“Then at dinner, Bill Gates Sr posed the question to the table: What factor did people feel was the most important in getting to where they’d gotten in life? And I said, ‘Focus.’ And Bill said the same thing.”

Summary of the World Economic Forum

* Davos consensus is for no growth at all in the world economy in 2009
* Without fixing the over-leveraged banks and the over-indebted consumer, any stimulus will be limited in its impact
* The Prime Ministers of Russia and China were there, and essentially said "it's the US's fault"
* At the same time, the entire world is looking at the US to fix the problem
* The question is "Is there a limit on the amount of US debt that the world will buy?"
* China is currently spending $500 billion on stimulus - without that stimulus China is expected to have a zero growth rate. China needs 8% growth each year to absorb newly created workers into its economy.

Wednesday, February 4, 2009

Saudi Arabia's Quest for Economic Diversity

A recent post on discusses Saudi Arabia's attempted movement from an economy based solely on oil.
Saudi Arabia is in the middle of an economic transformation. Long known as the oil capital of the world, the kingdom is now focusing its economic policies on manufacturing and other non-oil activities as it tries to move away from oil dependence and build on its other competitive advantages.

Both domestic and overseas demand for Saudi goods is on the rise - the country's non-oil sector grew 5.8% in 2007, thanks in part to a boom in the non-oil hydrocarbons industry.

"The non-oil trade data illustrates that the diversification going on within the Saudi economy is focused on generating greater value-added from the kingdom's hydrocarbon reserves rather than developing unrelated industries," writes Brad Bourland, Jadwa Investment's chief economist.

With hydrocarbons leading Saudi Arabia's non-oil sector, Sabic is the undisputed leader. The company has three major petrochemical projects underway in Kayan, Sharq and Yansab, and is investing more than $12 billion in adding 20 million tonnes of petrochemical production capacity to the kingdom by 2010. If growth goes as planned, Sabic will have 75 million tonnes of petrochemical production capacity by the end of the decade.

Sabic is hardly alone in seeing opportunities in the petrochemical sector. National oil leader Saudi Aramco is currently building a $10 billion petrochemical plant on the Red Sea, called PetroRabigh, with Japan's Sumitomo Chemical.

"We are the most cost-effective production location in the world for the industries we are targeting," says Amr Al-Dabbagh, governor of the Saudi Arabian General Investment Authority (Sagia). He goes on to explain how, as the lowest cost location for targeted industries, including petrochemicals and plastics, he expects investment in the sectors in to increase.
What does this mean for domestic propane retailers? It means that a large net exporter of propane is doing its best to start consuming the propane that otherwise would go to Africa or America. Many propane cargoes originate from Yanbu and Ras Tanura, and if these locations begin creating their own polyethylene pellets it will greatly impact the import/export economics of the industry.

The economic development cities are crazy - new, clean, big, and hot (a lot like Vegas). Here are their websites: Jazan, King Abdullah, Knowledge and Prince AbdulAziz bin Mousaed.