Oil heading toward $40? Economist still thinks so, with caveats; and: NTSB issues 787 battery report, Azul’s A320/CFM order

Dec. 1, 2014: Adam Pilarski, an economist for the consulting firm Avitas, predicted several years ago that the price of oil would drop to $40bbl. Few believed him.

Oil hit $66 this week, on a steady decline over the past months, and, according to an article by Bloomberg News, could be on its way to $40.

Pilarski, who originally made his prediction in 2011 at a conference organized by the International Society of Transport Aircraft Traders (ISTAT). He predicted this price by October 2018.

In an interview with Leeham News today, Pilarski concurs that oil may hit $40 soon, though he believes the low end will be in the $40-$50 range. The low price will not for the reasons he outlined in 2011 and neither will it stay at or near $40 for long.

The current slide in oil prices is due to “panic” and a desire by Saudi Arabia to “save” OPEC, the oil cartel.Saudi Arabia, Pilarski told us, is driving the prices down in order to drive out of business the oil shale producers in the US and in Canada. If oil goes to $40, the theory is that this will be below the prices US and Canadian oil producers’ break-even.

He believes oil will bounce back from $40 to $60-$80 once the up-start producers shut down and eventually to around $100, where Saudi likes prices to be.

Prices are driven more by political motives than market fundamentals, Pilarski says.

Pilarski based his 2011 prediction on changing fundamentals of the energy market, with alternative energy evolving to broader acceptance that will drive oil prices to his $40 target.

“We’re not there yet,” he told us. “This is not yet the big change I was talking about that will drive a permanent reduction in prices.”

With oil prices coming down dramatically, some wonder whether this will portend cancellations or deferrals of the large order books. We are firmly convinced it won’t, and last week engine OEM MTU said the same thing.

MTU believes retirements of Boeing 757s and aging wide-body aircraft such as the Boeing 767, Airbus A300-600 and Boeing 747-400 may well be delayed. This could also be true of aging Airbus A330s and Boeing 777s, all of which will make it more difficult to bridge the production gaps of the A330ceo and 777 Classic, and to sell the new, but slow-selling Boeing 747-8.

Odds and Ends:

787 and NTSB: The US National Transportation Safety Board issued a 110 page report on its investigation into the Japan Air Lines Boeing 787 battery fire in January 2013.

Bloomberg has this write up of the report.

Azul orders A320neo: To no surprise, Brazil’s Azul Airlines ordered the Airbus A320neo, 35 from Airbus, 20 from AerCap and eight from GECAS. Azul’s CEO is David Neeleman, who founded JetBlue and selected A320s for this airline. Azul selected A330s and A350s for its planned trans-ocean flying. Staying with Airbus for is high-capacity, longer-haul service within Brazil and South America was pretty much a given.

Azul also selected the CFM LEAP-1A engines to power the fleet. Although surprise seemed to be expressed by one observer, given that some of the A320neos are coming from mega-lessor GECAS, it doesn’t take any insight to understand that GE engines were going to come with this deal.

27 Comments on “Oil heading toward $40? Economist still thinks so, with caveats; and: NTSB issues 787 battery report, Azul’s A320/CFM order

  1. Let’s see where fuel prices stabilize before getting too euphoric about Pilarski’s prediction.

    Recall that even a broke clock is right twice a day.

  2. Dear Scott, the Boeing 787 program is intriguing, obviously, being the highest profile program of the largest OEM. It is also one of the economically most consequential programs in the industry. The program’s early problems with design and rework have been well-documented, strengthening the wing-box of early builds, and so forth.

    In the last two years, however, production has been rolling along without major hiccups; production continued through the battery-related fleet grounding unaffected, nota bene. Monthly production rates have increased to 5, 7 and 10 in November 2012, May 2013 and January 2014, respectively. Heretofore, program management have attributed financial under-performance as a result of incidental early production bottlenecks and low production rates. But at this point, the program has been in full production for three years and during ten months at the rate of ten monthly, and therefore the explanations from program management should, in my opinion, no longer blindly be given the benefit of the doubt.

    In April 2014, three months after reaching the production rate of ten monthly, 787 frames needed on average 126 days from loading to delivery, according to nyc787.blogspot.com. In October and November, the last two months, those averages were 120 days and 125 days, respectively, not counting the early build delivered to the Mexican Air Force. Hence there is no appreciable improvement in production, and observers note that undelivered 787 frames currently seem to accumulate at Everett.

    As a Seattle based analyst with extensive industry insight, can you tell whether the 787 program is having production issues that extend beyond incidental bottlenecks? Originally lauded for its game-changing manufacturability, is the 787 showing unforeseen difficulties in assembly and production that have not been fully communicated to investors and industry analysts? Thank you most sincerely.

    • The delivery rate of 787s seems to be some way behind build rate. If indeed Boeing is building 10 per month, why are they not able to maintain deliveries close to that?

      At end November, 96 787s have been delivered vs. a target of 110.

  3. Thanks Scott for that very insightfull link on Oil pricing!

    I guess that Lufthansa has hit a jackpot with their A340 LCC.

    • The A340 LCC airline is one reason why Lufthansa pilots are still on strike – Low Cost Captains…

      • I guess it is take it or leave it for those pilots, just like at AF and KLM with transavia. Adjust or on the long term perish. Legacy airlines must partially enter the roam of llc or they will lose there market share to others who will.

  4. I attended an oil industry event last week and the big topic was the oil prices. The reason stated was more or less as above, but it was not just to drive the shale producers out of business, but more importantly the aim was stated as to make sure that the US is not oil independent. US oil independence would take away political clout from countries like Saudi Arabia.
    What makes this possible is not just what is happening in the middle east, but more importantly the India and China economies flattening out and thus take a lot of pressure off the market.
    The forecast made was that this will take about 18 to 24 months and then oil prices will rise again.

    • In the long run oil prices cannot be very far from the incremental cost of production. So the dominating factor in my mind is the cost of shale oil production. For a long time I have heard that it is $70 per barrel, although some reports say that the cost is declining. I’m sure that the actual cost of the production process will be coming down although this could be offset by inflation and the the fact that the low hanging fruit will have been selected first (e.g. the easiest shale to extract)

      The capital commitment required for shale oil production is very high, and therefore it is not possible to bring more production on line at short notice, so there can easily be spikes in oil prices for a year or two.

      However I think it would be foolish to have a long term plan that relied on oil prices being a lot higher than $70

      • My understanding is that cost for getting at new resources in that domain is rising faster than the volume of accessible produce.
        i.e. especially fracking works on an extremely short time horizont. together with the incurred environmental devaluation I would deem it a desperate measure.

        Last scrapings before going cold turkey, so to speak 😉

        The respite given by low oil prices will not be used in a productive way, though.

  5. IMO if we include:

    – the MAX being a 737, with its 1967 design restrictions
    – “no moon shots” strategy voiced by McNerney
    – a series of better competitors entering the marketplace
    – 40% being a kind of minimum marketshare versus Airbus
    – superior geared engine technology getting widely introduced
    – useful NB all composites technology being questionable before 2025

    we can start speculating on a Boeing low risk “A320 stopper” scenario, no doubt floating in Chicago already. Goal would be an platform a little better everywhere then the benchmark A320, forcing them to do a “moonshot” first, next decade.

    http://i191.photobucket.com/albums/z160/keesje_pics/Boeing797-8_zpsa833dd45.jpg

    – A little lighter (more composites)
    – able to carry slightly higher BPR engines
    – able to do LD3/pallets capability
    – growth potential above 200 seats with ++ runway performance
    – offer acceptable 3-3 + wide aisle comfort
    – offer full cockpit commonality with 787

    All to prevent Airbus reaching a damaging level of dominance with the big airlines later this decade. Without 787 like risks & investments.

    • Sounds like valuable capital wasted, by Boeing.. How much do you imagine this new development would cost?

    • you have to remember that to McBoeing, Wall Street engineering (i.e. short term stock price) is much more important than producing the best possible product.

      whatever they end up doing will be the cheapest, lowest risk solution that they think they can get away with.

      they will not manufacture it in Seattle. they will hold a bidding war among the “business friendly” states in exchange for the assembly facility. they will shift as much cost and risk as possible to suppliers.

  6. The concept looks suspiciously like a scaled-up CSeries, including the characteristic Bombardier nose shape, but with a Boeing-style rudder.

  7. “How much do you imagine this new development would cost?”

    I guess less then your bread & butter platform being kicked around in the market place for a decade.

    Assume (estimations):
    CSeries: $5 Billion
    A350: $15 Billion
    MRJ : $2.5 Billion
    C919: $9 Billion
    KC135 $5 Billion

    So a new 160-220 seat NB, using new technology (787/A350 level) would probably costs about $8-10 Billion to develop.

    It would enable Boeing to maintain a 40-50% marketshare in the $2560 Billion NB segment of the next 20 years.

    http://www.boeing.com/assets/images/commercial/cmo/images/long_term_forecast_large_2.png

    In my opinion a MAX one trick pony (-8) would not ensure that, not even taking unacceptable margins into consideration.

  8. Interesting reports from flight global and particularly Yuasa horrible quality control and test process.

    I think some of that was addressed, but never saw some of the details and if all of it was (the contaminated mfg environment was one I had not seen)

    It was in the reports but deep down, far more attention given to the battery box, containment and the spacing (needed but not the whole story of underlying cause which would be the batteries themselves and the cold issue)

  9. 787 Battery Issue:
    Flight global reports make for some very good reading.

    http://www.flightglobal.com/news/articles/ntsb-787-battery-report-details-quality-concerns-at-gs-406632/

    http://www.flightglobal.com/news/articles/temperature-in-787-battery-cells-spikes-in-cold-conditions-ntsb-406629/

    While the remedial items to deal with a run away battery got huge attention, far less so was Yuasa and their horrible mfg environment and total lack of quality control. 1% rejection rate when the norm is 30% rejection for that type of battery.

    I had not seen the contamination issue with the room, amazing.

    Cold spike had been mentioned but not the specifics so that adds another element to it all.

    Essentially all the containment, venting and spacing are patches to deal with a nasty battery that in turn was setup to do just what it did. Once again the wonder of out sourcing your operations and then pretending nothing was wrong.

    Yep, its a wonderful business model, the gift that keeps on giving.

  10. Having saw this once, it goes down and bounces up but not as high for some time as it was before. I think it hit $8 a barrel and I have to think it was the 80s sometime.

    That said, when businesses can sell product like diesel (which I follow closely) at better prices over seas than the US and are allowed to do so, it drives our prices way up (diesel used to be cheaper than gasoline).

    So we refine it and sell it someplace else and pay much more at our pumps.

    Now they want to sell the raw product (oil) overseas as well.

    You have to wonder what part about energy independence we have?

    And as noted in the past, if the rest of the world goes South, all the energy independence in the world does not save our economy. Pretty tangled world and messed up system and buzz words like “Energy
    Independent” (or food independence) are pure hype

  11. The 787 seems like and FAA certification fiasco.

    The NTSB report about the battery incident is not only related to this specific part of the aircraft. The FAA failed also to certify useful cockpit voice recorder and flight data recorder. NTSB was not able to understand the communication between the pilots during flight!

    Where else FAA could have failed?

    • In journalism “embedding” by the military was the death of objective and factual reporting. And note it was a desired outcome.
      Why should one expect that embedding worked differently for the FAA and that this was not a desired outcome?
      Downfall of the FAA resulted from a two pronged approach.
      Industry and their henchmen from politics.

    • “Where else FAA could have failed?”

      That, for me, is the real pressing question. Outsourcing, outsourcing design, outsourcing quality control, no general oversight by OEM , financial pressure on subcontractor, time prsesure, an FAA obviously unable to cope with all this. The result: overall deficiency. — Where ar the hidden flaws in this complex machine?

  12. I think the worst have been found. I also think they should have forced Boeing to revert to NiCad.

    On the other hand, if not for something left in the panel going into San Antonio and the subsequent panel blow up and failure of the electrical system to work the way it should, only time will tell as they did not test for that fault and the system did not react for it correctly.

    On the other hand, the A380 Wig Rib issue was only found due to the blow up of the RR engine. When would that have shown up if not for that wing being opened up and showing that problem?

    As it was not revealed in testing who knows how long and would you have had wing panels ripping off at some point?

    Ernest K Gann lives on, indeed , “Fate Continues to be the Hunter”

    • Well, the rib feet issues was exposed prematurely via QF32.
      In another timeline it would have been exposed during the first regular major structure check and it would still have been “early enough”.
      In contrast every 787 issue coming up seems to expose certification issues accompanying design or execution issues.

      Expect more issues to come up in that respect. Up to now we’ve only seen the very high probability failures.
      The switching panel and the batteries were “certain to happen” things.
      Expect further hickups to advance into less probable circumstances. No idea what those will be.
      My guess would be some cascading e-system failure that will invalidate major ETOPS related assumptions by linking their causality.

  13. Well we can hope that the wing rib issue would have been found before panels came off but I have yet to see that documented. I assume structureal inspection took place on the test fleet and it was not found there (maybve better assembly). In my opinion it was glossed over and I think it was a far more critical issue than the PR spin made it (I felt the same way about the 787 battery and it should have been grounded on the first incident)

    787 battery was bound to happen.

    The electircl panel was not. You do not leave foreight objects in a panel (or extremely rare). That was a unique set of events.

    The aircraft could have run its whole life and not seen a “revealing” incident or it could have gone for many years and had it occur in a different set of events and then found it failed. We will never know, in this case The Hunter sent up a red flag and we can be grateful as I expect there was even more behind the scenes testing for anything remotely similar and we can hope they caught it all.

    • 787 burning e-panel.
      FOD was in my reasonably qualified view _the PR thing_ presented to the public. Zero proof could be shown.

      Most probable real cause was wet contacts from condensation aka “rain in the plane” and resultant long duration arcing helped on from the plasma cloud created by evaporating that water contamination while opening a contact under load.
      You’d be surprised about the size of plasma ball that gets created in those circumstances.
      A careless and/or naive design process resulting in fickle behaviour of equipment. A pronounced lack of design robustness.
      See also the killing of ground power units we saw for a while.

  14. Certainly a novel view. I never saw the like working with a lot of wet electrics but ………

    • Well, “nonwet” is a mandatory prerequisite with electrics and electronics.

      late 80ties I was involved with a maglev system for urban transport. We had to jump through some tight hoops to have fast switching between stator elements. The VFD was switched off for a couple of ms and the coils switched by relay. Rather intricate arcing detection was required and integrated into the switching logic to avoid destruction.

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