Finance News

12DW Monday Logo PNGAs battle lines were drawn during Libya’s long civil war, Libya’s National Oil Company (NOC) was split between East and West, with opposing governments in Tripoli and Torbruk competing over oil revenues. Libya holds Africa’s largest proven reserves of crude, however, ongoing conflict has seriously disrupted oil production and exports – Libya currently produces just 350,000 barrels per day (b/d), significantly below the 1.65 million b/d produced prior to the unrest.

With oil revenues a key source of income, attacks on oil installations have been frequent by rival groups vying for power. A statement on July 2nd – announcing the reunification of the NOC – could indicate that recovery in the Libyan oil sector is on the horizon. An NOC spokesman, Mohamed Elharari, stated that reopening the blockaded export terminals at Es Sider, Ras Lanuf, Zawiya and Zueitina was a top priority for the company. The four ports have a total export capacity of 860,000 b/d, and would significantly boost global crude supplies. Any improvement to the situation could have a substantial impact on global markets – the opening of these terminals would likely lead to downward pressure on oil prices.

However, years of war have ravaged Libya’s oil infrastructure, the lack of maintenance represents a significant barrier to increased production in the near term. Both Es Sider and Ras Lanuf have been the focus of attacks, with Ras Lanuf’s storage tanks particularly badly damaged. Key to restarting exports will be Ibrahim Jathran, head of the Petroleum Facilities Guard (PFG) – who have been blockading Libya’s export terminals since 2013. Initially set up as a politically neutral force to protect Libya’s oil facilities during the civil war, the group have arguably acted as a private militia under Jathran’s leadership. A deal between Jathran and the Tripoli-based government on the 25th July was condemned by the chairman of the NOC, Mustafa Sanalla, who stated that the deal set a “terrible precedent” for further extortion by armed groups controlling oil facilities.

As the disagreements continue, it is clear without the support of the NOC, the prospect of ports reopening remains unlikely. The reunification of Libya’s NOC is certainly a positive step for recovery, however, tremendous barriers remain – in the short to medium term, oil is unlikely to flow at the levels seen in the days of Gaddafi.

Joel Hancock, Douglas-Westwood London

4BP LogoBP announced on July 14, that following significant progress in resolving outstanding claims arising from the 2010 Deepwater Horizon accident and oil spill, it can now reliably estimate all of its remaining material liabilities in connection with the incident.

As a result, taking into account this estimate together with other positive tax adjustments, BP expects to take an after-tax non-operating charge of around $2.5 billion in its second quarter 2016 results.

This charge is expected to include a pre-tax non-operating charge associated with the oil spill of around $5.2 billion. This would bring the total cumulative pre-tax charge relating to the Deepwater Horizon incident to $61.6 billion or $44.0 billion after tax.

BP believes that any further outstanding Deepwater Horizon-related claims not covered by this additional charge will not have a material impact on the Group’s financial performance. It will deal with remaining claims in the ordinary course of business.

Brian Gilvary, BP chief financial officer said: “Over the past few months we’ve made significant progress resolving outstanding Deepwater Horizon claims and today we can estimate all the material liabilities remaining from the incident. Importantly, we have a clear plan for managing these costs and it provides our investors with certainty going forward.”

Gilvary reconfirmed that BP expects to continue to use proceeds of divestments to meet Deepwater Horizon commitments in line with the financial framework laid out in previous quarters.

A year ago, BP reached agreements to settle outstanding federal, state and local government claims arising from Deepwater Horizon. In the months since, BP has made much further progress in resolving outstanding claims arising from the incident.

PSC settlement - the Court and the Deepwater Horizon Court Supervised Settlement Program have been progressing the remaining economic and property damage claims relating to the 2012 Plaintiffs’ Steering Committee (PSC) settlement, including through simplified and accelerated procedures for processing certain claims. Today’s announced charge includes the estimated cost of settling all outstanding business and economic loss claims under that settlement, which are expected to be paid by 2019.

Opt-out and excluded claims - there has also been significant progress in resolving economic loss and property damage claims from individuals and businesses that either opted out of the PSC settlement and/or were excluded from that settlement. In February 2016, the US federal district court estimated that there were more than 85,000 valid opt-out and excluded economic loss plaintiffs. The vast majority of these claims have since been settled or dismissed as an order of the court today confirms. An estimate of the cost of the remaining claims, expected to be paid by the end of 2016, is also included in this charge.

Securities litigation - in June, BP announced a $175 million settlement of claims from a class of post-explosion ADS purchasers in the MDL 2185 securities litigation, payable during 2016 - 2017. This cost is also included in today’s announced charge.

11DW Monday Logo PNGReducing drilling and development spend has largely been the focus of services and equipment providers in the Gulf of Mexico – with the aim of lowering costs at the most capital intensive period of asset lifecycles. Often overlooked, Opex costs have grown in line with other upstream costs – 7% CAGR from 2010 to 2014 in the Gulf of Mexico. The North American offshore market has some of the highest overall MMO costs per barrel – more than twice the global average.

Historically, offshore Opex has been largely ignored as a critical driver of deepwater project economics, yet this is beginning to change. The current rate of growth combined with the overall operational cost in the Gulf of Mexico is not sustainable. Operators are deferring and cancelling many historically routine operational objectives as long as they stay within safety and regulatory guidelines. Budgets for maintenance and modification projects are now being revisited and contractors will feel the impact. Within our offshore support sector clients, many firms typically point to the large proportion of revenue that is production-linked, implying that this insulates from the effect of oil price cycles. Whilst this may be true up to a point, the effect of the current prolonged downturn clearly reaches far further than exploration and development activities.

Mergers and acquisitions are likely to be a result of this operational spending compression, but there are still many efficiencies to be shaken out. Practices such as consolidating projects and optimising contracting processes are already producing results in many cases. With breakeven economics at $70 per barrel or higher at some Gulf of Mexico prospects, recognition of operational costs and streamlining the value chain can no longer be overlooked.

Andrew Meyers, Douglas-Westwood Houston

15DW Monday Logo PNGThe decision by 52% of the voters in the EU referendum last week to vote to leave the EU has had far-reaching impact across the globe. The oil and gas sector, bruised from nearly two years of low oil prices, is bracing itself for the fall out.

The immediate impact of the referendum outcome was a plunge in the value of the pound to a thirty-year low of $1.34, significant falls in all of the world’s stock exchanges and the price of Brent tumbling 5% to $48/bbl.

The greatest risk to the energy industry is surely a global economic slowdown, which would suppress oil prices for longer and delay investment in exploration and production. In the short-term, however, UK-listed oil companies such as Shell, BP and Tullow have fared (comparatively) well since the decision was announced – with a large proportion of dollar-denominated revenue from abroad the devaluation of Sterling actually benefits these companies and they will see in a boost in reported revenues as a result. The end-user at the pump in the UK will, of course, see the opposite effect for the same reason – we import a significant proportion of the oil we consume and prices will rise as a result of the exchange rate movement.

For now, we are left with a perception of risk generated by uncertainty over what ‘Brexit’ actually means. The negotiations on our exit are yet to happen and the timetable and extent of the UK withdrawal are yet to be seen. The Prime Minister has made it clear he will not trigger Article 50 of the Lisbon convention himself and will leave it for the next leader. Despite the outcome of the vote it remains entirely possible that the government (largely pro-Europe) will deliver a ‘Brexit-lite’ outcome or even no Brexit at all.

Steve Robertson, Research Director, Douglas-Westwood

2 1ExxonMobilExxon Mobil Corporation (NYSE: XOM) and InterOil Corporation (NYSE: IOC, POMSoX: IOC) announced an agreed transaction worth more than $2.5 billion, under which ExxonMobil will acquire all of the outstanding shares of InterOil (the ExxonMobil Transaction). “This agreement will enable ExxonMobil to create value for the shareholders of both companies and the people of Papua New Guinea,” said Rex W. Tillerson, chairman and chief executive officer of Exxon Mobil Corporation.

2 2interoil logo 1“InterOil’s resources will enhance ExxonMobil’s already successful business in Papua New Guinea and bolster the company’s strong position in liquefied natural gas.”

InterOil Chairman Chris Finlayson said, “Our board of directors thoroughly reviewed the ExxonMobil transaction and concluded that it delivers superior value to InterOil shareholders. They will also benefit from their interest in ExxonMobil’s diverse asset base and dividend stream.” Under the terms of the agreement with ExxonMobil, InterOil shareholders will receive:

  • A payment of $45.00 per share of InterOil, paid in ExxonMobil shares, at closing. The number of ExxonMobil shares paid per share of InterOil will be calculated based on the volume weighted average price (VWAP) of ExxonMobil shares over a measuring period of 10 days ending shortly before the closing date (Share Consideration).
  • A Contingent Resource Payment (CRP), which will be an additional cash payment of $7.07 per share for each trillion cubic feet equivalent (tcfe) gross resource certification of the Elk-Antelope field above 6.2 tcfe, up to a maximum of 10 tcfe. The CRP will be paid on the completion of the interim certification process in accordance with the Share Purchase Agreement with Total SA, which will include the Antelope-7 appraisal well, scheduled to be drilled later in 2016. The CRP will not be transferrable and will not be listed on any exchange.

Compelling Benefits of the Transaction

When concluded, this transaction will give ExxonMobil access to InterOil’s resource base, which includes interests in six licenses in Papua New Guinea covering about four million acres, including PRL 15. The Elk-Antelope field in PRL 15 is the anchor field for the proposed Papua LNG project.

ExxonMobil’s more than 40 years of experience in the global LNG business enables it to efficiently link complex elements such as resource development, pipelines, liquefaction plants, shipping and regasification terminals, which it has demonstrated through the PNG LNG project, working closely with co-venturers, national, provincial and local governments, and local communities. ExxonMobil will bring to bear its industry-leading performance and strong commitment to excellence as it grows its business in Papua New Guinea.

The PNG LNG project, the first of its kind in the country, was developed by ExxonMobil in challenging conditions on budget and ahead of schedule and is now exceeding production design capacity, demonstrating the company’s leadership in project management and operations. ExxonMobil will work with co-venturers and the government to evaluate processing of gas from the Elk-Antelope field by expanding the PNG LNG project. This would take advantage of synergies offered by expansion of an existing project to realize time and cost reductions that would benefit the PNG Treasury, the government’s holding in Oil Search, other shareholders and landowners.

Path to Completion

The ExxonMobil Transaction has been unanimously approved by the boards of both companies. The InterOil board unanimously recommends that InterOil shareholders approve the ExxonMobil Transaction.

The ExxonMobil Transaction will be implemented by way of a court-approved plan of arrangement under the Business Corporations Act (Yukon) and will require the approval of at least 66 2/3 percent of the votes cast by InterOil shareholders at a special meeting expected to take place in September, 2016.

In addition to InterOil shareholder and court approvals, the ExxonMobil Transaction is also subject to other customary conditions. Subject to obtaining the aforementioned approvals and satisfaction of closing conditions, the ExxonMobil Transaction is expected to close in September, 2016.

Further information regarding the transaction with ExxonMobil will be included in an information circular, which will be mailed to InterOil shareholders in due course. Copies of the key transaction documents for the ExxonMobil Transaction (being the arrangement agreement and the information circular) will be available online under InterOil’s corporate profile at www.sedar.com.

Oil Search Transaction

The InterOil board of directors, in consultation with its independent legal and financial advisors, determined that the ExxonMobil Transaction is superior to the previously announced transaction with Oil Search Limited (ASX:OSH, POMSoX: OSH) and so advised Oil Search on July 18, 2016. Immediately prior to entering into the arrangement agreement with ExxonMobil, InterOil terminated its previously announced arrangement agreement with Oil Search, and ExxonMobil is paying Oil Search the termination fee in accordance with the requirements of the Oil Search arrangement agreement on behalf of InterOil. The previously scheduled Special Meeting of Shareholders to vote for the approval of the Oil Search transaction has been cancelled.

Advisers

Davis Polk & Wardwell LLP and Blake, Cassels & Graydon LLP served as legal advisers to ExxonMobil in relation to the ExxonMobil Transaction.

Credit Suisse (Australia) Limited, Morgan Stanley & Co. LLC and UBS served as financial advisers to InterOil in relation to the ExxonMobil Transaction, and Wachtell, Lipton, Rosen & Katz and Goodmans served as its legal advisers. Morgan Stanley & Co. LLC provided the InterOil board with a Fairness Opinion.

11PIRALogoDisappointing EIA Data

The large product stock build added to the market’s worry about excess light product stocks undermining crude demand and ultimately reducing the size of crude stock declines. While PIRA sees crude stock declines accelerating onshore U.S., with this week’s EIA data showing 630 MB/D stock decline, the market is, not surprisingly, skeptical given recent EIA reports and the crude weakness in Northwest Europe and Asia. Oil markets are stuck in a $43-$53/Bbl trading range, and visiting the lower end on occasion is to be expected, especially with lots of fear and data like the July 13 EIA report.

July Balances: Something for the Bulls and Bears

The market is having second thoughts about the industry’s ability to cope with surplus supply despite the atypical heat expected to persist well into the second half of July, as suggested by NYMEX futures brief expedition to ~$3.00/MMBtu and subsequent V-shape reversal back towards ~$2.70/MMBtu. Thursday’s relatively flat price action following a neutral-to-consensus stock build further reinforced the market’s at least temporary hesitation to push prices back toward those July highs. Indeed, weather forecasts and projected seasonal restocking in July certainly appear favorable to sentiment; a post-summer acceleration in refills has called into question the viability of $3.00/MMBtu gas during the upcoming shoulder season.

National Grid Confirms Tighter U.K. Winter, but Spark/Dark Spreads Move Off Recent Highs

U.K. winter power prices have jumped in response to the recent tumultuous development in NBP prices, but spark spreads have softened in the past 10 days or so, in spite of the latest Winter Outlook by National Grid confirming that the power market will remain exceptionally tight.

Coal Pricing Extends Rally, API#2 Above $60/mt

Coal prices shot up last week, with all three major forwards tacking on $3.00/mt or more across the curve. Higher oil pricing, more positive signals coming out regarding Chinese coal demand, and stronger European gas prices all factored into the strength in coal pricing last week. FOB Newcastle (Australia) prices rose by the greatest extent, perhaps due to increased buying activity out of China and weather-induced cuts to Indonesian exports. PIRA would not be surprised if the rally in pricing starts to fade, as additional support on the fundamentals side will be needed to keep prices on an upward trajectory.

EUA Price Rebound Expected Following Brexit-Inspired Drop

Near-term EU ETS fundamentals are poor, but no worse than they were before the Brexit vote. EUA prices rebounded after the January 2016 price decline (which was far more severe) and could do the same now. Auction demand data from June was somewhat positive, and there is historically a price bump in August, when auction volumes are lower. Also, the currency impact from the Brexit vote results in lower compliance costs for U.K. coal-fired generators, potentially supporting emissions demand. However, there is increased market uncertainty.

Solid Second Quarter Economic Performance by China and the U.S.

Chinese economic data for the second quarter surprised on the upside — GDP growth came in above expectations; the manufacturing sector appeared to be picking up steam; consumer spending expanded solidly; and the housing sector remained red-hot. Data on total social financing and local government debt indicated that policy makers have maintained an easy stance on credit creation. In the U.S., growth in consumer spending accelerated in a major way during the second quarter, but other sectors were more subdued. Industrial production disappointed, though capital-intensive manufacturing industries reported encouraging results. The latest inflation data did not set off an alarm bell.

Asian LPG Prices Fall

Asian LPG prices were lower last week, with front-of-the-curve contango spreads flattening, indicating that markets are less optimistic of autumn price gains than they had been previously. Cash continues to trade at a significant discount to paper, with August physical Far Eastern propane being called near $310/MT, some $15 below futures. Butane continues to trade narrowly above C3, ending this week at just $14/MT above propane — the tightest premium thus far this year.

Volume of U.S. Ethanol-Blended Gasoline Reaches All-Time High the Week Ending July 8

Manufacturing margins reach 18-month peak. RIN values soar.

Too Much of a Good Thing?

Traders inherently love this sort of volatility, but it’s plainly obvious that these moves, overnight especially, have many backing away. This should continue to be the case in corn until early August, when pollination is close to being finished. For beans, we expect the volatility to continue until at least the end of August as late-August/early-September moisture will make or break this year’s crop. PIRA always believes that fundamentals will win out, but it’s going to be a long and wild ride until true fundamentals take over once again.

Japanese Crude Runs Rose, Imports Eased and Stocks Built

Crude runs rose again on the week as maintenance continues winding down. Crude imports eased slightly, but crude stocks still built 0.3 MMBbls. Finished product stocks built 2.1 MMBbls, with increases in all the products other than gasoil and fuel oil. Refining margins have remained poor with little barrel support other than fuel oil and naphtha.

Japan Elections Usher in Uncertainties Regarding Nuclear Power

Last week’s regional election in Japan brought to power a decidedly anti-nuclear governor in the very region that houses the only two operating nuclear power reactors in Japan, reigniting questions as to the future of Japanese nuclear power generation. While this development is a decidedly bullish one for Japanese LNG imports, it is unlikely that even a completely nuclear-free Japan will result in a resurrection of Japanese gas demand for power generation.

French Carbon Floor Likely a Tax on Coal Units Only. Winter Prices Revised Lower, but Bullish Longer-Term Risks Remain

With the release of the report to the French minister Ségolène Royal on "Proposals for the Carbon Price," together with the Minister's press release of July 11, the French domestic carbon floor is now shaping up as a tax on coal. Assuming the policy starts from Jan. 1, 2017, which is looking optimistic, French 1Q 2017 baseload contract is well priced in the mid €30/MWh and the 2017 annual baseload contract is well priced in proximity of €32/MWh, or €2/MWh below our latest outlook, in line with current market quotes. In the medium term, the decision to penalize the coal units poses risks of earlier coal closures, making the French system more vulnerable during the winter months (similar to the U.K.). In addition, the revised policy still leaves unsolved the longer-term issue of the needed investments in EDF's existing nuclear units.

California’s Proposed Cap-and-Trade Amendments: Tempered Ambition

Draft amendments include a tightening of the cap post-2020, adjustments to the Price Containment Reserve and provisions for unsold allowances — and do not appear to send overly ambitious market signals. After 2020, the Price Containment set-asides are smaller, leaving more of the cap readily available to sources. The high single price tier for Reserve allowances demonstrates that CARB does not expect it to be a factor in regular pricing. The proposal to move unsold allowances to the Price Containment Reserve takes into account the quantitative limits on their return to auction. Quebec is, and Ontario soon will be, a partner in this market, and California policies are looking to serve the broader market.

Global Equities Move Broadly Higher

The S&P 500 set a new record on the week. The strongest gains were posted by the banking index, along with materials, while the “growth” indicator far surpassed the “defensive indicator." Only the defensively oriented utilities tracking index declined on the week. Internationally, all the tracking indices advanced, with Latin America, emerging markets, emerging Asia, China and BRICs all out surpassing the gains seen in the U.S.

Production Reaches Third-Highest Volume of the Year

Inventories draw, decreasing in four of five PADDs, but there was a large build in PADD I. Output of ethanol blended gasoline dipped to the lowest level in a month.

Corn Pollination in Full Swing

After jumping 17%, to 32% last week, corn silking should increase at least that amount again for the week ending Sunday, July 17th. The heat is on this week, but the percentage released this afternoon should have pollinated in fairly benign temperatures in the "I" states and Minnesota, according to mean deviation statistics for the first half of the month.

Failed Subsea Bolts Appear to Be Primarily a Drilling Concern

Recent press reports suggesting that bolt failures could cause significant production shutdowns appear to be overstated. There have been a number of failures of bolts that are used to connect blowout preventers, risers, and other subsea equipment in the Gulf of Mexico since 2003. A task force, with representatives from the U.S. Bureau of Safety and Environmental Enforcement (BSEE), API, oil industry and manufacturing companies, is currently reviewing the root causes of the failures and developing a strategy to fix the existing problems. For producing platforms/structures, fixing the problem may require shutting in production for several days to replace the defective bolts. However, it appears at this time that the issue affects primarily drilling operations and to a much lesser extent existing production.

U.K. Storage Woes Spread to Continent Where Gas Quality Issues Are Paramount

Both the Netherlands and the U.K. are shifting toward market balancing that will rely more on higher seasonal imports and working gas storage. As of now, the way these two markets are managing this inherently riskier position could not be more different. Operating problems in U.K. storage at Rough have created a vast winter risk premium, so vast that PIRA has a difficult time seeing it sustained on an outturn basis. The U.K. will certainly need to rely on more Continental, Norwegian, and LNG supply this winter. As we have emphasized in past years, the U.K. counting on Continental storage to balance some of its peak needs is often at odds with the mandate of Continental storage owners to place the home market as a greater priority no matter how full storage may be. This risk has been particularly egregious in the fourth quarter, given the Continent’s tendency to hoard storage volumes just in case the first quarter produces colder-than-normal weather. Add in real and perceived Brexit fallout and one has to assume the risks to the U.K. are somewhat greater.

Hot Weather Driving Fuel and Power Prices

Following temperatures and gas markets higher, June on-peak energy prices rose month-on-month in nearly every market in the Eastern Interconnect and ERCOT. Gas prices continued to rise through late June with Henry Hub spot topping the $2.90 mark as the July NYMEX contract expired. Eastern coal prices have also seen a modest advance, but western markets remain weak with supply rebounding. A gas price recovery over the balance of 2016 also implies that heat rates will likely struggle to keep pace with the high levels set in 2015. First half of 2017 is also likely to have lower gas burn and heat rates year-on-year in most markets.

Battery Raw Materials Not Expected to Constrain LT Strong EV Uptake, Though ST Issues Possible

In our 2016 Reference Case, PIRA increased its projections for BEV market growth which reflects greater progress in battery development. In this report PIRA analyzes lithium-ion batteries and examines lithium and cobalt, the raw materials crucial to lithium-ion battery production, and find that in the near term, supply shortages for lithium are possible, but long-term supply for lithium should be available at reasonable prices. Cobalt supply is more difficult to predict, but it appears more likely to be volatile than lithium in both the short term and the long term. Overall, PIRA’s expected EV market penetration rate should not be hindered by a lack of raw materials used in battery production.

1Q16 Canadian Producer Survey: Persistent Producer Perseverance

Riding on continued efficiency gains and modestly improved prices, producers in Canada grew output by 4% quarter-on-quarter, or ~550 BCF in 1Q16. Production gains were strongest in Alberta and British Columbia; the former reached highs not seen since 2010, and the latter set new records in quarterly volumes. Both the companies within and outside of the surveyed “PIRA Group” grew production, although this quarter, the non-group significantly outpaced the survey group.

Record High for S&P 500

The S&P 500 set a new record high. Again, volatility declined and emerging market debt prices rose sharply. Financial stress continued to lessen post-Brexit. The dollar was mixed on the week.

UK Shale Could Get Support Post-Brexit

Britain's shale gas industry could get a helping hand from a falling pound and a supportive new prime minister just as it is gearing up for its first production this year, after facing economic and political challenges that slowed its start. The British pound's weakness since the Brexit vote has made it more expensive to import gas, helping the case for shale gas, which had been hurt in the past by weak oil prices and by opposition to planning approval from local campaigners.

The information above is part of PIRA Energy Group's weekly Energy Market Recap - which alerts readers to PIRA’s current analysis of energy markets around the world as well as the key economic and political factors driving those markets.

15DW Monday Logo PNGLaden by corruption scandals and falling oil prices, Petrobras is struggling to repay $130 billion (bn) worth of debt – nearly $24bn will mature by 2017. Efforts to sell non-core assets (pipelines, powerplants, bonds etc.) have been slow going and any attempt to divest upstream operations impeded by red tape. Mandatory operatorship (30%) for Petrobras in the pre-salt basin not only limits the company’s options for raising cash from existing upstream assets but also increases the NOC’s capital outlay. Foreign investment in upstream operations has been made less appealing due to Brazil’s unitization rules, which can make outside operators susceptible to additional financial risks.

Offshore Brazil was once known as a “safe haven” for oil field service companies, yet almost half of all indigenous companies are now facing insolvency issues according to KPMG (e.g. Queiroz Galvao, OGX). Macro-economic factors, inefficiencies (low quality of goods and services, failure to fulfil contract deadlines etc.) and stringent local content rules have created a number of obstacles to growth in the sector.

However, despite these challenges, new opportunities may emerge as the national government and Petrobras re-think the O&G industry’s growth strategy. In early 2016, the government launched the ‘PEDEFOR’ program – relaxing local content rulings and incorporating new financial incentives for foreign companies. The response from industry participants has been largely positive – with Aker Solutions opening another subsea manufacturing center in April 2016.

As Petrobras puts upstream assets (Bauna, Golfinho and Tartaruga fields) into the market, it appears further amendments to pre-salt requirements and licensing methods may take place. If implemented, these changes could lead to another wave of foreign investment. Drawing parallels to the mooted IPO of Saudi Aramco, NOCs are beginning to reevaluate their relationship with both national governments and foreign E&P investors. In the current price environment, experimenting with various options and methods of collaboration is likely to be the most sensible approach to dealing with the challenges of today’s oil & gas market.

Chen Wei, Douglas-Westwood Singapore

15PIRALogoU.S. Commercial Stocks Slightly Decline

Overall commercial inventories declined this past week with the entire decrease due to a decline in crude stocks. The crude stock decline was much smaller than expected, about equally caused by both higher-than-forecast crude imports and the balancing item. The latter could have been related to EIA re-benchmarking. The year-on-year stock surplus did narrow by 3.4 million barrels to 113.5 million barrels (or 9.1%).

Exports Expected to top 4.5 BCF/D in 2017

Since 2014, Mexican energy policy reforms, coupled with low oil prices, have accelerated the nation’s dependency on U.S. gas exports. Indeed, net shipments to Mexico remain upward trending, with June flows projected to average ~3.7 BCF/D, an increase of ~0.7 BCF/D versus the prior year. Equally striking is our expectation for 2017, which should see exports average ~4.5 BCF/D and yield a year-on-year gain of ~0.9 BCF/D. Notably, the upgrading and development of new critical infrastructure, including gas pipelines, electric generation and transmission capacity, are anticipated to significantly shape cross-border flows in 2017, providing a rich environment for gas demand.

Italy: Nord Prices Trade a Huge Discount versus PUN

Italian day-ahead prices have been generally firmer during June, but day ahead prices in the Northern regions have been settling at a significant discount relative to the PUN, coming closer to the other Continental markets. While Italy has switched to a net exporting position to Slovenia, flows from the other Continental markets, most notably France, remain generally resilient.

Gas Prices Lead Coal Higher

U.S. coal pricing has seen a modest lift from the recent move in natural gas forwards. Coal market balances, however, will require a bit more time to readjust (i.e. trim elevated stock levels). PIRA still sees U.S. coal markets realigning over the course of the next seven to nine months even current forces remain on track.

EUAs Correlated with Fuels, EU ETS Reform Talks Continue

A continued closer relationship between EUAs and thermal fuels could limit downside price movements. However, we still expect EUA prices to decline over the next few months in line with summer natural gas prices, bearish fundamentals, and a lack of policy support as talks on post-2020 ETS reforms continue. A small gain should come starting in August, when auction volumes are lower than in other months. Longer term, a positive Brexit vote could have implications for the ETS.

Fed Projections Suggest Interest Rates Will Stay Lower for Longer

At this week’s policy meeting, the Fed stayed put, as widely expected. Its updated macro forecast also did not surprise, showing little changes from the previous version three months ago. Projections on the future policy rate from meeting participants, however, contained noteworthy developments — in short, their estimate of the neutral interest rate has gone through significant changes, suggesting that rates will likely stay lower for longer in the future. The British referendum about whether to remain in the European Union will take place June 23, with the result expected by the next morning. The outcome of the vote has the potential to create uncertainties on several different levels.

U.S. LPG Prices Outperform

Improving fundamentals, namely tightening propane inventories, helped U.S. LPG prices improve last week. Mt Belvieu propane easily outperformed broader energy markets by logging a 1.5% gain, bringing C3’s value to 45% of WTI. Gulf Coast butane prices also rose 1.2%. Meanwhile ethane prices plunged 10% to 22¢/gal, perhaps as markets digest the large 3+ million barrel improvement in inventories reported for end March.

U.S. Prices and Margins Soar

The week ending June 10, U.S. prices reached the highest level since December 2014. Manufacturing margins were the strongest in over a year.

All Eyes on Corn

2015/16 export sales/shipments in corn have now surpassed last year’s pace by 2%, a remarkable achievement considering the lag for most of the year. Ethanol production set a weekly high for the previous week while Funds turned seller’s midweek after an early week buying spree.

Japan Runs Rise, Inventories Draw

Crude runs rose a bit on the week due to a restarting of units down previously for unplanned maintenance. Crude imports declined sufficiently to draw crude stocks 1 MMBbls. Finished product stocks drew a similar amount. There were modest builds in gasoline and gasoil stocks, and a more moderate build in jet-kero. Naphtha and fuel oil stocks drew moderately and were more than offsetting. Refining margins had improved a bit, but have continued to soften as June unfolds.

Structural Tightness Raises the Floor for Gas Prices

Despite Thursday’s slightly higher-than-expected storage release of 69 BCF, the general momentum in structural tightness appears to be adequate to safeguard the ~15% rally in natural gas prices this month. To be sure, sequential domestic production losses and early cooling demand have raised the floor for the prompt futures contract as well as cash prices.

Financial Stress Builds

Most key indexes fell on a weekly average basis as stress grew due to concerns over the possibility of the United Kingdom leaving the European Union. The S&P 500, US High-Yield Corporate Bond, Russell 2000, and Emerging Market Bond indexes were all lower, while VIX rose substantially. The dollar was mostly stronger, while commodities were mixed. Short- and long-term bond yields in a host of major countries fell. The Cleveland Fed released their inflation expectations for the month, which showed decreases in all the major maturities.

Production Reaches a Record High the Week Ending June 10

Stocks rise for the first time in six weeks. Ethanol demand in blended gasoline remains strong.

Weather Volatility Increases

After a strong close Friday, which saw notable volume of 5K December ’16 corn contracts in the last five minutes and 3K more during the post-close, weekend weather forecasts literally had something for both bulls and bears. Consensus continues to point to hot temperatures, but precipitation forecasts were drier, wetter, and then drier again, and finally wetter, pushing markets lower Sunday evening.

Iraq Oil Monitor, 2Q16

The oil dispute between Baghdad and the KRG resurfaced in March, resulting in the suspension of 150 MB/D from NOC-controlled fields to the Kurdish pipeline. We believe a $5.4 billion IMF package will facilitate an agreement by 2017. Government requests for spending cuts are delaying development plans at large southern fields. Investment reductions and infrastructure constraints underpin our belief that capacity growth will be limited. We also see risks that additional government forces will be diverted north to combat ISIS, leaving more of a security vacuum in Basra.

Lagging LNG Flows Support Prices amid Dutch Output Weakness and Temporary Outsized Impact of Disrupted Norwegian Volumes

After 14 straight months of increases highlighting a new and more aggressive marketing strategy, Norway’s first year-on-year export decrease in June (down 27-mmcm/d) is largely being driven by unplanned outages (Kvitebjorn), not any notion of a change in the new way the gas is being marketed. All of the year-on-year cuts are coming from flows to the Continent instead of to the U.K., where a price premium makes it the last place a marketer wants to cut. Flows to Germany tested a five-year low in early June, but they appear to be on the rebound in the past week. Put in proper perspective, the loss of Kvitebjorn flows are not going to change the trajectory of the market on a fundamentals basis, but do justify short-term price support amid other lingering issues affecting supply.

Global Equities Decline on Heightened Brexit Fears

Global equities were broadly lower on the week. The U.S. market was down 1.7%, with banking and technology posting the sharpest losses. Energy was down about 1%, but outperformed. Internationally, all the tracking indices were lower, with World, ex-US, being the weakest. Europe also posted greater-than-average declines.

Venezuela: Risks Rising, But No Change to PIRA Reference Case

PIRA estimates delinquent payments to service companies have reduced Venezuelan crude production to 2-2.15 MMB/D in May and June, from 2.3 MMB/D in 1Q16. Our Reference Case assumes these issues will be gradually resolved by the end of the year. Recent reports on agreements with Schlumberger and China are marginally encouraging. Higher oil prices may also help. However, worsening economic conditions present more risk to our 2017 forecast, where we have output averaging 2.2 MMB/D. Venezuelan debts are even higher next year, which will leave the government facing increasingly difficult choices between debt payments, oil sector spending, funding for social programs, and imports of consumer products. This raises the risk of social and political unrest, which have the potential to disrupt oil operations. We are watching events closely, as more payments come due and protests worsen.

Domestic Gas Producers in Romania Could Be Challenged by Imports

Romanian Regulatory Authority for Energy (ANRE) president Niculae Havrilet said that the local gas industry might incur some losses due to price liberalization. According to the price liberalization calendar, natural gas prices should increase by 10% on July 1; the suppliers of households will have to make a pool at the lowest price, and with cheaper imports, they will incur losses because of costs of building up stocks. The gas pool for households includes quotas of the current domestic production, stored gas, and imports. As the ANRE sets these quotas to obtain the minimum end price, the president urged for the continuing of the liberalization process. “The end price of gas will definitely not increase by 10%,” he stated.

Nigeria Devaluation Will Lower Oil Production Costs

The recent announcement from the Nigerian Central Bank to devalue the naira could result in lower costs for operators in Nigeria. The Central Bank had previously pegged the naira at around 200 to the U.S. dollar. Several sources estimate the market value of the naira to be around 300 to the U.S. dollar. Assuming a 300 exchange rate and an increase in inflation as a result of the devaluation (from the current rate of 14% to around 22%), costs to produce existing oil supplies and to develop new ones (denominated in U.S. dollars) could be reduced by around 14%. However, the reduction in costs will be a function of how the exchange rate and inflation develop over time.

Despite Weaker Oil Market, Coal Prices Continue to Gain

Coal pricing surged last week, continuing the market rally that has been occurring essentially since February. API#2 (Northwest Europe) and API#4 (South Africa) increased by the largest extent, while gains for FOB Newcastle (Australia) prices were less pronounced. While a recovering oil market has been the primary factor in the surge in pricing for most for the year-to-date, the oil market lost ground last week, with the coal market gaining ground for other reasons. It will be difficult for the coal market to hold on to these gains, unless the oil market continues its upward trajectory, as Atlantic Basin coal fundamentals are on shaky ground.

Asian Refiners Shift Yields to Cope with Strong Gasoline Demand

Asia-Pacific’s oil demand remained robust in 1Q16, with an increase of 1.12 MMB/D year-on-year. China and India contributed almost the entire growth, driven by gasoline and LPG. Asian refiners responded to higher gasoline demand by shifting their yields from gasoil/diesel to gasoline. While there will likely be a temporary shift back to gasoil now because of its recent relative price strength, refiners will soon return to emphasizing gasoline because of relatively strong demand.

Stabilizing Hydro, Destabilizing Finances Threaten Brazil LNG outlook

Long a staple player among counter-seasonal buyers, Brazil’s role as a key 2Q/3Q buyer of LNG is coming under question, as it recovers from a severe years-long drought. YTD LNG import levels through May are down by 40%, or the equivalent of some 20 cargos (11-mmcm/d through May), as the hydro reservoir levels in Brazil show a significant improvement over last year.

Asian Demand Update: Acceleration in Growth Continues

PIRA's latest update of Asian product demand again shows improved growth due to further gains in Chinese demand. This acceleration in Chinese growth was pointed out in our "Spotlight" piece issued June 8th titled "Soaring China Crude Imports Driving Strong Apparent Demand." The latest year-on-year Asian demand growth is now 1.35 MMB/D, with China apparent demand up 1.1 MMB/D. This marks the fourth monthly improvement in Asian demand growth. The low point was in our February assessment, when growth had only been about 0.3 MMB/D. That steady improvement suggests that low prices earlier in the year, have in fact stimulated growth, while economic performance in Asia appears to be improving.

The information above is part of PIRA Energy Group's weekly Energy Market Recap - which alerts readers to PIRA’s current analysis of energy markets around the world as well as the key economic and political factors driving those markets

11PIRALogoRefinery Margins Soften and Focus Shifting from Gasoline to Distillate

Oil prices have moved lower in their current trading range on bearish news, but they will increase as the global stock surplus falls significantly in 2H16 and 2017. Refinery margins have softened and may prompt some trimming of discretionary runs, especially this autumn. Product stock levels are high with gasoline inventory coverage relative to local/export demand near the top of the historical band. Middle distillate stocks are well above their historical range, but rising seasonal demand will tighten inventory in terms of days of supply forward coverage. Product markets are getting an early start on the seasonal price shift from gasoline toward distillate, with gasoline cracks starting their seasonal decline earlier than normal. Diesel cracks will gradually recover and take the lead from gasoline.

Regional Prices Muted in Spite of Hot Weather

A stout national cooling degree-day (CDD) count (more than 10% higher year-on-year) has spurred an expansive role for gas in electric dispatch this month, enabling further recovery in cash prices. To be sure, widespread heat and a host of supply-side maintenance issues culminated in setting the ~$2.80/MMBtu month-to-date price for Henry Hub (HH) deliveries. Yet, despite the one-two punch of weather-aided demand and production disruptions, only a few regional price points managed to outpace the benchmark, with the vast majority significantly underperforming. Generally, during July regional prices have displayed similar discounts recorded last month.

More Troubles for French Nuclear

After a number of strikes hitting output during June (- 3 GW year-on-year), French nuclear output has further deteriorated in July, hitting a low since at least 2012 and leading to a sharp contraction in French net exports and higher utilization of French gas units. The detection of an anomaly in the steam generators channel head is also contributing to undermine availability and will continue to do so in the upcoming months, as outages are likely being extended. In a PWR reactor design as for the EDF units, the replacement of the steam generator channel head can be done during a planned outage, typically lasting from one to three months, whereas a typical shutdown for refueling, which is carried out once a year, takes only 35 days. For the time being, for the units that are not offline and are being affected by this specific anomaly, a temporary solution is likely to be a steadier operation of the plants.

PRB Coal Expected to Firm

Stronger weather-driven power demands and an upward shift in natural gas forwards has boosted our coal burn expectations. This is offset in 2016 by increased coal production levels in the quarter just ended. In 2017, however, we are projecting growing tightness in the PRB, as a call on incremental coal supply may be challenging to meet.

LPG Freight Rates Plumb Cycle Lows

Spot VLGC freight rates have plunged to new cycle lows below $24/MT on the benchmark Ras Tanura to Chiba, Japan, route. Freight rates on these vessels are now trading well below breakeven economics for even the most efficient operators. Rates look to continue to suffer for the foreseeable future as the trinity of peaking LPG trade, rising tonnage, and the expanded Panama Canal plagues these freight markets.

U.S. Ethanol Prices Decline

Manufacturing margins decrease the week ending July 15. RIN prices slide after peaking Monday.

S&P 500 Pushes Higher

The S&P 500 continued to push to new highs. Again, volatility declined and high yield debt prices rose. Emerging market debt prices, however, pulled back after having posted strong gains in the previous weeks. The dollar was generally stronger. The Turkish lira was noticeably weaker in the wake of the failed military coup. Commodities were mostly lower, both total, energy and ex-energy.

Near-Term Libyan Supply Growth Possible, But Likely Not Sustainable

The situation in Libya shows no real improvement despite the recent swell of optimism over a near-term ramp in Libyan crude production. On July 7, Ibrahim Jathran, commander of the central Petroleum Facility Guards (PFG), announced exports would resume from the long-shuttered Es Sider and Ras Lanuf terminals within a week. The military push to clear ISIS out of the region near Sirte has also been making territorial gains. However, the announced merger of the two rival NOC’s seems to have broken down. PIRA acknowledges the possibility that terminals may reopen shortly. But in our view, the chaotic political and security situation could derail any production gains just as quickly. The UN-backed unity government (the GNA) has been unable to exert control, stark divisions remain between the rival governments and their affiliated militaries, and the myriad of militias on the ground will act in their own interests.

Rules Stayed, Case Remains in 5th Circuit: Positives for ERCOT Coal

The 5th Circuit Court has decided that they (as opposed to the more EPA-friendly DC Circuit) are the appropriate venue to decide legal challenges to EPA’s TX Haze FIP that would have required costly scrubbers on 14 coal units. They also stayed implementation of the rule, offering a good preliminary sense that the Court has issues with EPA’s arguments and approach — as PIRA has been highlighting. This decision comes on the heels of EPA’s final One-Hour SO2 designations, where EPA declined to take action on four areas where Texas coal plants were proposed to be in Nonattainment, offering an environmental reprieve for coal/lignite units in Texas and pushing off any near to mid-term expectations of EPA-induced retirements.

Asia Embraces Diversification with Rising Crude Imports

Oil market rebalancing continues, but initial onshore stock decline has been less visible. India’s oil demand remains strong but with growth easing in 2H16 due to a heavy monsoon season and moderating economic growth. China’s net exports of gasoil, jet fuel and gasoline is set to increase by some 25% from last year. Asia embraces crude supply diversification with rising crude imports, but the share of Middle Eastern crude imports in the region is expected to remain high as Middle Eastern countries will strive to maintain market share. Asia-Pacific net crude imports are expected to rise in 4Q16 and 2017. Asian refinery margins are expected to stay modest due to high product inventories.

NBP Encourages a Flood of Gas in 1Q (Not Including LNG)

The strong move upwards in 1Q17 pricing is not just a story of NBP overreaching to the upside, but is a story of how the Continent is not. Spreads in the first quarter of next year have widened by over €1/MWh — meaning, the Continent is showing confidence that the U.K.’s tightness is a local story not a Continent-wide one. PIRA believes that this confidence is well-founded and will eventually lead to a significant move downward in winter pricing.

Coal Pricing Takes a Step Back after Extended Rally

The coal market moved lower last week, on the back of weaker oil and gas prices and perhaps a hangover from the sizeable rally observed in the prior few weeks. The decline in pricing was particularly acute in the Atlantic Basin, while FOB Newcastle’s (Australia) price declines were more muted. With China’s import demand showing signs of strength, exacerbated by wet weather impeding production in some key areas, it is not surprising that FOB Newcastle prices have held up relative to API#2 and API#4. The weather-related disruption to China’s production (on top of the drive to rein in overcapacity) skews the risk to the upside for FOB Newcastle over the next 90 days.

Global Equities Again Move Higher

Global equities moved higher on the week, with gains concentrated in the Americas, of which the U.S. and Brazil performed the best. In the U.S., the strongest sectors were retail and technology, while energy was the worst performer. Internationally, Latin America did the best, while China and BRICs also outperformed.

U.S. Ethanol Production Soars to New Record

U.S. ethanol production jumps to an all-time high of 1,029 MB/D for the week ending July 15, breaking the previous record of 1,008 MB/D set last November. Inventories were slightly higher.

Latin American Product Demand Improving but Still Down Year-on-Year

Latin American product demand is improving but is still down year-on-year. Consumption of the four main refined products trends higher in 2H16 but lag 2015 levels. PIRA forecasts that 3Q16 gasoline demand will be lower year-on-year but higher vs. 2Q16. Diesel demand in 3Q16 is expected to be below 3Q15 but higher than 2Q16. Regional refinery crude runs still disappoint with 3Q16 by ~70 MB/D lower than a year ago.

Tighter LNG Balances Are Not Sustainable into 2017

The tighter balances that have fueled price support in Asian and European spot markets are simply not sustainable. The less ramp-up that occurs in 2016, the more ramp will occur in 2017. The possibility of Asian supply reaching the Atlantic Basin in the year to come cannot be dismissed, particularly if Nigerian and Angolan production continue to run into operational problems. Length in Asia balances will easily front run any tightness in the Atlantic Basin. It will be more apparent when Qatari volumes begin to shift west.

Emerging Markets Are Stronger; Developed Markets Are Resilient

Economic data out of the emerging world have turned stronger of late. Encouraging signals include: trade volumes turning positive on a year-on-year-basis; widespread improvements in industrial sector output; solid readings for vehicle sales; and constructive financial sector sentiments. In Europe, a preliminary July business confidence reading suggested that the Brexit decision has not yet disrupted economic activity. Next week’s economic calendar is filled with significant events.

End of Term GHG Policy Push in U.S.

The U.S. GHG Inventory shows 2014 emissions up year-on-year but down 7% vs. 2005. It does contain large write-ups to historic methane emissions from oil and gas production and landfills. Methane regulations for oil/gas and landfill sectors have been finalized, a draft technical report for the auto CAFE review has been published, and an endangerment finding for aviation and an international agreement on HFCs are expected later this year. The U.S., Canada and Mexico set a challenging regional goal of generating 50% of electricity from non-emitting resources by 2025. 2016 elections will impact the survival of the Clean Power Plan and the arc of climate policy for the next four years. PIRA revised our long-term federal carbon prices/costs expectations given the CPP stay.

U.S. Stock Build Moderates But Still a Build

Product demand strongly rebounded this past week, narrowing the product stock build, while crude stocks fell less than expected despite very high crude runs as imports stayed elevated. Light product imports were very high and these should substantially decline in next week’s data. Cushing crude stocks were up slightly and month to date are roughly flat and near our forecast. Another small build is expected next week. PIRA is forecasting continued strong light product demand for next week, which should cause major light product stocks to show a slight draw. Crude stocks decline sharply next week as runs stay high and imports back off.

The Implications of Autonomous Vehicles for Fuel Demand

PIRA does not expect autonomous vehicles (AVs) to have a meaningful impact on the oil, electricity demand or emissions outlooks over the next 20 years. Fully autonomous vehicles, which would allow the driver the flexibility to pursue other activities, are still likely at least a decade or more away from a technology standpoint. If and when this technology arrives, its impact on gasoline demand is not clear cut. If there is a synergy between AVs and electric vehicles (EVs) it could accelerate electrification of the fleet, for both cars and some trucks. It may also improve the fuel efficiency of the operation of vehicles. However, the impact on miles driven could very well be positive, particularly if there is substitution for some portion of train, plane or public transport travel.

Ghana Gas Prices Are Some of the Highest in the World

Commercial gas production from the Jubilee field, which is processed at the Ghana National Gas Company’s gas processing plant at Atuabo raised the prospects of a price war in the supply of gas for power generation when it debuted on the market last year. However, the Atuabo gas is now one of the priciest in the world — even more expensive than its regional competitor from Nigeria, the West Africa Gas Pipeline Company (WAGP). This year it is estimated that the Atuabo gas price will remain uniform but that of the average annual delivery price of WAGP gas to Volta River Authority (VRA) will drop slightly.

Japanese Crude Runs Rose, Imports Fell and Stocks Drew

Crude runs rose slightly on the week as maintenance continues winding down. Even so, capacity looks underutilized, which suggests discretionary run cuts are occurring. Crude imports fell to low levels and crude stocks drew. Finished product stocks also drew. Refining margins have remained poor with little barrel support other than fuel oil and naphtha cracks.

Oilfield Cost Deflation Is About to Be Over

In assessing where the costs of oil are likely to head in the future, it is extremely important to distinguish trends from cycles. Historically, costs to operate existing oilfields and to develop new supplies correlate closely with oil prices. Using the Bureau of Labor Statistics (BLS) Drilling Oil & Gas Wells Index as a proxy for cost changes, our model predicts deflation may be about over with costs expected to increase in 2017 in line with an expected increase in oil prices. A similar cycle took place in 2008-2010, when prices collapsed in late 2008 and started to recover in mid-2009. The model also predicts continued increase in costs as prices continue to rise.

Fracking Policy Monitor

Policy developments over the past quarter were mixed. A federal judge ruled the Bureau of Land Management (BLM) overstepped its authority in its proposed fracking regulation on federal/Indian lands. The Colorado Supreme Court decided that municipalities can’t ban fracking. The North Yorkshire council approved a permit to frack a well in the United Kingdom. On the other hand, the EPA issued new methane standards although implementation costs are expected to be non-material, Pennsylvania passed sweeping new oil and gas rules, and the EPA’s SAB has decided its draft study that concluded fracking causes no systemic adverse impacts on drinking water needs quantification. Going forward, we expect limited federal policy changes as the current administration comes to an end and a continuation of generally favorable state policies, particularly with the sector financially struggling.

Long-Run Marginal Costs Do Not Always Anchor the Forward Price Curve

Deferred futures are currently below long-run equilibrium levels because producers are under pressure from their bankers to hedge future production. To search out speculative interest for this supply of paper futures, producers are selling future production below long-run equilibrium values. As long as this forced selling persists, the burden of raising deferred futures will fall on speculators. As the balances tighten and surplus stocks are drawn down, there will be an increase in speculators' expectations and confidence that higher prices are justified. Backwardation will likely increase, although the back of the market will go up as well. This will continue until a long-run equilibrium between demand and supply is reached.

The information above is part of PIRA Energy Group's weekly Energy Market Recap - which alerts readers to PIRA’s current analysis of energy markets around the world as well as the key economic and political factors driving those markets.

12DW Monday Logo PNGThis year has seen US land drilling activities fall to the lowest levels on record. Globally we are seeing a very nuanced and regional reaction to the current oil price downturn. Examination of the global land rig fleet (which Douglas-Westwood tracks on a rig-by-rig basis) reveals some key themes.

Having dominated the global land drilling market for living memory, the number of US rigs drilling has been eclipsed by activity in other regions. In terms of absolute rigs working, Eastern Europe and the Former Soviet Union now occupies the top spot.

In terms of rate of growth (or otherwise) there are other bright spots of activity. Activity in the Middle East has remained robust and a 2% growth is expected in 2016. This compares to a 49% decline this year in the US. The comparative robustness of NOC spend is also evident in the rig data. We see that current NOC operators are responsible for 34% of the identified fleet vs 31% a year previously.

Like the operators, rig contractors themselves are focused on free cash flow. Efficiency of operations and uptime are critical, and key rig components are being recycled from one rig to another to minimize spend on new hardware. Where new rig components are required, our clients are reporting a trend towards increasing adoption of Chinese-manufactured parts. Efficiency and safe operations are also boosted by the continued uptake in automated rig equipment.

Older and less efficient rigs are being scrapped. Our data suggests that 16% of the North American fleet has been scrapped since January 2015.

Whilst we do not expect activity levels to return to the highs of 2014 anytime this decade, we do anticipate recovery from the present levels (just over 3,400 rigs) at a compound rate of 8% to reach over 4,700 by 2020.

Michael Green, Douglas-Westwood London

BHP Billiton has outlined its value-focused approach to exploration which will see the Company target opportunities across copper and oil to enhance its long-life, tier 1 portfolio.

Speaking at Citigroup’s Mining Exploration Day in Sydney, BHP Billiton Head of Geoscience, Laura Tyler, said the Company is focusing its exploration approach through targeted analysis and the establishment of a Geoscience Centre of Excellence.

Ms. Tyler said exploration is seen as a key source of value creation for BHP Billiton.

5BHPBilliton LauraTylerLaura Tyler, Chief of Staff, Head of Geoscience. Photo credit: BHP Billiton

“We are investing at a time when most in our sector continue to reduce discretionary spend,” she said.

“Next financial year, we intend to invest approximately US$900 million dollars in exploration, which represents 18 per cent of our overall capital budget.

“We are also challenging existing paradigms with a scientific based and disciplined approach to exploration. We have reduced exploration operating costs by 70 per cent since 2013, and this year we have increased the targets tested by 44 per cent.”

BHP Billiton’s Petroleum exploration program is focused on three conventional deepwater basins in:
• the Gulf of Mexico,
• the Caribbean (in Trinidad & Tobago and Barbados), and
• the Northern Beagle sub-basin off the coast of Western Australia.

“Over the last four years we have developed a new approach to Petroleum exploration that is much more focused,” Ms Tyler said.

“We have commenced drilling in Trinidad and Tobago and have secured an additional rig which will soon commence drilling in a prospective block north of our Shenzi operations in the Gulf of Mexico.”

BHP Billiton’s Copper exploration program is targeting tier 1 greenfield mineral deposits, with a particular focus on:

copper porphyry and skarn deposits in Chile, Peru and the south west of the United States,

sedimentary hosted copper deposits in the north of Canada, and

Iron Oxide Copper Gold deposits in South Australia’s Stuart Shelf, adjacent to Olympic Dam.

“We execute our Copper exploration both directly and through investment in joint venture opportunities and we continue to seek partnerships with junior explorers,” Ms. Tyler said.

The Company’s regionally based exploration teams are supported by a globally integrated geoscience team to facilitate a faster adoption of best practice and new technology.

“Internal collaboration is very important and we are leveraging our Petroleum business geoscience to identify prospective sediment hosted copper deposit basins,” Ms. Tyler said.

“Similarly, we are adopting technology from Petroleum and applying directional drilling techniques to copper exploration.”

16DW Monday Logo PNGIn recent years, Liquefied Natural Gas (LNG) has become integral to meeting global energy demand. However, as the oil & gas industry continues to navigate the prolonged downturn, capital intensive export LNG projects have been in the spot light due to questionable economic viability. A key driver is oversupply in the global LNG market – spot prices are expected to remain low in the near-term (Henry Hub averaged $1.92MMBtu in May 2016 a 58% decline from May 2014). This gloomy scenario presents limited economic incentives for companies to commit to capital intensive projects in a period plagued with budget austerity.

With the world’s LNG export capacity currently above 310.8 mmtpa, an additional 30.8 mmtpa is expected to be added by the end of 2016 – annual additions are expected to increase by 37% in 2017. However, demand is expected to plateau over the next two years. Reduced demand from Japan will likely be made up by growth from China and India. Both of these factors increase the risk of a short-term demand – supply imbalance. Massive investment prior to the industry downturn on large Australian and US LNG projects has driven this growth. Other projects expected over the same period include the PFLNG-Satu (Malaysia), Prelude FLNG (Australia), Yamal LNG Train 1(Russia) and Bintulu LNG train 9 (Malaysia).

Despite near term concerns of oversupply, natural gas is expected to play a vital role as a bridge fuel between environmentally damaging coal and oil to renewables. This will be vital to ensuring that the COP21 commitment to limiting global temperature increase to 1.5 degrees by the middle of the century is achievable. There is plentiful gas supply, as well as massive yet to be developed gas reserves in the Mediterranean Sea, East African Basin, and various unconventional reserves. This is the window of opportunity to implement constructive legislative strategies to help switch industries with heavy carbon footprints, such as the maritime industry to gas. Such a shift in legislative strategy and improvement in technology will increase both the appeal and use of a fuel that could help lower the global carbon footprint.

Mark Adeosun, Douglas-Westwood London

12DW Monday Logo PNGHistorically, Gazprom has monopolized all gas exports in Russia. Complete control over gas sales to both east and west did not incentivize Gazprom to explore new ventures in LNG projects. Instead, the company focused on the development of a conventional pipeline network – including the Nord Stream, South Stream and East Siberia-Pacific Ocean pipelines. Consequently – in terms of the LNG market – Russia is lagging behind other global gas producers, such as Australia or Qatar who have heavily invested in infrastructure over the past decade.

Given Russia’s extensive gas reserves, the country has the potential to be a leading LNG exporter. Recent landmark changes to the country’s operating environment may finally allow for this potential to be realized – with amendments to gas export law expected to challenge Gazprom’s gas monopoly. Russia’s oil & gas production giant Rosneft, as well as country’s largest independent gas producer, Novatek, have gained licenses to export LNG independently from Gazprom and are pushing projects forward.

Novatek’s Yamal development is a key example, prospects here have been boosted by both a financial injection from China (3.6bn EUR) and changes in the Russian gas export landscape. The project is a potential game changer for gas export and is expected to come onstream by 2018 with three (5.5 mmtp) trains.

DW expects both LNG and pipeline exports from Russia to Asia to increase significantly in the mid to long term as the country reduces its reliance on pipeline gas exports to Europe. Growing demand for natural gas in Asia will likely incentivize Russian players to continue to invest in liquefaction for export. Novatek has recently announced plans for new Arctic LNG plants to expand production in the region, with a second plant in the Gydan Peninsula.

With these new projects, Russia is positioning itself to be a serious competitor to leading LNG producers. The country’s vast gas reserves and geostrategic position place Russia in a unique position to meet the growing demand for gas in both Eastern and Western hemispheres.

Iva Brkic, Douglas-Westwood London

10PIRALogoCanadian Differentials Remain Strong Post-Wildfires

Canadian oil sands supplies partially recovered in June, with production volumes approaching normal in early July. Canadian, Bakken and Rockies differentials remained strong, supported by the reduced supplies. A small Cushing crude stock draw in June will be followed by another small draw in July.

Russia Offer Ukraine Competitive Gas Prices

Gazprom is offering Ukraine’s Naftogaz somewhat lower gas prices than European suppliers for the third quarter, the head of the Ukraine's national oil and gas company Naftogaz has said. "The price offered by Gazprom is somewhat lower as of today than the one offered by European suppliers, though the market is very volatile and the price on the European market has started to lower," Andriy Kobolyev told reporters. Gas supplies from Europe are sufficient to provide Ukraine with reserves for the winter season.

Heat Wave in Italy Underpins Cooling Needs, But Prices So Far Under Check

Warmer weather so far during July has added 2 GWs of demand in Italy, with the week starting also with extra cooling needs of roughly 4 GWs. Day-ahead prices have, however, been generally in line with expectations so far in July, with maximum hourly prices also under check, most likely as thermal demand is being undermined by a weaker economy, generally healthy hydro levels, and more favorable gas pricing.

Coal Pricing Holds Steady Despite Weaker Oil

Coal pricing was mixed last week, although the fact that the market was able to hold onto sizeable gains posted in the prior week despite weaker oil prices illustrates that the market has found a vein of structural strength. Interestingly, deferred pricing for API#2 (Northwest Europe) and API#4 (South Africa) strengthened relative to the prompt, while the opposite was true of FOB Newcastle (Australia). PIRA continues to assert that 2017 prices are undervalued, although we are doubtful that prices can maintain the recent run in pricing. While China's thermal coal imports have turned positive year-on-year, India's imports remain notably below prior-year levels and do not look poised to emerge any time soon, particularly during the monsoon season.

EPA’s Finalizes SO2 Reg — Hits Some Plants, Spares Others

The U.S. EPA finalized designations for the 2010 SO2 NAAQS, classifying 61 areas, compared to 66 areas from February’s proposal. The five areas where EPA has backed off for now (no final action is being taken) include four in Texas and one in Oklahoma — all of which had been targeted in February’s proposal (contrary to those states’ own recommendations). EPA’s final four non-attainment regions include areas with coal plants in Illinois, Maryland and Michigan. All but one of EPA’s finalized designations for Texas agree with state recommendations, bearish for longer-term gas demand and power prices in ERCOT, though Regional Haze regs still await the outcome of legal challenges.

Weather and WASDE

With pollination in full swing for many, weather forecasts offer something for both the bull and the bear. Expected hot temperatures this week will be somewhat offset by additional precipitation for almost everyone in the Eastern Belt. Those west of the Mississippi River are forecast to receive even more rain on top of last weeks’ very impressive totals.

U.S. Ethanol Price Falls the Week Ending July 1

Production was over 1 MMB/D for the third time in four weeks. Corn prices tumbled after bearish USDA reports, boosting manufacturing margins. 2016-D6 RIN prices soar.

Resource Nationalism Loosening Amidst Weak Oil Prices

PIRA’s analysis of resource control policies around the world suggests a marked trend towards more investor-friendly policies in the upstream oil sector. Most notably, Saudi Arabia, Russia, and Nigeria all announced plans to sell stakes in state-owned upstream operators, and improved contractual terms could soon materialize in major producers, including Iran, the UAE, and Venezuela. The moves are being partially offset by prohibitive tax increases in some countries, in an attempt to support government revenues. But if prices remain below the levels of the past decade, as PIRA forecasts, we would not be surprised to see more widespread implementation of policies favorable for foreign or private investment.

U.S. Job Growth and Chinese Forex Reserves Data Point to Resiliency

This week’s economic developments highlighted the global economy’s resiliency as well as its potential vulnerabilities. The U.S. jobs data for June were constructive: they showed healthy gains in payrolls, but did not point to overheating in the labor market. The latest data on Chinese foreign exchange reserves were also positive for the outlook. At the same time, the U.S. dollar continued to strengthen, a fallout from the Brexit decision two weeks ago. In addition, the European banking sector remained under pressure.

U.S. Crude Stock Draw Disappoints

Crude stocks drew just 320 MB/D this past week, about one third the level PIRA expected. We believe floating stocks in the Gulf of Mexico were reduced to support the high import level. With floating stocks now likely more normal, PIRA expects July imports to reflect FOB cargo loadings, which imply lower than June imports and larger stock declines. For next week, we have crude stocks falling 620 MB/D with imports at 7.85 MMB/D.

Weather, a Fair-Weather Friend to Gas Bulls

The prospects for heavy summer cooling loads should favor a market “buying the dips,” despite prices retracing last week’s gains. Indeed, a sea change in sentiment has been on display as of late, whereby expectations for expanding cooling degree days (CDDs) have positively colored speculative positioning and price. Certainly, the latest snapshot of open interest in NYMEX/ICE futures encapsulates the shifting environment, which has seen Henry Hub (HH) prices rally ~30% month-on-month. Most notably, the long-to-short ratio between non-commercial longs and shorts continues to push deeper into new high ground, rising to ~1.1, the highest level since 2014.

How Low Can They Go? Utility-Scale Solar and the New Power Order

In recent months, several utility-scale solar PV projects have been announced at ultra-low prices, raising questions about downside risk to natural gas and other power sources. As a result, PIRA recently raised its 2025 U.S. solar generation outlook 41% above the previous outlook from fall 2015. However, PIRA does not see substantial downward medium-term flexibility for U.S. utility-scale solar PPA prices below current subsidized levels, assuming a link to fundamental economics. Nevertheless, in regions with strong insolation and meaningful incentive mechanisms, solar will continue to pressure other power sources as it continues to grow from its small base.

California Carbon Strengthens, Awaiting Regulatory Release

California carbon prices were up in June vs. May, but remained below the auction floor. Declines in open interest suggest that market players are not switching to the secondary market for procurement, but rather refraining from taking new positions altogether. There is little incentive to purchase allowances at the August auction. Re-offering of unsold consigned allowances raises the auction quantity and will require a higher bidding volume to clear. PIRA does see pricing once again exceeding the auction reserve this year. Cap-and-trade regulatory amendments will be released July 12th, addressing post-2020 caps and allocations, linkages and also unsold allowances.

The Manufacture of Ethanol-Blended Gasoline Sets Another Record

Inventories build by 390 thousand barrels the week ending July 1. PADD V received approximately 2.9 million gallons of imported ethanol from Brazil, only the second week this year in which imports were reported.

July WASDE Filled with Uncertainty

The 2016/2017 corn and soybean acreage numbers have turned into “knowns” for the July WASDE, but higher-than-expected old crop corn and soybean supplies in the Quarterly Stocks report just a few days ago may have more than a few scratching their heads at the World Board. Add to the mix these extremely fragile markets, and Tuesday’s outcome is far from a certainty in PIRA’s opinion.

Stress Lessens Post-Brexit

Financial stress continues to lessen post-Brexit. On the week, the S&P 500 flirted with record highs, while volatility declined and emerging market debt prices rose sharply. The dollar retains a mixed upward bias. It has continued to strengthen against the British pound and some of the Eastern European currencies. However, it has weakened against a host of Asian currencies.

Japanese Crude Runs Continue to Rise; Gasoline Demand Strength Drawing Inventory

Crude runs rose on the week as maintenance continues winding down. Crude imports moved higher by 0.9 MMB/D and crude stocks built 1.5 MMBbls. Finished product stocks built 1.1 MMBbls, with increases in all the products other than gasoline. Gasoline demand was relatively strong and stocks drew, while gasoil posted a significant stock build on lower yield and exports. Refining margins have remained soft with little barrel support other than fuel oil and naphtha.

Access to N.W. Europe Remains Critical Strategy for LNG Suppliers/Traders

Even with send-outs sputtering into the N.W. European market during the shoulder months of the late second and early third quarters, the need for access to the liquid pricing hubs at the Dutch Title Transfer facility (TTF) U.K. NBP has never been more pronounced. The Atlantic Basin market stands poised to absorb some 90-bcm/yr. of new supplies by 2020 (not including Yamal), and sellers are extremely active in securing a portion of this total.

A Look at PIRA's U.S. Shale Model Assumptions

The horizontal oil rig count reached a trough in mid-May. Despite this, shale production is not expected to immediately return to growth. PIRA expects the rig count to continue increasing at a gradual pace for the balance of the year and beyond. An estimated 400 horizontal oil rigs are currently needed to maintain production, which is 128 rigs higher than the current count of 272. Production is expected to shift to growth by 2Q17. On an annual basis, PIRA expects shale crude and condensate production to decline 330 MB/D in 2016 and 60 MB/D in 2017. This represents a 70 MB/D upward revision in 2017 versus our June Reference Case.

National Grid Paints a Bleak Picture for Demand – Maybe a Bit Too Aggressively

After gas demand in the U.K. finally grew last year for the first time since 2010, many hailed it as a case when demand finally bottomed out. Gas burn is now getting strong support in the U.K. in the form of a £18.08/ton carbon floor and coal-fired power stations are getting shut down. Future growth prospects hang on power sector growth, but the upside appears to be limited, particularly from the perspective of National Grid.

U.S. NGL Prices Decline

Mont Belvieu propane prices narrowly beat out broader energy markets by declining 5.7% on the week to settle near 50¢/gal (August). Butane futures fell in line with WTI (-7.3%) while ethane prices dropped nearly two cents to 21¢, the lowest level since May.

Strong U.S. Equity Performance Offsets Weakness of International Indices

The overall global equity market was unchanged for the week, with U.S. market gains offsetting weakness elsewhere. Gains in the U.S. market were broad based across most of the tracking sectors, except energy. Housing, retail, and consumer discretionary were the strongest performers. Internationally, the performance was mixed and tended to be weaker. Asia and Europe both displayed aggregated declines on the week of 1.2-1.5%.

Rough Week for Oil Prices

Oil prices fell $3.70/Bbl this past week with time spreads getting crushed on both sides of the Atlantic. There was not a specific story to point to but just a host of negative news. PIRA's outlook for the week ahead is that the market will continue to be range bound and should therefore find support within a couple of dollars from here.

Model of Long-Term Oil Price Basis for Project Evaluation

In June 2006, PIRA put forward a simple model to approximate the method used by some major oil companies to evaluate long-term investment projects. We have updated the results and not surprisingly prices are a lot lower.

The information above is part of PIRA Energy Group's weekly Energy Market Recap - which alerts readers to PIRA’s current analysis of energy markets around the world as well as the key economic and political factors driving those markets.

14PIRALogoOverall U.S. Stocks Build While Crude Draw Disappoints

Commercial oil stocks built 5.2 million barrels this past week, sharply contrasting with last year’s 6.7 million-barrel inventory draw for the same week. The entire build was in NGLs but the expected large crude stock decline did not materialize onshore as crude imports were bloated by a drawdown of floating stocks. Floating crude and even onshore stocks in major entrepot areas pose a challenge to estimating onshore stocks in key price-setting markets. There is a huge surplus of inventory which will take time to eliminate. So while crude stocks are undoubtedly declining, declines might not show up in the weekly onshore data in a given week.

1Q16 U.S. Producer Survey Harkens Back to Better Times

In response to a fleeting improvement in market conditions, U.S. gas producers grew production once again in 1Q16. Appalachian producers led the change, delivering an additional 1.2 BCF/D versus 4Q15 through the utilization of infrastructure that had been built towards the end of last year. Yet, the combination of stronger production and weaker heating demand gave rise to record inventories by end March, necessitating a subsequent reversal in production as a means for rebalancing. Thus far, the trend in 2Q16 production data suggests that U.S. producers are taking heed of this requirement, establishing a definitive change in course for PIRA’s Survey Group.

Brexit Clouds Demand Outlook, Dark Spreads to Hold on Bearish EUAs

The Brexit vote starts a highly uncertain transition period for the U.K. and the rest of the European Union. This transition period will likely mean weaker economic growth, especially in the U.K., and with that, downside risks for demand. However, U.K. winter prices should be largely unaffected by the Brexit decision. We assume for now that a political contagion will remain in check, but the major risk to Continental power prices resides now in an even more bearish EU ETS. While the EU ETS could be severely wounded in the current environment, domestic carbon initiatives – the French carbon floor or the like – are likely to move forward.

Brexit Vote Stops Coal Pricing Rally

Global equity, currency, and commodity markets were dominated by the Brexit vote last week, coal included. Before the vote, coal prices has been volatile, although with a general upward trajectory. The decline in prices on Friday sent Atlantic Basin Prices into negative territory for the week, if only marginally, while FOB Newcastle (Australia) prices were able to manage to rise in the prompt, although deferred prices faded. With the vote kicking off a likely two-year negotiation period between the U.K. and the E.U., there are limited fundamental changes to the coal market over the short-term, aside from a prevailing sense of unease and a lower appetite for risk.

Fed-Centric Financial Markets Now Roiled by Brexit

Since March, Fed policy communications have generally supported market sentiment and kept the dollar’s value in check. However, U.K. voters unexpectedly chose to leave the European Union in the June 23 referendum, and this has placed financial markets in a new, uncertain phase. PIRA’s expectation is that the Fed will reassert its control over markets after the initial Brexit shock wears off. During previous episodes of financial stress and a stronger dollar, the Fed adjusted its message to alleviate market pressure; it should not act differently this time around.

Volatility to Remain High

After a trading week that included a limit down move in corn along with all the uncertainty of the Brexit vote, grain/oilseed markets should be staring at yet another volatile week as corn pollination inches closer and the “final” 2016 acreage numbers are released on Thursday, along with the 3Q16’s stocks of grain.

Latest Assessment of Nigerian Oil Supply Disruptions

The situation in Nigeria remains highly fluid. Reports of a 30-day ceasefire are conflicting, but at the very least suggest some kind of dialogue is taking place between the government and militants. Even if there is an agreement, disrupted volumes will not return immediately and the situation is likely to remain fragile. Fiscal problems will make it difficult for the Buhari administration to revive an amnesty program for Niger Delta militants, and it will be difficult for the government to go back on its anti-corruption campaign.

Ethanol-Blended Gasoline Manufacture Surges to Near Record

Inventories fell slightly the week ending June 17. Stocks in PADDs I and III increased.

Japanese Crude Runs Ease with Higher Crude and Product Stocks

Crude runs eased on the week as Hokkaido entered full turnaround. Crude imports rose and crude stocks built 2.7 MMBbls. Finished product stocks also rose by 0.7 MMBbls, with about half being kerosene. Gasoline demand was soft and stocks built slightly. Gasoil demand was stronger and stocks resumed drawing. Kerosene demand was seasonally low and the stock build rate remained about 50 MB/D. Refining margins have remained soft in June.

Supply Tempers Breadth of Rally Across Regions

The rebound in Henry Hub has buoyed all regional cash prices — but to considerably varying degrees. Indeed, the regional dispersion of CDDs accounts for some of the relative strength and weakness in prices/basis, but supply trends have also played a key role. The standout feature of this month’s regional price action is the need of further assistance from weather as the market awaits larger supply losses.

When Will LNG Balances Hit the Tipping Point?

The temporary loss of existing LNG production is masking the rise of new LNG production in much the same way that oil production disruptions around the world in 2014 delayed the bearish price effect of the rise of shale in the U.S. In late 2014, that tipping point on oil was reached when global disruptions crested even though U.S. shale production continued to rise. For LNG markets, the tipping point will occur late in the first quarter of 2017.

Energy Efficiency Puts Downward Pressure on U.S. Power Demand and Gas Growth

PIRA downgraded its latest long-term U.S. power demand forecast from a 0.83% compound annual growth rate (CAGR) between 2015 and 2035 to a 0.54% CAGR. A significant portion of this downgrade is due to anticipated load destruction from end-use electricity savings arising from recent developments in energy-efficient technologies, product efficiency standards, and state-level efficiency programs, as well as a lack of weather-adjusted load growth in essentially five years. These developments suggest additional headroom for savings beyond previously modeled energy efficiency potential, particularly in areas like lighting and space cooling in the commercial and residential sectors. PIRA expects this load destruction will be most acute for gas burn and new gas plant builds, which are also under increasing pressure from renewables.

Freight Rates Hold Steady as Cape Fleet Growth Picks Up

While the Brexit vote has added significant uncertainty regarding dry bulk demand growth in Europe and potentially elsewhere, there have been some fundamental developments in the sector of late, such as Winning International hauling 15 MMmt of Guinean bauxite to China this year using Capes loaded by floating transfer equipment. Continued growth in fleet supply will keep rates in check over the next several months, although PIRA has a tighter outlook going into 2017.

U.S. Ethanol Production Reaches All-Time High

The output of ethanol reached a record the week ending June 10. This essentially ended the rally in prices that began in February.

Old Crop Soybean Supplies in Focus

Validated moisture events will have a negative effect on new crop prices, so PIRA is bullish old crop/bearish new crop at the moment, after being bearish beans for a few weeks. As July heads into first notice day next week, focus will shift to the August/November spread as an indication of dwindling old crop supplies.

Global Equities Decline on Brexit Outcome

Global equities were broadly lower on the week. The U.S. market was down 1.6%, Friday-to-Friday. The growth indicator underperformed, and banking was the weakest single sector, down 3.4%. Consumer staples and utilities faired the best, while energy also outperformed, down only 0.5%. Internationally, many, but not all, the tracking indices were lower. Europe was the weakest. Latin America managed to post a gain, while China and the BRICs also outperformed and only posted modest changes for the week.

Energy Implications of the Brexit Vote

The IMF has recently developed two scenarios to gauge the economic impact of Brexit. PIRA estimates that in the "Limited" scenario, world oil demand in 2017 would be about 100 MB/D lower than in the IMF's Base Case, with the largest impact in Western Europe. In the "Adverse" scenario, world oil demand in 2017 would be 200 MB/D lower than the IMF Base Case. There would also be noticeable impacts on gas and coal demand. These impacts on energy demand might slow, but not reverse, the oil price recovery PIRA projects.

Can Norway Step in to Take Rough's Role this Winter? Will It?

Centrica’s decision to shut the Rough storage facility until August 3rd caused a huge spike in winter ‘16 prices and a weakening in the spot/front month pricing. The opportunity cost of injection over this period is around 1 BCM and will need to be made up whether from Rough itself or somewhere else. PIRA suggested that with a Rough maintenance coming up in September, a shortening or cancellation of this maintenance may be possible and would help relieve some of this pressure. Looking to the power side for some demand relief this winter seems to be a lost cause. While power demand tends to be very sensitive to price, recent strong developments in gas prices have been outperformed by spark spreads for this winter. Another way some or potentially all of this lost storage volume can be made up is by higher Norwegian volumes, which are very tied to NBP-TTF spreads.

Shale Rig Activity Has Likely Bottomed, But Production Declines To Continue

Production declines accelerated in the first quarter but output still came in above guidance. Shale operators raised 2016 production guidance to a 6.1% year-on-year decline (up 1.7% points from guidance given during 4Q15 calls). And with the increase in prices from February lows, operators began to detail plans to increase activity. Many operators indicated that at $45-50/Bbl rigs will be added in the Permian, while the Bakken and Eagle Ford will require $50-60/Bbl. In line with this guidance, the horizontal oil rig count appears to have bottomed in mid-May; rigs are up 7% in the past five weeks. Despite this, PIRA still expects production to decline for the remainder of the year as it will take time for the slowdown in activity to show up in production. 1Q16 costs continued to decline (down 25-30% since the downturn), but the pace slowed markedly. Much of the savings were attributed to service price concessions, and are likely to reflate as activity ramps up.

Supply Glitches Keep Legs Under Spot Prices for Now

LNG markets remain balanced at relatively high spot prices of $5/mmBtu thanks to supply disruptions from existing producers and delays emerging from new supply. The quality of buyer is dropping when it comes to bearable price, which is a sure sign that the overhang may be delayed, but it is inevitable.

Brexit Rattles Markets

The UK’s vote to leave the EU rattled financial markets on June 24th, setting back gains that had been made Monday through Thursday. While many weekly averages were higher, Friday-to-Friday data showed a steep drop in most key indicators.

Freight Market Outlook

Tanker markets are starting to suffer from the influx of new vessels with few offsetting deletions and the anticipated start of the slow drawdown of excess inventories which have built up over the past two years. The drip feeding of new tonnage and the withdrawal of excess stock from the supply chain will result in a pattern of lower peaks and deeper troughs in tanker rates as the year progresses.

Amid the Chaos, LPG Markets Strengthen

LPG traded on fundamental supply and demand factors last week, leading to strong gains across the complex. July Mt Belvieu propane futures added a solid 3.7% to bring its value to 47% of WTI. Butane outperformed, adding 5.1% to settle near 69¢ /gal Friday. Ethane futures ripped 7% while natural gasoline prices managed to hold near unchanged despite weaker broader markets.

Ukraine Confirms Default Industrial Gas Prices

Naftogaz Ukraine has published quotations for natural gas for industrial consumers and other economic entities, which will operate from July 1, 2016 as stated in the press release of the company. “The proposed price of natural gas from the resource companies can vary depending on the volume of purchases, payment terms and the status of previous calculations of “Naftogaz”. Levels of the final price for industrial consumers and other economic entities, depending on the specified conditions, compared to June prices remained unchanged (taking into account tariffs for transportation via trunk and distribution pipelines and VAT).”

The information above is part of PIRA Energy Group's weekly Energy Market Recap - which alerts readers to PIRA’s current analysis of energy markets around the world as well as the key economic and political factors driving those markets.

14PIRALogoU.S. Commercial Stocks Build for First Time in Several Weeks

Total commercial inventories built for the first time since the end of April. The gain of 3.2 million barrels reflected a substantial 6.4 million-barrel build in overall product stocks, only partially offset by a 3.2 million crude inventory decline.

Recipe for Rebalancing? Just Add Weather

Last year, the U.S. market recorded an extended string of triple-digit injections during this period, with weekly builds averaging 109 BCF. This year, however, the record inventory overhang left little room for such outsized shoulder-season restocking. Yet, prior to Thursday’s inventory report, it appeared that the needed rebalancing might not occur fast enough to curtail the seasonal stock build. As if on cue, the timely arrival of summer heat has improved the odds for rebalancing, with the subsequent boost in electric generation (EG) gas burn more persuasively offsetting surplus supply.

Financial Stress Lower

Most key indexes rose on a weekly average basis, including the S&P 500 (although slightly lower Friday-to-Friday), U.S. High-Yield Corporate Bond, Russell 2000, Emerging Market Bond, and Commodities. The dollar fell in value against most countries, and most agricultural commodities and metals gained.

Northwest Europe Terminal Capacity Expands, But Where's the LNG?

After a year of delays, the Northwest European market is set to open more LNG import capacity; the question is whether or not this new capacity will be put to use in the form of expanded LNG imports to the region. PIRA believes that it will despite the current low levels of capacity utilization. To begin with, the supply side of the equation in the Atlantic Basin will improve, despite the heavy losses of the first quarter.

Recent Price Strength Has Not Scared Off Power Demand

With prompt gas prices rising around 25% so far this summer and LNG flows weakening, one might wonder if the great shift in gas-coal spreads from last year is reversing and eroding power demand. As power is sensitive to price, that would not be a ridiculous thought. However, this balancing function was not served by the power market; it has mostly been offered by storage facilities.

Weak Loads Stifling Otherwise Bullish Outlook

Power prices at most Eastern hubs fell in May as maintenance activity wound down. Lower wind generation bolstered western MISO and SPP Off-peak prices. Summer heat rates are expected to increase year-on-year in most markets due to lower gas prices, unit retirements, and warmer weather in the Midwest, though ERCOT summer on-peak prices seem to have priced in lot of upside risk at the current market levels. In PJM, significant participation by new gas generation build continued in the recent 2019-20 capacity auction while three of Exelon’s nuclear units failed to clear the auction. PIRA expects gas prices to advance further during 4Q, rising above the $3 mark during Dec. - March, reflecting sharp year-on-year gains.

U.S. Ethanol Prices Rose to the Highest Level Since Last Summer

The market tightened the week ending June 3, with inventories reaching a five-month low. Manufacturing markets remained healthy.

Spain: Prices Surge as Wind and Hydro Decline. Coal Set to Stay Weak

Discussions at PIRA's Client Seminar in London this past week centered on shifts taking place in the European power fuel mix, with switching from coal to gas now starting to emerge both as a result of structurally lower gas prices and changing policies. After the U.K., Spain is also featuring a fairly large drop of coal-fired dispatching so far this year. The policy framework is also very fluid in Spain, with the June 26 elections likely to be a negative for the coal-fired (and nuclear) outlook, especially as recent polls indicate that the left-wing parties and Podemos are gaining momentum and may be dictating the energy agenda of the upcoming government.

Coal Price Rally Runs Out of Steam

The extended rally coal prices had been on for the previous two weeks came to an end last week, with coal pricing moving lower while oil prices continued to move higher (until the notable pullback in the oil market on Friday). Prices in 3Q16 for all three major forward curves lost significant ground, while deferred prices were more mixed. As PIRA has been affirming since the beginning of 2015, the upside for short-term pricing lies squarely on the oil market, as fundamentals in the prompt are not expected to provide much support.

California Carbon Still Tied to Price Floor

Average WCI prices stayed below, but still tied to, the price floor in May, and the auction was severely undersubscribed. Unsold state-owned allowances will not be re-offered until two consecutive auctions clear above the floor. Unsold consigned allowances will be re-offered in August, in turn requiring higher bid volumes for that auction to clear. The final court decision on the auction will not come until 2017. A legislative fix could be a backstop measure to keep the auction in place, perhaps bolstered by the California Legislature facing reduced auction revenues in the budgeting process. The coming months will see a firming of signals for a tightening cap beyond 2020.

LPG Freight, Arbitrage Under Renewed Pressure

Delivered LPG price were stable in Asia last week. Propane for July delivery gained by just $2 to near $340/MT, while CFR cash butane was called at $20 premium to C3. Saudi propane CP futures added 1.2%, crimping the spread to the Far East to under $15. Despite spot VLGC freight on the benchmark rate from Ras Tanura to Chiba and Japan trading near five-year lows, current arbitrage spreads necessitate a further $10 freight decline for spot physical movements to work.

WASDE Supports, Weather Pushes

The convergence of speculative money and demand was once again on display Friday as witnessed by both the WASDE during the trading day and the Commitment of Traders after the close. Even though both corn and soybean supplies were below market consensus, the length in the markets mitigated much upside potential, although drier-than-expected weather forecasts in the 8-14 day timeframe issued this weekend have pushed corn and soybeans into overdrive again.

Japanese Crude Runs Little Changed; Crude Stocks Build

Crude runs changed fractionally on the week. Crude imports were also little changed and crude stocks built 2.9 MMBbls. Finished product stocks built marginally. Gasoline and kerosene stocks were up modestly, while gasoil drew moderately, but that offset by higher fuel oil, naphtha, and jet stocks. Demand were modestly mixed with the aggregate demand figure falling 80 MB/D. The four-week demand trend has turned higher. Refining margins had improved a bit, but gave back ground on the week.

Production Surged to a Near Record Level

Output jumped the week ending June 3, after plants returned to normal operation following spring maintenance. The manufacture of ethanol-blended gasoline fell after reaching a 10-week high the previous week.

U.S. SPR Sales Unlikely in 2016

Speculation has risen that the Obama administration could conduct SPR sales as early as October 2016, as permitted by two bills passed late last year. However, we believe sales in 4Q16 remain unlikely, judging from recent comments from the Energy Secretary and politics surrounding the November 2016 presidential election.

Global Equities Post Another Neutral Week

Global equities were again on balance, only modestly changed. In the U.S., the broad market was down marginally. The leading sectors were energy, utilities, and consumer staples, which posted good gains. Retail performed the poorest and declined about 2%. Internationally, most of the tracking indices declined, with Europe posting the biggest drop.

Petrobras to Get Full Domestic Pricing Control

Brazil's energy ministry has backed full independence for Petrobras to set domestic fuel prices, blaming past controls for saddling the state-controlled oil company with crippling debt that is the oil industry's largest. Petroleo Brasileiro SA, as the company is formally known, and other state-controlled companies, such as utility Eletrobras, with shares owned by non-government investors, should be free to act in their best interests without government interference, the ministry said in a statement.

Obama Administration in Race to Finalize Regulations

The clock is winding down on the Obama Presidency and the focus in on finalizing rules. Methane regulations for new oil and gas wells were finalized ahead of schedule; follow-through on rules for existing wells will fall to the next administration. This summer will see final one-hour SO2 designations affecting a number of coal units, particularly in Texas; the finalization of the aviation “endangerment finding” for GHG emissions; and final Heavy Duty Vehicle GHG Standards for model years beyond 2018. Renewable Fuel Standards for 2017 proposed in May were ambitious. A draft review of CAFE standards is also expected this summer. PIRA expects EPA to continue working on the Clean Power Plan model rule and FIP, although the stay will prevent formal finalization. The next PM NAAQS review and Secondary NAAQS for SO2/NOx will be punted to the next administration.

RIN Costs Higher

U.S. refiners paid at least $1.35 billion to acquire RINs in 2015. Most refiners had higher costs in the first quarter.

Implications of May Chinese Data on Economy and Oil Demand

In May, China’s industrial production matched expectations, while fixed asset investment disappointed. Housing indicators continued to show large improvements. Recent sequential increases in the producer price index are positive for corporate earnings and will also directionally reduce concerns about China’s debt burden. Meanwhile, physical activity indicators that can directly be related to oil demand (vehicle sales, ethylene production, and passenger air travel) recorded constructive gains.

The information above is part of PIRA Energy Group's weekly Energy Market Recap - which alerts readers to PIRA’s current analysis of energy markets around the world as well as the key economic and political factors driving those markets.

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