More than a billion barrels of expected oil supply have been removed from the market. Yet prices suggest the danger has passed. Adam Rozencwajg joins Cem Karsan and Niels Kaastrup-Larsen to explain why that conclusion may be dangerously premature. The missing barrels have not disappeared from the equation. Their impact is still moving through tankers, refineries and inventories, hidden by reporting delays and China’s strategic response. From the limits of petroleum reserves to falling stockpiles, gold’s correction and the energy required to power AI, this episode examines a market caught between what prices are saying and what the physical system may soon reveal.

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Episode TimeStamps:

00:00 - Why commodity super cycles are driven by capital investment, not geopolitics

09:30 - The impact of Middle East supply disruptions on global oil markets

15:38 - Oil inventories, strategic reserves and why the data may be misleading

21:57 - China's energy strategy and its growing influence on global markets

31:23 - Why energy markets have not reacted as many investors expected

37:13 - China's long term energy transition and global demand implications

43:59 - Why oil prices have fallen despite tightening fundamentals

48:12 - The outlook for oil markets over the coming months

58:25 - Gold, investor positioning and what could trigger the next rally

01:02:59 - Strategic government investment and the future of critical commodities

01:09:22 - Why energy remains the biggest opportunity in the AI boom

01:11:53 - Final thoughts on where commodity markets go from here

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I mean, it just doesn't make any sense, right? You can still benefit or protect your domestic market and not idle those refineries. And the only thing I can think of is that it's sort of like a signal to the world or a war game that, look, this is what China looks like if we're starved of imports, we're fine, and you guys have a real big problem.

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In each episode we go deep with some of the world’s most thoughtful minds in investing, economics, and beyond to understand how they think, how they prepare, and how they decide, and the experiences that shaped how they see the world. No noise, no short-cuts, just real conversations to help you think better and invest with confidence.

Welcome and welcome back to another edition of our Global Macro series where, as usual, I'm joined by my co-host Cem Karsan as a returning and very popular guest to the show, namely Adam Rosenzweig, whom we last spoke to about nine months ago.

Adam, it's always a pleasure to have you back. How have you been?

Very good, and you guys? It’s nice to be back.

Good. And of course, it is an interesting time to talk about commodities and natural resources. So, I'm sure it's going to be a fun and very educational hour or so.

Also great to see you, Cem. I know we've done a few recordings the last couple of weeks, so it feels very familiar to be back with you, and also look forward to some exploring further interesting deep-dives that you have in store for today.

Yeah, I have a lot of questions and a lot of thoughts, given the current commodity situation. So, I’m excited to talk to Adam today.

And we saw lots of commentators… can't remember exactly, I'm sure this is normal, but of course there were some commentators out there who came out and said, yeah, this is the beginning of the commodity super cycle. Now I know you have said, Adam, in the past, that there are reasons why you didn't believe it at the time, and so on, and so forth.

Anyways, a few months ago we had activity, another confrontation starting in the Middle East, in Iran. And something, on the surface at least, looks sort of similar. We had already seen, last year, some commodity markets started moving higher, especially like precious metals, so and so forth. The energy complex really didn't start until sort of February of this year, but of course took a massive move higher once the conflict started.

And then we got kind of the classical group of people coming out. And again, Adam, I don't know, actually, what your public conversations have been like, but I do know from some of our other previous guests that we have a lot of respect for, came out and talking on other podcasts and shows, basically feeling that or expressing that it was almost like an inevitability that oil had to go to $150, $200 because of the importance of the Strait of Hormuz and the closure of that.

You've written beautifully about some of the differences in your updates, but I'd love for you to take us through that and then we'll see where we go.

Okay, very good. Well, look, lots to unpack there and we can definitely get started. So, I think, first and foremost, to really kind of zoom out and take the biggest picture that you can, I think that what drives these big commodity cycles, and we've talked about this in the past, is ultimately the CapEx cycle. So, there'll be a period of time where, let's say, you have a deficit, and prices move a lot higher, and money comes in, and eventually you start to bring on new projects or you start to sanction new projects, but it can take 10 or 15 years for those new supplies to come online. So, what happens the next year and the year after that? Well, prices keep going up because you're still in a deficit.

And just like economists have the sort of r* mythical interest rate, I think in our industry we have a c*. And just like r* it is the sort of hypothetical rate that makes everything perfectly balanced.

C* is the perfect CapEx investment that makes everything balanced at some point in the future. And once you hit c*, again, what happens? You're still waiting for the supply to come on. So, prices keep going up and then everything after that is excess investment, Right? So, then the new projects come online, market balances, and you have this tsunami of new supply coming behind you, prices collapse, investors get wiped out, no one invests at all.

And just like on the way up, what happens on the way down? Well, supply persists for a while because depletion eventually takes hold, but doesn't happen immediately. And so, it'll take a while to work off that oversupply until eventually it happens and the market shifts back into a deficit again.

And I think we're in the process of tracing out a really typical commodity cycle. I think it might be more severe than in the past because we curtailed supply, we curtailed the CapEx for longer and by a greater degree than we have in the past. There are a few reasons for that. I think the ESG movement of several years ago meant that it took a little longer to kind of normalize investment in our space. I think the carry trade, that we've talked about a lot, has sucked a lot of money into large cap, high multiple, high duration, low volatility assets, which has not particularly been good for our space. And so, that trend is a really big feedback loop that's going to take some time to break.

No, I don't think that the Russia, Ukraine conflict, obviously in retrospect, it was not the catalyst for a huge super cycle. I don't think that the Strait of Hormuz is a catalyst for a super cycle. I mean, all of these geopolitical events can be accelerants. They can bring attention to the market, they can cause people to rethink their biases on commodity trends, but ultimately they do get resolved.

And I don't mean to minimize the human suffering and the physical damages that happens. But I mean, I've never seen a huge sustained cycle brought about by a conflict. On the other hand, CapEx trends almost always predict a major new cycle down the road.

That upcycle will end when the new money gets invested. And really, with the exception maybe of certainly lithium, but let's leave that aside, we've seen some money come into copper, some new copper projects coming online, but we really haven't seen anything in the form of oil or natural gas.

We haven't really even seen it in uranium, even though that's kind of been a market darling. You can't point to all these new uranium companies that are bringing on production imminently or even new projects that have been sanctioned. Lots of guys have raised some money into that space, but we still haven't really seen that kind of train leave the station. So, I think this has a long way to go and I think it's just getting started.

Has anything, just since our last conversation… maybe before Cem jumps in, but just staying with energy for a while is probably going to be a big part of our conversation, perhaps. But has anything, in your view, kind of changed in the last six to nine months? If you disregard, as you say, the geopolitical side of things, where it kind of comes and goes. But is there anything else that maybe we, as non-commodity experts, are not paying attention to in the last six to nine months?

No, I think if you're going to look at the last six to nine months, I mean, the big thing that's changed here is that we took a billion barrels out of the market because we shut in all these fields in the Middle East. So, I really do think that is the sort of near-term driver. We can talk about shale production trends and latent demand, and the non OECD world, but you have to be a really, really, in the weeds academic to really care about those. The big thing that happened is that you shut in the most prolific oil producing region in the world for three months. Right?

There are concerns that we would lose Russian crude exports and refined product exports, both because of sanctions as well as physical damages and things like that. And oil prices rallied all the way up to US$120. What's notable is what didn't happen. There was no disruption, essentially, to Russian crude and refined product exports. There was disruption to gas because that pipeline went down, but ultimately part of that was rerouted via LNG, other parts via pipelines into China. And gas is more difficult from an infrastructure perspective. So, there are some impacts on the gas market, but on the oil market, really nothing.

Russia ended up selling its crude in the shadow markets to places like India, to places like China, certainly, and others as well. But there's a huge panic. Now, the size of the impacted production back then, which ultimately wasn't impacted at all, was tiny compared to what we're talking about today, Right? And there it resolved relatively quickly. And. And people realized that Russia would get its oil out and that everything would be fine.

And so, by the end of the year, prices had pulled back substantially and would kind of go on to pull back over the next couple of years. In this situation, you did have a disruption. It wasn't fears over a disruption. It was a disruption, and it was massive.

We all know the numbers now. It was 20 million barrels passed through the strait before the closure of that, 5 million or so is now getting out through east/west bypass pipelines in Saudi Arabia, UAE, and Iraq. But 15 million barrels a day, I mean, that's massive. That's what's being impacted. That's essentially what was shut in upstream.

Because what happened was once you shut the strait, you had all these tankers inside the Persian Gulf. Half of them were full, half were empty. The empty ones filled up. And that took about a week to 10 days, and ultimately got about, I think it's about 120 million barrels or so into that. And then eventually all of that field production had to be shut in because there was nowhere to put the oil.

And so, you shut in somewhere between 10 and 15 million barrels upstream. That's oil that we expected on the market that never came. And that's what you really have to focus on. Everything else gets really complicated. But that's the key point is that you lost between 10 and 15 million barrels upstream, and that stayed offline for about 100 days. So, you had between a billion and a billion and a half barrels impacted, and that is just absolutely massive.

And that oil needs to be made up by a couple of factors. One could be big production gains from other parts of the world. We haven't seen that. The second could be demand destruction. We haven't seen that. We can talk about that, because that's a bit of a controversial take, but we haven't seen that. And the third is that inventories would collapse. And that's really where… that's the lever that's been balancing the market. It's been coming out of inventories. But in that sense, we saw a huge lag of about six to eight weeks from the outset of the hostilities to when we saw the inventories fall. And that's because it took time to work everything through the supply chain, if you will, until it hit inventories.

If you imagine, you pump a barrel, it has to make its way to the ship, has to transit, has to stay in a storage tank, go through the refiner, go through distribution, it is probably 60 to 90 days. And now that we're through that first couple of weeks or first several weeks, we're starting to see inventories just collapse, just collapse.

In the US, which was supposed to be the most isolated from physical shortages because we have so much domestic production, we're seeing US inventories collapse, and I suspect they're collapsing even faster in the rest of the world. So now that the straits open, I think the same thing is going to work in reverse. Everyone's going to expect inventories to go back up, but we're probably only halfway through the inventory draws because just like it took about eight weeks for inventories to start declining when you turned off production, it'll take about eight weeks for inventories to start building now that you've turned it back on, and I don't think we have enough in the tanks to get us there. So, I think we're going to have a huge problem, potentially, at the end of the summer.

Can you put some numbers on, when you say we see inventories collapse? I mean, are there any numbers to kind of visualize it for the audience, to really make the point about the impact here?

Yeah, sure. So, in the United States… So, the other problem, the first problem, is this physical lag that has to work through the system. So, you're only dealing today, you look at numbers today that essentially reflect the reality, such as it was, 60 days ago. And that could be quite problematic when you have such fast moving events like this.

The second problem is that the only place where we have real-time data (and when I say real-time data it’s still subject to that physical lag), is in the United States where we get weekly data. Everywhere else we get monthly data, and it's on a two-month lag, and it's reported by the IEA. And so, we're really kind of flying blind a little bit.

But in the US, we have good numbers. And in the US right now I think inventories from their peak are down about 240 million barrels or so. That includes strategic petroleum and commercial, and we can argue one versus the other, fine, but to understand the balance in the market you need both of them together. Right?

Like if the SPR had released all this oil, and the market was balanced, then the commercial inventories would go up by that amount. Right? And you'd say, oh, the market's balanced. In this case (and I'm sure we'll get nasty comments that say, do you or don't you include the SPRs), if you want to look at the today balance on the market, I think it behooves you to look at both together and you've drawn them down quite sharply.

If you look at, again, if you kind of work off the assumption that you have withheld about a billion barrels from the market, maybe a little more, and you think we're halfway through inventory draws at this point, and the United States is drawn down about 200, call it mid 220, 230, that would suggest, maybe for the full situation, we could be down close to 500 million barrels in the United States, which would put inventory draws on a global basis, probably pretty close to a billion barrels. So, that all kind of triangulates in and we just don't have that amount of oil and refined product.

That was my question because I heard that total inventories around the world are something like 7, 8 billion. I don't know if that's a true number. And then I'll pass it over to Cem, so when you say we could be down 500 million in the US alone, out of how many, so to speak?

Yeah, sure. And that's a really good point. And it's a probably subject for a whole podcast, albeit it would be a pretty dry podcast, but somebody might find it interesting. So yeah, you do see numbers like 7 to 8 billion barrels of total inventories around the world. But what people fail to appreciate is that very little of that is actually available for use.

And that might seem counterintuitive, but it's really the difference between working capital and true discretionary savings, let's say. So, for instance, what makes up part of this 8 billion barrels?

Well, part of it is simply all the oil in the world that is filling pipelines. That's considered storage. I wouldn't really consider it storage. You can't access it. I mean, the only time you could access it is when you decommission the pipeline and you drain it at the end. I suppose you access it then.

But for instance, a pipeline… you can control how much oil passes through a pipeline by changing how hard you push at the start of it. Right? How much pressure you put the fluid under. That determines how fast it moves and so how much the throughput of the pipeline can vary, but you can never vary how much oil is in the pipeline. That's a volume figure. And that has to remain 100% filled. Otherwise you develop these air pockets and you start to blow out your pumps fairly quickly. And so that amounts to about, I think, 2 billion barrels on a global basis.

So, already 25% of your inventory isn't really inventory at all, it's just line fill. Then you have… the export market is like an 80 million barrel a day market. And it takes about 20 to 25 days to do an average vessel transport transit for crude. And so, if you take 80 million barrels, times 25 days, you're at 1.7 billion barrels. So, that's oil that is on the water, but it has to be on the water. The only way that you could conceivably access that oil is if you reduce the size of the seaboard and trade of oil. And that, in fact, would make the markets here tighter, or most parts of the world tighter.

The last part, that, again, people don't appreciate, and it might sound ridiculous, but if you have a storage tank for crude or refined product, you cannot access the bottom 10% of it. You put the spigot above the bottom of the tank floor so that you don't get sediment that collects and blocks up your pipes, and that amounts to about 10%. So, it might sound, again, kind of inconceivable, but you actually can't get it. You need it to be there so that you don't gum up the whole system. But you can't actually get at it.

So, you make all these adjustments, and you look at what the absolute minimum would be before the system really starts to break down. And we came up with about a billion barrels and JP Morgan came up with a number that it was a little bit vaguer. It was a range, it was a good sell-side report.

It was actually a really good sell-side report because it was very diligent but it really couldn't be proven wrong in any way, shape, or form, because it had a range and a whole series of possibilities. But they said, somewhere between 700 million and 1.2 billion is where you start to… At 700 million, you start to develop pressure in the system. And at 1.2 you have a catastrophic failure of the system. And that's going to be right around where we're going to get.

Sure.

These are all questions I have related to the US, but I also want to understand, more globally, just for the audience, how much reserves are there in terms of strategic reserves, and where are we in that picture, and how quickly are we drawing globally? I know we don't know all the details, but I'd love to get a shape and feel for that, both in the US (which I think we have better numbers for), and globally as well.

Yeah, if you look at the US Strategic Petroleum reserves, your numbers are pretty close. On the OECD basis we've agreed to release about 400 million barrels in total, and we're running a little bit behind on that. We're kind of halfway through that and running a bit behind the original schedule.

I don't think that there's another huge tranche of SPR releases that you can do after that. I think there's a couple reasons to think that. First of all, I think that when hostilities started, there's obviously a lot of concern about rising oil prices. And I think the OECD, which is 80% funded by the US, wanted to pour water on that. So, I don't know why they would not announce the biggest cut that they could deliver. Announce it and then don't bring it if you don't need it. Right? But just announce it anyway, and just kind of get all the concerns out of the market, and then you start to release it over time. You can ultimately do whatever you want in the first place.

So, I think there's a lot of reason to believe that 400 is on the upper end of what they can possibly do. In the United States, in particular, what's a bit strange is that we don't use above ground tank storage for SPR. We actually put oil and gas into these depleted salt domes, old oil fields essentially that are impermeable and can take a huge volume of liquids. And that's why there's such an ambiguity as to how much you can ultimately draw those down.

I suspect we can go another, 50, 60 million from here without too much issue. But you're down in uncharted territories and you're getting very, very, very near to essentially being at more problematic levels with your SPRs.

Is that daily draw number of about 5 to 6 in the neighborhood of what you know?

That seems a little bit high to me because, again, if we kind of have done 90 odd million barrels over the last 90 days, you're closer to 3 million, I think. You're usually kind of 6 to 7 million barrels on the week.

Okay, interesting. And then globally… And again, the numbers I understand are gray and it's hard to get exact numbers, but just to get the shape of it, how much US oil reserves are there relative to, let's say, global? I know China… Maybe we should bring China into this year. I know they built tremendous reserves going into this. Any sense of where… I can talk about opaque. I know it's difficult. If it's hard in the US it's probably impossible in China, but any sense you can give me on kind of where China is, on drawing that? How much they can release? That'd be great as well.

Yeah, so from an OECD perspective, the US is the big player. Japan has an SPR as well. Europe has very meager SPRs. When you look, then, at the non-OECD world, essentially no one has a material SPR except for China. And there's very good reasons for that.

I mean, China is much more vulnerable today than the United States ever was. And so, they've been building up a large strategic petroleum reserve. Nobody really knows how much. People try to guess all the time. It's largely conjecture. And it's done by making estimates for Chinese demand, domestic production, looking at imports, and then storage levels. Each of those is an opaque number. And your strategic petroleum is the balancing of all of those. Right? So, I mean, those numbers can really be off by a lot. And the truth is, no one really knows.

But for all intents and purposes, they built up kind of a billion barrels or so, a fairly large SPR figure. Now, again, that's a very different SPR than ours for a few reasons. One of them is politicians in the United States have this perverse incentive to release oil from the SPR. It's a source of funding at times. It can depress oil and gas prices going into elections at times. In China, it's really a little bit more strategic. They view the ultimate outcome of an invasion or incursion into Taiwan as the US shutting off the Straits of Malacca and Hormuz and ultimately sort of trying to make them very vulnerable to energy shocks. And so, they built up this very large Strategic Reserve to protect them against that.

I personally think, if you look at what China has done since the start of the Hormuz crisis, it's a little bit of a war games or a trial run of what they would do in the event of going into Taiwan. So, for instance, the day that the strait was announced shut, China made an announcement, which is still in effect to this day, where they essentially banned the export of refined product.

So, you have to understand how China's oil market works. They produce some production domestically, they import a lot of crude, they refine into a lot of refined products, they consume a lot of that domestically, and then they export a lot internationally, particularly to the global south or the non-OECD Asia Pacific world. They're sort of a toll refiner for the rest of the region, if you will.

The day that this strait closed, they said we're not doing that anymore. Refined products or exports are done. Right? And what did that mean? Well, that meant of course they didn't need to import as much crude anymore. They didn't need as much oil because half… not half, but a big hunk of the oil was going to domestic and a big half was going for exports. And so that had a couple of weird, unintended consequences. Right? It actually pushed some crude volumes back into the market because we didn't have other refiners stood up ready to take that oil.

So, if you're a crude trader, all of a sudden you're seeing China no longer taking the vessel and actually diverting the cargo and selling it back into the spot market. But what it importantly didn't do is it didn't destroy downstream demand. People didn't stop burning gasoline, diesel and jet fuel. It's just that your refiner in the middle essentially stepped out of the market. And so that had a huge impact on inventories of refined products, for instance. Right?

But it does beg an interesting question, why would China do that? I understand, very well, having a preference towards your domestic market so they have security of supply. But once you've hit that level, why wouldn't you keep importing those other cargoes that instead you sold into the market, run them through your idled refiners, make a mint on the crack spread, and sell the refined product back into the world? I mean, it just doesn't make any sense. Right? You can still benefit or protect your domestic market and not idle those refineries. And the only thing I can think of is that it's sort of like a signal to the world, or a war game that, look, this is what China looks like if we're starved of imports, we're fine, and you guys have a real big problem.

Yeah, it's, it is interesting. This is kind of the next thing I wanted to ask. You kind of stepped towards that, let's continue with that, which is postmortem on the last three, four months. It didn't go exactly as most people expected and China obviously played a huge role in that. But I'd love to hear your analysis, other than, let's say, positioning. Which is obviously critical in the market. But from a structural perspective, other than China, what were the other major roles? Because the strait really never really opened, not for long. Nothing has really changed. Yet, we're now well beyond what people thought would be, in a major crisis moment. Why are we not at an energy crisis? Why is oil at $75? Talk to me a little bit about your analysis of what actually played out so far.

I think from there we could start talking about, how does that change, and when does that change? I think that's really what we're getting to if the strait continues to really be closed, regardless of narrative.

Well, so, listen, I think a couple of things. I think that it's a little early to do a postmortem here because I don't think we've seen the impact of the closure work itself through.

Agreed, I'm saying to this point. Right? Things have definitely postmortem relative to where we are right now.

Yeah. But I think we're basically halfway through those inventory draws, and so we still have a long way of pain to go. And I think, from a psychological perspective, assuming the strait reopens and stays open, it’s going to be very psychologically odd for people to have the strait open, and transits going up, and inventories plummeting.

It's going to be the mirror image of what we have had for the last six weeks, which was I would get phone calls every day saying, why aren't inventories collapsing yet if the straits closed? You said, just give it a little bit of time, guys. It has to work through the system. And now you're going to get the opposite, where everything's going to be open, maybe, let's assume everything's open, and everything's flowing, and inventories are still going to keep collapsing. And I think that's going to be very, very discongruent for a lot of people to get their arms around.

But as far as the things that really kind of have been different than I suppose we would have expected, it's really been China. That's been the number one thing. And that's really obfuscated a lot of the data because you have to remember, for the most part, petroleum demand is not actually a measured figure, it's a modeled figure. And what are the inputs in the models?

Well, there are a few things in econometric macro assessments and stuff like that, but one of the things that goes into that econometric model is refinery runs. Because it's a hell of a lot easier to look at a couple really big pipes going into big refineries than it is to track every gas tank in the world to see how much is actually being burned.

And refineries, in general, they're not in a speculative game. They don't do runs on spec, hoping to place that. They know what the end users are demanding. Right? And they provide that into the market. So, it's a pretty good real time gauge, and petroleum end products supplied is, oddly, what the industry uses to refer to demand. Who figured that out, I don't know. But product supplied is actually demand, and it's usually a modeled figure through refinery runs.

Now, if you start changing the entire refinery complex, like you are today, that makes the data very difficult. And so, we've seen a lot, a lot of media outlets and energy agencies report a 5 to 6 million barrel-a-day demand destruction figure, which would be very consistent, by the way, with how the refiners are acting.

If you take off all this Chinese export refinery capacity, and you ran that through the model, yeah, it looks like demand fell by 5 or 6 million barrels, but it might not have. And if it didn't, then you're really kind of dwindling your inventories very quickly and running into a problem very, very, very, very fast.

And to put that in perspective, 5 to 6 million barrels of demand destruction, that's like what we had during COVID. And I've been traveling a lot recently. The airports are packed, I can't get a seat on half the flights. Vehicle miles are up. This is not COVID, nothing close to COVID.

So, I don't think demand is weak, but I do think that the data has become very difficult to parse because you have what is normally, albeit, volatile, but a market that its pieces are in equilibrium. Everything is kind of normal in the oil markets, people might roll their eyes at that, but it's certainly normal compared to today.

Today you have shipping bottlenecks, you have refiner shutdowns. It makes it super difficult to parse. That's probably one observation that I would have. And the China piece to that is having a huge impact.

Most recently, in the last, call it, two weeks, the thing that's really impacted in the oil market is that, as you opened up the strait, you had a lot of vessels, twice the normal number of vessels if you will, that had been trapped in the Persian Gulf, that are now trying to get out. And that results in a one-time destocking, if you will, of oil on water.

And if you're an oil trader, you have to bid for that at the same time as your biggest customer, China, is not really taking the same level of imports that they were before, and you're using price to clear that market. And I think that's really kind of what you're seeing in the most immediate term. And it has no impact on the medium or the longer-term, which is much more bullish.

So, an interesting question that I don't hear enough about, which I think is really important, is in the last 10 years or so China has dramatically increased alternative power internally to China. Very strategically, solar, wind, hydro, grid, improvements, storage, and then they've increased obviously these SPRs, etc. (we don't know the extent).

How much of that, given that China is one of the greatest kind of sources of demand for power in the world, really, may have actually (and again, I don't know how much we know about this, maybe you have better insight) may have reduced demand for oil, or other more kind of carbon-based energy? And how much of that might just be China just saying, you know what, we're going to flip it off for a while, and the rest of the world hasn't built any new power, on whole, outside of China. Basically saying, to your point, war games, all right, you want to play this card, go ahead, we'll be all right, let's see how you guys do. And talk to me a little bit about that. It may be how much of it is, oh, we have the reserves, we're okay for now, we're going to turn this off. How much of it is long-term effect, I guess is my point?

Yeah, sure, I think there's a large part of that. I would debate, perhaps, the long-term impacts are a bit of a different question. But I do think that when you look at China's energy policy, there has been quite a bit of importance and emphasis placed on resiliency and diversification. I think precisely for the reasons that you were talking about.

China has a big domestic coal base. They have some oil and gas as well, but they have a lot of coal. They've been pushing renewables even though most of them are likely operating at big losses. As far as their manufacturing. People say, like it's been crazy how cheap China can get solar panels. It's because they're not making any money making solar panels. It's part of an energy diversification resiliency.

We haven't improved the mechanical processes of polysilicon and photovoltaics to the point that they can see their costs reduced that much. I've done a lot of work on that. And so, I think that’s a huge part of their long-term plan. But I think it would be foolish and incorrect to say that oil is not a part of that. Oil is the dominant part of that. I think, in general, there's been a push to diversify on the margins as best they can. But that doesn't mean that they no longer...

Is it just on the margin though, Adam? Because, I mean, I've seen figures, and you would know better than I do, that show dramatic power output increases outside of oil. Right? And once they build that capacity to produce, like, why isn't that a long-term effect? Why doesn't that serve as some form of substitute for oil?

I mean, we're talking about the biggest, again, demand for oil in the world and we're talking about a scale of production growth as a replacement to it. I just don't understand why we should be skeptical of that. I'm open to the idea. I'd love to hear your thoughts on why.

Yeah, well, I don't think that you need to be skeptical to it, but I think that, again, if you would like to sort of think through a country's energy source and how it's going to power itself. There's a very strong argument to be made for resiliency so that you don't have all your eggs in one basket so you're not subject to major shocks and disruptions. However, presumably, there's also some level of importance to be placed on how efficient that energy source is.

I mean, just ask Germany right now. Germany has decided to go down a renewable path and get rid of its nukes and go towards renewables. And they're seeing a massive lack of competitiveness as a result and ultimately seeing manufacturing capacity move away, etc., etc. England, the UK, are the same. Other countries that have more of a nuclear fleet are doing better. And countries like the United States, where, ironically, it's tried to be a little more hands-off and more market driven, have seen both the biggest percent change in reduction in CO2 and the biggest efficiency improvements across the board.

So, there's very, very (in my mind anyway, and we can debate this point), there's a huge, huge connection between an energy source's efficiency and the ultimate downstream output and productivity you can drive through an economy. And I think that we're seeing that in real time in places that have adopted suboptimal energy mix policies throughout Europe.

In that framework, yeah, China has a big, big, big desire to push resiliency and they want to make sure that they can withstand shocks, but they don't want to do it at the long-term expense of ultimate efficiency. And so, that's where I think hydrocarbons still play a role. I don't think you count them out of that mix.

What about the nuclear build out? I mean, they have about 40, I think, nuclear projects up and running, adding more like every month or two.

Yeah, absolutely.

Obviously, there's a 5, 10 year process, depending on the size of the reactors and probably, maybe even longer, you would know better, but it feels like they're bridging to that.

Yeah, I think they're doing a better job in that than most other countries in the world. They've never really slowed down post Fukushima, whereas the rest of the world kind of went through this cycle and is now coming back on things. And I think that is very, very productive for their efficiency and end uses and things like that.

And I do think that nuclear power (we've talked about this quite a bit), nuclear power is by far the most efficient source of energy in the world in order of magnitudes more than chemical energy released through essentially breaking of bonds between carbon and oxygen, splitting the atom is much more energy dense than that. And I do think long-term that is our future and our solution.

I don't think the numbers that are being put forward in China, even the huge numbers that they are, are going to be enough to really displace oil in our, call it, investment lifetime of the next, I don't know, pick your number, 15, 20 years, but I think that after that. Yeah, absolutely, nuclear is certainly the future because it is both carbon free and highly, highly efficient.

Quick question on that. So, Cem and I, we had another popular guest on the show last week, which was Pippa Mamlgren, and she talked about, for example, in Texas where there was a firm that had managed to build like a small nuclear reactor, with 300 people, in 365 days, and so on, and so forth. And kind of looking into the future of these things, you know, obviously, these things a lot better than I do. But in particular with commodities, I would have thought that often prices can move a lot only if actually it's a marginal change in terms of too much supply or too little supply.

So, I mean, maybe I wanted also to ask you, if you're surprised, given what you've just explained. And I thought that was incredibly insightful, and I think really I learned a lot from all of these numbers. But are you surprised by how quickly oil prices have come down? Given all of the things that you are sharing in terms of the inventory being drawn down so massively, it strikes me as very odd that we're down to more or less the same price that we came from before the war even started.

Yeah, I think that if you look, in retrospect (and I don't know that we fully appreciated this in real time), if you look in retrospect, positioning of investors and speculators going into March 2nd was super, super short. And when you go back and look at the different newspapers, a lot of the big multi strat funds fired their whole energy desk on the 4th of March.

Now, I'm not in HR and I've never worked at a multi strat pod shop, but presumably, with the war in Iran just starting and ramping up, you might want to have somebody on the desk that knows the oil markets. And so, I suspect that the only reason that you fired all of them was because they were hugely short going into that; either short vol (energy vol) or just short energy outright.

And we actually did get a very big short covering rally that lasted kind of the first two weeks of the crisis. And since then, there's been a huge amount of downward pressure on oil, just a huge amount of bearish selling pressure that's persisted, and then got accelerated when a ceasefire seemed likely, and then accelerated even more when the ceasefire came to pass. And so, I would actually argue that, for the full year, people have been bearish.

There hasn't been this kind of everyone talks about the round trip. I don't really even see a round trip. I think people have been pervasively bearish and they had this covering rally that lasted a couple weeks that kind of put a bid under the market and then it just faded and the selling pressure resumed again.

And I think that that's really predicated on this view that we have a big surplus. Absent what's happening in Iran, the market is in surplus. And that's something that we've never really agreed on, or agreed with the market on, because inventories last year were actually fairly stable. They went up a little bit, but not nearly as much as they ought to have if, in fact, we were in this big surplus that everyone said.

And so, our long-term view has always been demand has been a little bit stronger, quite a bit stronger than most people appreciate. And because of that, we're not going to go back to this world where we have this big surplus. We're going to go back to a world that's kind of balanced and inventories now are really, really low.

So, our viewers have been fundamentally different throughout this whole thing. And I don't really think that investors turned bullish and then turned bearish again. I think they've been bearish throughout and just forced themselves to cover some of that exposure, appreciating that there might be a right tail on crude and energy.

I mean, my view is that there hasn't been a ceasefire. There's no real ceasefire. I mean, we're still… yes, they’re taking pauses, briefly, along the way, but anything that's been called a ceasefire or peace, I mean, I think we're keep characterizing it as there's some type of deal. There's no deal here and there hasn't been. And candidly, we can get into the incentives of why. I think, from both sides, there's no willingness to have a ceasefire. The only reason the narrative is even there is because of the midterms.

And so, let's assume that this strait never reopens or at least not till June or September, that it has to resolve by military force one way or another. What's the timeline given that assumption? Because again, I think most people would have said a month or two, and we're in month three, and now I'm, hearing from you and others, a totally different timeline, which is we're halfway there. How do we judge that timeline?

Yeah, listen, I think we were guilty probably of thinking things would happen A little bit quicker than they did. Although in reality it's a little bit difficult to say until the data is finally in, quite frankly. Because the US, being the most insulated market in the world, it's taken this long to show up in the data. The data that we're seeing in the rest of the world is looking pretty darn bullish too. I mean, inventories are really coming down.

And so, I think that the trajectory is really showing you what's likely to come. And as far as the timing goes, I don't know. I suspect that, again, if you kind of just look at this is a bit of a naive estimate… But if you look at the fact that it took kind of six weeks for the strait to close before we saw it in the US data, the most real time data that there is, is there a symmetry in that, that it'll kind of take six weeks from when the strait closes until the worst of the inventory data works itself through? I kind of feel that that's probably right.

And if you kind of triangulate that we're about halfway through it right now… I'll tell you kind of a funny story that maybe kind of proves this point. And I'm not trying to be flippant about this, or anything, or blase. So, there's a field in business logistics called systems dynamics, where you essentially try to map out a really complex system using stocks, and flows, and feedback loops, and gates, and conditionals, and stuff like that.

And what you end up with is these crazy maps. And it lends itself, for instance, if you want to look at a mine; and you have the mine, you have the pit in the underground, they're going to go into a crusher and a grinder, that's going to go into a flotation tank, and you want to see where your bottlenecks are, and you want to see where you're going to spend capital to de-bottleneck.

As soon as you de-bottleneck, another bottleneck comes up. So, they've developed these really complex computer systems to try to do that. So, right when the strait closed. We tried to build a really complex one and it had field level production, and onshore storage tanks, and then onshore storage tanks loaded vessels, and then that had a rate and a limiter. Then vessels had a certain amount of days on the water, and there was a chokepoint now, in the Strait of Hormuz, and how did that impact the onshore receiving term? And we built this whole thing out. And then you press the button to go, and say, what happens?

It says, well, you're going to take out a billion barrels upstream and at the end you're going to have a billion barrels fewer downstream. And you kind of like chuckle. You're like, yeah, I guess that's right. And in the middle it all whirs, and this level goes up, and this hits a bottleneck, and that reroutes here. But at the end of the day, you take a billion barrels out upstream and you have a billion barrels less downstream.

There's really not a lot of getting around that. Okay. And we're not through that yet. We're just not through it yet. So, is it this week, next week, a month from now, two months from now? I'm humbled enough to appreciate that a lot of these things change in real time. But what I can tell you is that you cannot take a billion barrels out upstream and not have a very, very, very significant impact on global energy markets. We're not seeing it now.

The best argument I get is that something that we can't see must be happening because there's no way that the fundamental story is this bullish and the price is this bearish. And that's a dangerous, dangerous trade to make because it doesn't allow for the possibility that the market is wrong.

Yeah, I think what I'm gathering from this, is that big unknown and that big powerful kind of lever that's unknown is China. And China has incredible scale, and capacity, and ability, potentially long-term disruptive (we don't know), disruptive ability to change the price, supply and demand forces, and with it energy at this point. And we really just can't judge that. And that's the big question.

I haven't heard enough research on where China is with other power relative, how much that is drawing… And it seems like that's the real question here because if they are really the one who drove dramatically different outcomes relative to expectations, I think that's the thing we all need to dig into a little bit more and understand a little bit more. And maybe that's hard, maybe it's impossible because China's opaque. But that's really what I'm gathering here.

And I still am not sure whether we have any real insight on whether they can't just continue to keep oil prices low throughout, or that the Strait of Hormuz stays closed for another nine months. That's the part that's really the big question for me. What do we really know here? Is China able to control this full outcome or is that not the case?

Sure, so, look, one thing that I will say to that end, because I think you're conflating perhaps short, medium, and long-term issues here. So, over the long-term, how China is going to determine the path of its economy and how it's going to choose to try to power that economy are obviously really important discussions and decisions, and will have a major impact both on the energy markets and on their domestic market and probably on global economic activity as well. And does it behoove us to study those in depth? Oh, absolutely, it certainly does. And I think those are going to be some of the profound questions that we have going forward.

In the short-term, I think it's super clear what they're doing. They're drawing down their stockpile of crude and refined products to benefit their domestic market. They haven't turned over their entire auto fleet quietly in the last 90 days. Whatever they were demanding back in January is going to be approximately what they're demanding today. And they're choosing to essentially prioritize their domestic market.

They have, then, chosen to not export refined product to the rest of the world. Okay, so this is no longer a China story now. Right? This is impacting the rest of the world. And the rest of the world has responded by sucking bare every spare barrel of refined product in storage as best they can. And we're seeing big shortages and we're seeing dislocations. We're seeing massive crack spreads.

We saw earlier this year Lufthansa cancel a huge number of flights because they felt, looking at the numbers, they wouldn't be able to procure access to jet fuel. Now big rearrangements have happened where the US has had some excess capacity of not the right kind of jet fuel because it freezes in Europe in the winter, but it's the summer that everyone realized this. So, all these things are kind of leveling out. Right?

But you have a massive, in the near term, a massive, massive drawdown in stockpiles. And it's stockpiles of mostly refined product that I think is the real pinch point. In the medium-term, essentially, bridging that short-term, which I think it's quite clear what's taking place, and in the long-term, which is a little bit more opaque, what does that look like in the fall and in the winter? Again, a lot of these big questions take a lot longer to turn.

China is not in a position today to fundamentally change how it consumes energy. It's not able to say, you know what, guys, this is the new normal. We're not going back to needing very much oil. That I think is a very, very low likelihood event in the next 12, 18, frankly probably 5 years. Over 5 years, I think you can begin to turn that ship. But that's a big ship to turn.

All right, I want to shift gears, if that's okay, to a few other commodities. We don't have a ton of time left. But one I think important one that we got to address is gold. Right? Gold has had, not surprising from my view, some real volatility this year. I think everybody got very long of gold and there's several dynamics we could get into.

But we talked how ‘68 to ‘82, gold was the best performing asset by far. The point I tried to make early on was that one of the most interesting things about the move that we had so far is how relatively not volatile it had been. And in ’68 to ‘82, gold was actually the most volatile asset in the world as well.

And so not a full kind of surprise that we're getting the drawdown in gold that we have. I'd love to hear your thoughts on when, how that might turn in your views, what's affecting it, and your thoughts on gold writ large.

So, we were very long gold. We don't invest in the commodities, we invest in the equities. So, we were very long gold miners through ‘24 and all of last year. And then we sold most of our positions. We did two tranches, a small sale last October, which was mostly valuation driven. The gold/oil ratio was starting to get pretty stretched, but we kept about two thirds of our positions. And then we sold them, almost entirely, in January. And our fundamental calls are usually awfully good. Our timing, I would say, is average. And our January sale of gold was really good. We owe the timing gods one, on that one, because we got that one pretty good within about three days at the top of gold there, and three days before the top of gold, and we rotated it into energy. And what did we see that concerned us in January? A couple technicals and a couple fundamentals.

So, first of all, silver staged this massive catch-up rally and we've always been of the opinion that when silver tends to lag gold for a long time and then it stages this massive catch-up rally. And when it stages that big catch-up rally, that tends to be a good time to step away from both gold and silver, all precious metals. So, we got that in January.

Gold clearly was kind of going parabolic, just the way it felt. You could look at it on a chart as well. January started to get a bit toppy. Although we're not traders, we're investors, but you could feel it in January.

The other thing that was a bit concerning, to us, was that ETF accumulation of gold, not so much gold equities but gold, got quite robust in January. And we felt that was kind of fast money that could come back out if things turned. And it did, it started to. And the last thing was that the market was really kind of pricing in three cuts. And we felt that was potentially overly accommodative and a little bit too dovish of the market. But the prevailing wisdom was that Warsh was going to come in and cut rates and do what Trump had asked him to do, etc.

And we were a bit concerned that Warsh had this hawkish background. And, in general, if everyone is already kind of pricing, in three cuts, in an expansion economy, it's like that seemed a little bit much for us. And we thought that you could actually get cuts, and gold would sell off, because people had kind of bought the rumor and might sell the news. So, for all those reasons, we said it's time to rotate into energy.

And so, when people ask what would we look for, I guess it's, on some degree a reversal of some of those things. Right? If all that ETF length came back out of the market, I wouldn't be so worried about that. If everyone started assuming three hikes, or four, whatever, to the point that we felt that even a hike announcement might deliver a rally in gold because people had shorted gold on the rumor, would cover on the news that I would like.

Again, if we saw the gold to oil ratio swing back in gold's favor, which would be quite a sharp move from here, that would be appealing. And then there's kind of precedent and analog. So, if you look at past consolidations within a bull market, which is ultimately what I think we're in here, 35% is not uncommon. 40% is not unheard of. That's what happened in ‘73, ‘74. That's kind of what happened. And ’08 to ‘09, whatever. And now we're not anywhere close to that yet; about halfway through to that.

And historically that's lasted about two to three years before you've really kind of entered into a new rally phase. And that part I'm probably less concerned with. For instance, if I got every other major data point there, but it happened fast, I don't think I'd say no, let's leave it for a bit. I think that would be okay.

But historically, this would be short for a retracement. It would be shallow and it doesn't address any of the fundamental drivers that give me pause with gold. And then my kind of funny tongue-in-cheek answer is that, when everyone stops asking me, that's when it'll be time to get back into gold. Because right now the number one question I get, people are desperate for us to go back into gold. They would love it. If we sold all of our energy tomorrow and bought gold, they would love it. And that's not a bottom.

That leads me into my last question. I'm sure Niels may have some others, but I have a view that the US is preparing as a tremendous strategic departure from what it's done historically, in terms of how it runs its investments and its approach to running the economy.

I believe, with the launch of the strategic wealth fund… the sovereign wealth fund, I apologize, Trump accounts, etc., not to mention all the significant kind of investments we're starting to take in different strategic businesses, that there is a concerted effort (and I think this is just the beginning) of really building investments of 5% to 10% in the next 10 years in US equities, strategic equities.

And I think of this as the Chinafication of the American system where China has succeeded tremendously by direct investment to corporations, sometimes at a loss. Right? As you highlighted. I think the US is going to do that with American characteristics which is do it through the equity channel.

And I think we're preparing to do that. And I think it's going to happen way sooner than people think. I think it's already starting. They're already creating all the infrastructure for it. And I believe that's coming really post midterms, but before June of next year. All indications by speeches given by Bessent and others kind of dictate this. And I think we'll lean all over the US dollar as our kind of primary reserve, and use as our primary lever, versus China, to make that happen. Create dollars out of thin air at scale to compete at scale.

Given that view, I think we're already starting to see more and more strategic investment and driving, again, not billions, but I think eventually trillions of dollars into this approach. And it's not just AA, by the way. I think it's broad US infrastructure rebuilding and competing with China at scale.

What commodities, if you took that view, would you be most bullish on given that's what the next three years is going to be the driving force in the next few years? One the gold conversation becomes more interesting if we're just going to print dollars at scale and buy equities, which again is what I'm basically saying. But what other more kind of strategic commodities look interesting to you? Where are you focused if that's the world we're heading into?

That’s an interesting question. I do tend to like free market things and so the idea that the government's going to come in and help, and that's our answer to all these questions, gives me a little bit… makes the hairs on the back of my neck stand up a little bit. But it does seem as though we're trying for that. Obviously, the US and the Department of War has made some strategic investments into mining assets, etc., whether it be copper assets, or whether it be rare earth offtake, etc.

It's interesting, if you're asking me where do you play the beneficiaries of more government involvement in the commodity sector, that might not be the same as what I think are going to be the biggest winners in the commodity sector. Right? Because it's entirely possible, for instance, that the United States would do things that are non-economic or less optimized economically but important strategically. And I'm thinking for instance of like granting offtake agreements to rare earth companies where they're putting in…

You’re talking strategic.

Yeah, right.

And they're doing that so that these guys get the right capital signal to invest and they know that they can have a floor in the market. Right? Or they can definitely get their cash back out from making expansions, etc. That's a path that historically we haven't gone down too much. So, I think you're going to see that in the rare earth space. Whether that's a good long-term investment or not, I'm not sure. You're certainly going to see that, I think, both in uranium mining and uranium fuel cycles. So, the enrichment and ultimately the fuel fabrication of uranium fuels and going from essentially mined material into enriched fuel rods suitable to be put into nuclear reactors. I suspect that copper will be a fairly important strategic mineral for the government. We've heard that, we're seeing that.

And copper is sort of a nice one, from their perspective, because it's a big enough market that I think that they can go in and reliably help push new projects forward etc., while also not being the only source of capital in a tiny little market. You can quickly overwhelm private capital if you went into other things. So, you might see that. Ultimately though, copper, I think, realistically, where prices are today, where investor enthusiasm is today, is completely out of whack with the fundamentals.

So, I mean we look at the copper market and in many ways it's the antithesis of oil. Where oil, the fundamentals look great, inventories are low, and now drying, and no one's making any investment into the space. Prices are depressed and valuations are attractive. In copper, prices are all-time highs, nominal, near all-time high real. Everyone's bullish. Everyone's bullish copper. And actually, if you look, copper mining supply, last year, grew at a really fast clip. It catches a lot of people off guard when I tell them that. Because the prevailing wisdom has been that we can't grow copper mining supply. It's growing awfully quickly. Demand, particularly in China, has sort of stagnated in the last 18 months or so. And as a result inventories are just swelling. They're up to 30-year highs. And so that's kind of an area that I think the United States government is putting a lot of time and focus. Will that be a good call long term? I'm not so sure, but I think it's going to happen.

Gotcha. Is there anywhere in the AI space or any other space where there's a commodity, and maybe just doesn't exist because it's all been stretched, but where there's something that is relatively cheap, that would both align with a long-term view of bullishness, regardless of this view, but also might benefit from a strategic investment perspective?

Energy. It's not in the chipsets, it's what's powering them. I mean, it's just amazing to me, still to this day, people can't get their arms around the energy side of this angle. And even when people have, even when that's become like a big focus of conversations, what they really want is they want to build the power plant. But that's not energy. I mean, that's a piece of infrastructure that converts energy into electricity. The problem is energy, it's the upstream problem. They want to build the pipelines and own the infrastructure.

Nobody wants to invest in the molecule of natural gas, let's say, that will inevitably power this data center. That's the biggest opportunity that exists in the market today, whether it's AI or not, quite frankly. But AI is a big beneficiary there.

But everyone's so focused on a super obscure specialty metal that could be the next thing that's needed, inside the data center. Whatever that's going to be it needs to be powered outside of the data center. And those numbers are astronomical and nobody is paying any attention to that.

Full circle. Thank you.

Not to speculate too much and not to leave things on a cliffhanger here, but I do hear our mutual friend, Pippa Malmgren, talk about new sources of energy that maybe only the military and all of that knows about yet, but where you can have like a handful of whatever they're called and they can power like a whole city. I don't know. Anyways, we'll probably come to that.

But I do want to give you, Adam, a chance to bring up anything that we… I mean it's been an energy conversation today and that's great. That's exactly what I think is needed at this time. But is there anything else you want to leave the audience with before they should go, in any event, and go and check out your research, your fund, which has done great over a long period of time. Anything else you want to draw attention to?

No, look, I think we've covered so much in this past hour, and I do have to sort of almost apologize to anyone listening because I do appreciate that it's incredibly complex. There are a lot of moving pieces right now. We have to spend days just sort of sorting through what should normally be a fairly, if not certainly volatile, but a steady equilibrium kind of a market where you can see supply and demand here, you can see its impact over there. Right now you have all this obfuscation and all this complexity in the system.

And nevertheless, I don't think the chapter is fully written on what's happened here in the last three or four months. I think within three or four months it will be, and I think we're going to have a very different view of energy markets after that. And if at that point, there doesn't seem to be any impact of any of this, then you have to reassess your views. But I think you need to wait till those next cards get flipped over to really see what the true impacts have been here. And that's going to happen, I suspect, in the next three or four months.

Well, you know what that means, Adam? That means that you're going to be back in three or four months for Part 2 of this energy conversation, which I'm sure many people will already look forward to, including Cem and I, of course. Anyways, thank you so much for a super insightful conversation.

And as I mentioned, go and follow for sure Adam's and Cem's work and you will only be the wiser for it. And hopefully we'll continue these conversations because the world is truly both geopolitically driven, but it's also driven by commodities at the moment. So, stay tuned.

From Cem, Adam and me, thanks ever so much for listening. We look forward to being back as we continue our global macro series. And in the meantime, as usual, take care of yourself and take care of each other.

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