Monday, April 03, 2006
Ethanol Wildcatting
US motor vehicle fuels usually have an additive to increase the efficiency of burning (i.e. an oxidant for anti-knocking). Formerly tetraethyl lead, the most recent one was MTBE, which has been phased out due to detection of leakage from underground storage tanks (MTBE lends a strong unpleasant flavor to drinking water). The replacement is ethanol (drinking alcohol). As a oxidant replacement, it will comprise a few percent of gasoline. That alone is a driver for the ethanol production industry. But in addition there is renewed talk about using ethanol as almost a gasoline replacement - up to 85% ethanol. Brazil has what seems to be a successful program on this front. Finally, the President, in the most recent State of the Union, indicated the possibility of enhanced ethanol usage as a motor fuel.
Some key points about ethanol as a fuel:
- ethanol is both miscible (infinitely soluble) with water, and hydroscopic. The latter term means that if you have pure ethanol just sitting around, it will suck water out of the air or any other source and dissolve it, and the mixed water/ethanol combination has different physical properties (better martinis, not as good a fuel). Since water is everywhere, handling ethanol as a fuel is complicated.
- ADM is the largest producer of ethanol in the US, and any competitor needs to have some viable competitive advantage against them.
- Ethanol production is subsidized in the US, which makes predictions about market viability murky.
- Growing motor fuels sounds great at first blush, but like with anything economic, the question is an allocation of competing scarce resources. Land is used for food crops, and is fertilized with petroleum-derived products. If corn production is significantly diverted to fuel production, what effect will that have on the market prices of corn - what sort of price change would it take to kill off the market viability of corn fuel production, and how subject is the price of corn to that amount of price change? Since fertilizer is a petroleum based product, that diminishes the incremental advantages of corn based fuel production against "oil independence," and affects the final price of the product (could go wither way).
- There's politics in this - favoring farming lobbies over oil lobbies. Both those lobbies are big and powerful.
- Kopin Tan in the 3Apr2006 Barron's had a write-up on ADM and ethanol (no link since I'm protesting their new online subscription policy - 2 subscription fees to them is enough). Some key points: ADM has 29% of the market, next largest player has 5%; Ethanol was at $1.35/gal, but may be going rapidly to $2.53/gal; the ethanol fuel subsidy is $0.51/gal; ethanol is now 3% of US fuel market; corn accounts for one third of ethanol production costs.
- There is lots of speculation about advances in getting ethanol from cellulose, either by growing the cellulose more cheaply (switch grass? hemp in the US is probably the best bet, but that won't happen), or by inventing a new process (e.g. biological enzymes). Ideas are not businesses.
So, the big picture here is that understanding ethanol as an investment is complex. It's not nearly as simple as the main storylines, nor is it a sure thing, nor is it necessarily going to be successful. For example, if gas with ethanol shoots to $4.00/gal, this market will die overnight as legislation gets reversed. But given all the Middle East turmoil, the State of the Union, and the MTBE phase out, anything ethanol related is sure to be a Spectacular Story, almost regardless of the specifics.
With that background, we're going to look at a few of the new players in the next few posts.
[BTW, there's wildcatting going on in oil, too]
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11:41 AM
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What is your take on the ethanol refining infrastructre? Can it sustain itself and grow as we prepare for the catastrophic oils spike that's looming on the horizon (because of geopolitical causes abroad)?
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