The World Waits for Japan Damage Reports

Jim Brown
 
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With a quarter of its refining capacity offline, meltdowns in two reactors and ten more offline there is a very uneasy quiet on Sunday evening. The scenes of tsunami damage are horrific with entire communities completely washed away. Debris is stacked up to 30 feet high in places where the floodwaters were halted.

However, despite the grim pictures on TV and the estimates of 10,000 to 20,000 dead we have to remember this only impacted coastal towns and then only between one and five miles from the beach. The vast majority of Japan is undamaged or at least was only hit by the quakes and suffered cracked walls and broken glass.

I am not trying to make light of the suffering and death on the coast around Sendai, a city about 200 miles northeast of Tokyo, but the vast industrial heartland was unharmed. Had the quake been a couple hundred miles south there could have been deaths in the hundreds of thousands.

The biggest problem for Japan as a country is the loss of the 8.6 gigawatts of nuclear power. Over five million homes and businesses are without power and some could be without power for weeks or even months.

Five refineries with combined processing of 1.2 million barrels per day shutdown automatically when the earthquake hit. Several sustained minor damage but it is unknown when they will be able to restart.

It is very likely Japan will have to import large quantities of fuel oil, diesel, gasoline and LNG to run emergency generators for hospitals, buildings and emergency services. With at least four reactors offline for months to come and two reactors permanently offline there will be a strong need for alternative electrical generation capability. Japan has some of that capability with a low sulfur fuel oil it typically gets from Indonesia. The last major earthquake shutdown Japan's largest nuclear power plant for more than two years.

A major problem for the refiners is the flooding because of the corrosive effects of salt water. Seawater can destroy refineries and their operating systems in minutes. Pumps, compressors and electrical systems running at high temperatures will interact with the salt in the water and cause major damage. Salt water also destroys instruments and electrical components and connections.

When Murphy Oil had a 125,000 bpd refinery closed in Louisiana by flooding from hurricane Katrina it took 9 months to return to full production because of salt water damage.

This should increase the cost of refined products like heating oil and diesel all around the world. The price of New York Harbor Light Sulfur Fuel Oil (LSFO) should move higher because that is already a tight market due to increased demand from Singapore.

Toyota has already resumed production in Japan and it will need to replace the thousands of cars that were lined up on the docks for loading onto transport ships. These cars were pushed up to several miles inland like ice cubes bobbing in a bathtub as the tsunami powered forward. One pile of several hundred cars caught fire and was sending large clouds of black smoke over the city.

In the short-term this will be a blow to Japan's productivity and consumption but historically whenever these big quakes hit Japan they see a big jump in economic activity over the next two years as the country rebuilds. Hopefully they will pay attention to the flooded areas and move homes and businesses to higher ground. Japan has a major earthquake about once every ten years because they are on a convergence of multiple tectonic plates.

Because they have so many earthquakes they have 1,200 high specification GPS sensors located around the country. They can calculate ground shift within a foot. Friday's earthquake pushed the cities around the earthquake zone between eight and 13 feet to the east. I find that unbelievable that an entire land mass can shift location on the planet by 13 feet in a matter of several minutes. Since Friday's quake there have been more than 1,000 aftershocks.

Crude oil opened -$1.50 lower on Sunday evening at $99.50 and Brent declined $1 to $112.50. S&P futures opened down -9 points. This suggests Monday's market will open lower and it will include a drop in energy stocks. I believe this is a buying opportunity for energy shares. This Japan news will fade after a couple weeks and the extra buying of refined products will keep demand high. Libya could be offline for months and we are approaching the April elections in Nigeria and those are typically preceded by attacks on oil pipelines by MEND rebels. That additional decline in light crude exports could push prices significantly higher. Buy the dip this week.

Jim Brown

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