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An oil company’s outlook for the energy industry

October 10, 2011 Leave a comment Go to comments

This is based on an excerpt from a session by Hess Corporation’s Chief Stategist.

Early 2011 overview:
– Long-term fundamentals in oil are robust; investing in 20- 30 year time frame; worried about long-run oil price (in 5+ years)
– Downstream: Large refinery in British Virgin islands – once people see uptick in margins, then people chase those margins. Only 1 in 7 years provide good margins! We are not going to make good money in the refining business for the next 5 years. Optimized 500,000 barrels a day to 250,000 barrels a day.
– Natural gas – more exciting hydrocarbon. This is an absolute game changer for the U.S. Today one of the top 4 resource holders in the world.
– Power generation: all incremental natural gas demand in the U.S. comes from the power sector. The largest and the fastest growing energy sector in the world

Overall energy picture: Bottom line – Asia overtakes – globalization
1. Oil demand and GDP – highly correlated (IMF, BP Statistical Review, PRA)
2. GDP / Per capita to crude oil per capita consumption. U.S an outlier. European and Japanese a step lower. Korea has made a step change. Magic figure – $15,000 GDP per person – after this level people buy personal transportation. China car sales exceeds U.S. car sales. If China got to the same level as U.S., then scare. China: 2 barrels per person vs. U.S. 22 per person – If China got to U.S., then global oil demand will be twice demand today – non feasible solution
3. Oil demand growth: key dependent variables: wealth, population, efficiency. Every country is getting more efficient in its use of oil.
4. China pulled the demand of oil up single handedly out of the 2009 recession due to its massive stimulus package
5. Capital budget in a few weeks for 2012 – predicting oil prices. Every $10 barrel change in oil price is $500 mm in cash flow
6. U.S. Govt spending up 7% while GDP up 4% since 2000; and revenues have been flat!. Unemployment rate; huge declines in savings rate in the U.S. Money was all spent on imports (bureau of economic analysis, IMF)- reflected in the U.S. current account balances – shifting manufacturing industries to Asia – moving energy intensive industries to India. Incremental oil growth today is dominated by Asia! To understand oil prices – look at rate of change of oil demand vs. oil supply. Key question: will Asian oil demand hold off
7. 2008 – 2009: lost 2 mm barrels of oil a day; got that 2 mm barrels back in 2010 – all from Asia and not from OECD; 2010: historic high of global oil demand
8. Crude oil is really good for transportation: need high energy density fuel for transportation – easy to carry – one gallon of oil gets 40 miles. We need high energy density oil fuels to replace oil for transportation.
9. Most of OPEC world is nationalized – hard for Hess to play – we play in non OPEC world – we are playing in a set of the world where there are shrinking discoveries . 46% of discoveries in the non-OPEC world are in Brazil. Have classic materiality problem. 30 bn barrels of crude oil a year. 6 bn barrel 2P field in Brazil. World needs to discover 6 such fields ever year! To make up losses. OPEC can chose to produce whatever it wants from its oil discovered in the 1950 – 1970. Non OPEC is focused
10. North Sea, Mexico – is in decline – Canterrel the biggest field is declining 17% a year – huge issue for country going forward.
11. Iraq is the only country in the world where people know oil is there, but the investment has not followed it.
12. Long run – we believe that OPEC will go for price. We look at OPEC spare capacity – is a key long-run indicator of oil price firmness. OPEC spare capacity will diminish by the end of this decade in determining oil price. Arab Spring – Govt. will spend more to keep citizens happy – If Saudi Arabia raises its govt. budget ; breakeven price for Saudi Arabia’s budget has gone up ($60 to $80)
13. Only two countries matter: Saudi Arabia and Iraq. Iraq has currently signed contracts for 11.6 mm incremental barrels of oil in 2017 above its 2.4 mm barrels today. This will be higher than Saudi Arabia’s 12.5 mm barrels a day today. Will Iraq co-operate on production with the rest of OPEC (i.e. Saudi Arabia)? Saudi Arabia: look at their annual spend – they are spending a lot of their money on their budget – currently their break even is at $75 – $80 a barrel!!! OPEC spare capacity shot down from 1980 to 1990 and then build up to 200 back again. From 2000, globalization began to occur and hence OPEC spare capacity began to decline again! Today Hess’ assumption on spare capacity is at the same levels in 2015 at all-time trough spare capacity in 1990
14. In 2007, at $60 a barrel, OPEC cut production, increased spare capacity to increase prices. In 2008 it increase +0.5 mmbl. At $40 a barrel in 2009-2010, they cut 4.5 mm barrels to defend prices! OPEC quotas are based on reserves base – supposed to work on reserves – but this is fiction! In theory it is allocated according to reserves but essentially everyone quota breaks and so the burden falls back to Saudi Arabia – the only player that can really move the market.

Hess oil view: demand back at historic highs, China and non-OECD drive growth, increasing dependence on Saudi Arabia and Iraq; declining spare capacity, robust price outlook.
Iraq – cheapest oil to find in the world today. With Exxon, BP and Shell, you have so much oil to replace, you kind ignore oil in Iraq. We have ignored Iraq and we are investing in Kurdistan – still has huge risk – we have swapped geopolitical risk for geological risk!
Iraq oil – costs $10 to $30 a barrel. Key question – what will be taxes.
Libya – back in; but just evacuated all out people again. 93% tax rate in Libya! So in value terms we haven’t lost much! Should have a low impact on our stock – need to evaluate govt. take!
Natural Gas
Not a global market yet – become increasingly linked. Three market chunks – U.S. Europe, Asia – long haul pipelines and LNG are linking these prices together. Cheapest LNG by far from Qatar. They can swing their volumes easily to balance global markets. Australia is rapidly developing LNG capacity. Mostly all of it is shipped. Supply of resource and distance shipped is key to understanding pricing.
Big game changer in Alaska – can you bring the gas south in a pipeline and then liquefy – though no longer attractive because of shale gale.
Russia, Qatar, Iran and U.S. – 54% of world natural gas resources.
Lots of demand in the U.S.; low resources but high demand in Europe – more resource dependent. Asia – loads of demand but not that much supply. China wants to develop indigenous shale gas resources.
Natural gas cartels are worse than OPEC! Top 10 suppliers of natural gas have 65% of supply!
Natural gas – big use in power generation. Coal plant input vs. output – 35% loss. Big efficiency gain using natural gas. Coal. Plateau-ing use of coal in the U.S. due to natural gas. Fundamental problem with natural gas – doesn’t go into transportation segment easily! We either need to develop LNG vehicles. There isn’t enough incremental gas demand to eat all the supply. Need to shut down a whole lot more coal plants.
Hayensville shale has seen the most rapid growth – people have been holding their acreage.
Wind is by far the most economic renewable!

Natural gas pricing drivers:
1. On the high side gas competes with fuel oil
2. On the low side – can switch coal plants to natural gas
3. Old paradigm – coal price floor for natural gas; not true any more. Today gas on gas competition – today market price for henry hub is below coal price floor.

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  1. March 17, 2012 at 8:53 am

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