Is Oil Nearing Its Peak?

By Robert Aronen
August 22, 2005

From the article:

Fighting through the noise in the oil industry can be a challenge for investors. Every time prices increase, the industry is exposed to a chorus of Chicken Little pundits, all crying "The end is near! The world is running out of oil!" In the past, when oil prices went up, the reward for increased production was irresistible, because there was always spare capacity. OPEC opened the spigot, Venezuela cheated on their quotas, and all the stripper wells in Oklahoma returned to service. Increased production caused prices to plummet, and we went back to driving our SUVs. It happened in 1990, and before that in 1980, and before that in 1973. After two years of dramatic price increases, are we at the top of another cycle, or are we approaching "peak oil"?

A peek at peak oil
The term "peak oil" (also known as "Hubbert Peak Theory") was first used by M. King Hubbert, a geophysicist with Royal Dutch Shell (NYSE: RD). In 1956, Hubbert predicted that U.S. oil production would reach a peak between the late 1960s and early 1970s, from which point production rates would forever decline. The production-rate decline results from the nature of oil deposits. Initially, oil is forced to the surface because of underground pressure -- this is what caused "gushers" like Spindletop. As soon as the deposit goes into full production, the underground pressure begins to diminish, and production rates decline. So even though the oil may be in the ground, it can only be pumped to the surface at a slow and declining rate to prevent premature exhaustion. Eventually, the producer reaches a point of diminishing returns until it becomes cost-prohibitive to extract more oil. Currently, wells are considered "dry" when 50% of the oil remains in the ground.

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