Beyond Forecasting: Energy Markets in a Time of Unprecedented Uncertainty

Abstract

Management Imagine if you could have seen North America’s shale gas phenomenon coming, years ahead of the competition. What would you have done differently? Some companies might have avoided spending billions of dollars on liquefied natural gas import facilities in the United States. Some might have acquired acreage before hyperinflation escalated land values. Others would have reallocated capital to better position their companies for the onslaught of natural gas and natural gas liquids. If you had seen it coming, would you have anticipated the global competitive advantage of US domestic industries, from manufacturing to fertilizer to plastics to coal, and the resulting changes to international flows? Hindsight is 20/20, but there were indicators pointing to a shale gas supply shock. What was missing for most executive teams was a systematic approach for identifying plausible scenarios and defining the leading indicators that would allow them to monitor the market’s evolution toward them. Most energy companies could benefit from this type of approach, especially with the high level of today’s uncertainty. We have developed a series of plausible scenarios based on our analytical models. To build these scenarios, we capture the dynamics of the energy ecosystem along three major vectors: natural gas supply, crude oil supply, and the uptake of renewables (Fig. 1). Within each, we consider experience curves and the relevant efficiency gains to determine supply curves and possible clearing prices. We then use those prices to calculate intrafuel substitution (such as shale gas for coalbed methane gas) and interfuel substitutions (such as natural gas for coal). We also reasoned that regulatory actions and technology breakthroughs could make renewables competitive and lead to substitution away from fossil fuels. Then we looked at the constraints on infrastructure build-out and we balanced supply and demand by industry sector (power generation, transportation, industrial heating and power, and industrial feedstock). This type of scenario building is a forward-looking process that anticipates disruptive change and can help inform executives for better decision making.