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EY Price Point: Global oil and gas market outlook - 1Q19

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The theme for this quarter is reversal. Following a period of sustained growth throughout the first 10 months of 2018, the oil price recovery began to reverse in the fourth quarter.

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EY Price Point: Global oil and gas market outlook - 1Q19

  1. 1. EY Price Point: global oil and gas market outlook Q1 | January 2019
  2. 2. Page 2 Q1 | January 2019 EY Price Point: global oil and gas market outlookPage 2 Gary Donald Andy Brogan EY Global Oil & Gas EY Global Oil & Gas Assurance Leader Transaction Advisory Services Leader gdonald@uk.ey.com abrogan@uk.ey.com Q1 overview World oil markets continue to surprise us by doing things that, in retrospect, aren’t surprising. The market left 3Q18 full of optimism fueled by expectations of Iranian supply interruption and muted North American supply growth. That optimism was overturned in 4Q18. The ability of governments to change policy (US waivers on Iran sanctions), the capital markets’ unpredictable willingness to fund struggling businesses in hope of a better tomorrow (North American shale), the power of dominant suppliers to influence prices (OPEC and Russia) and the risk of a slowing economy loom large.
  3. 3. Page 3 Q1 | January 2019 EY Price Point: global oil and gas market outlookPage 3 The theme for this quarter is reversal . Following a period of sustained growth throughout the first 10 months of 2018, the oil price recovery began to reverse in the fourth quarter. With anticipated decline in Iranian output underpinning the oil price recovery, the market was caught off guard by the US Government’s decision to issue waivers. US production continues to grow (notwithstanding questions about returns) and OPEC, for a while at least, opened the taps before conceding to production cuts effective from January. Crude prices climbed in January as the market noted the effect of OPEC and Russia production cuts and muted Iranian exports despite waivers granted. ? Q1 theme ► Will Iranian sanctions eventually have the effect that the market predicted? ► How many times will OPEC be willing to curtail its production to balance the world markets? ► Has confidence in the oil price recovery been wounded enough to have a sustained impact on capital spending in North America?
  4. 4. Page 4 Page 4 Q1 | January 2019 EY Price Point: global oil and gas market outlook OPEC and Russia planned to make up for supply shortages left by the impact of sanctions on Iran. After waivers were issued, OPEC and Russia announced an agreement to curtail production. Will the group continue to concede to growing US production by drawing back its own output? Confidence in the world economy In recent years, low interest rates and the free flow of money have enabled steady economic growth, strong energy demand and investment in energy infrastructure. Tighter money and the risk of escalating trade wars are now placing demand growth under question. Trends Historically, sanctions and sanction relief have had a big impact on oil markets. The markets’ expected impact of US sanctions on Iran buoyed prices throughout the first three quarters of 2018 only for gains to reverse following the issue of waivers in the final quarter. US sanctions on Iran OPEC and Russia North America’s return to growth in 4Q18 delivered around 800,000 bpd of new production to market. Returns approached sustainable levels in 3Q18, but cash flows were marginal. We’re now left questioning whether the recent fall in crude prices will affect capital budgets and production growth. North American shale
  5. 5. Page 5 Page 5 Q1 | January 2019 EY Price Point: global oil and gas market outlook Market fundamentals ► Brent and WTI averaged $68.76 and $59.97 per bbl, respectively, during the fourth quarter. Average prices in the fourth quarter represent a decline of 8% and 14%, respectively. ► Both benchmarks climbed in September before suffering a steep decline as the market was caught off guard by the US Government’s decision to issue waivers to major off-takers of Iranian crude. ► North American production growth returned and macro-economic concerns dented confidence in demand growth. OPEC and Russia continue to concede to growing US production, agreeing to production cuts effective from January. ► US waivers will not last forever but neither will OPEC and Russia’s production cuts. The search for a new equilibrium has started. Oil gains reversed in 4Q18 North American growth leaves market oversupplied ► The important levers impacting global oil supply and demand remain the same: demand growth, OPEC and Russia production strategies and North American supply. ► In previous quarters, soaring North American production was offset by demand growth while OPEC held production flat in an effort to balance the market. Output elsewhere will remain steady, if not in natural decline, until the flow of capital returns to deepwater projects. ► During 4Q18, the dynamic changed. OPEC countries increased output, pre- empting a drop in Iranian output only for waivers to be issued at the last minute. Prices fell, leaving OPEC and Russia to (yet again) curtail supplies in an effort to stabilize the market. Time will tell if this round of price pressure will be enough to dampen North American investment. 40.00 50.00 60.00 70.00 80.00 90.00 02/07/2018 02/08/2018 02/09/2018 02/10/2018 02/11/2018 02/12/2018 $/bbl Brent WTI Source: EIA Source: IEA (1.20) (0.80) (0.40) - 0.40 0.80 1.20 Starting balance Demand growth OPEC North America Other End balance millionbarrelsperday Movement to oversupply Movement to undersupply
  6. 6. Page 6 Page 6 Q1 | January 2019 EY Price Point: global oil and gas market outlook ► Crude oil production in North America continues to perplex the market. After a pause in 3Q18, there was an upward surge in the middle of 4Q18, followed by another pause in the last part of the quarter. ► North American operators’ return on capital began to approach sustainable levels in 3Q18, a state of affairs that is certain to reverse as fourth-quarter results are reported given a fall in prices. ► Free cash flow continued to elude around half of North American upstream operators in 3Q18. Although many companies have operating cash sufficient to fund capital investment, most continue to require external capital. ► Once again, we are forced to question how long capital allocation and production growth are sustainable in the absence of stable free cash flow. Market fundamentals ► US sanctions on Iran became effective in November. In preparation, significant off-takers wound down imports of Iranian crude throughout the year, reducing global oil supply and supporting the oil price recovery. ► With an objective of reducing prices at the pump, President Trump issued waivers in the fourth quarter in order to reverse growing crude prices. Exempt countries include China, India, South Korea and Japan, representing a group that accounted for approximately 80% of Iran’s pre-sanctions exports. Waivers run for a period of 180 days. ► The market reacted (perhaps overreacted) instantaneously to the issuance of waivers. Although data is limited, Iranian imports have remained well below pre-sanction levels in recent months. The market will learn more as to the true extent of exempt imports in 1Q19. Iran output and waivers Source: Reuters, Bloomberg Source: EIA Free cash flow continues to elude North American operators (300) (200) (100) - 100 200 300 400 500 600 $m 3Q18 free cash flow of North American upstream operators - 500,000 1,000,000 1,500,000 2,000,000 2,500,000 3,000,000 May 18 September 18 October 18 November 18 bbl/d Iranian crude exports by destination China India Japan South Korea Other Pre-announcement Post-announcement of US sanctions on Iran being re-imposed
  7. 7. Page 7 Page 7 Q1 | January 2019 EY Price Point: global oil and gas market outlook Market fundamentals Macro economics weighing on demand Source: The Federal Reserve System ► The US gas market remains relatively stable. Cold weather in recent months boosted gas demand for heating and supported prices. Strong growth in domestic gas production is expected to place downward pressure on US gas prices. ► Moderate winters in well-supplied Asian and European markets have led to a softening of regional gas and LNG prices. Gas shortages that resulted in price spikes similar to those of last year are unlikely to recur as China and other markets are well stocked. ► Increasing LNG spreads and strong growth in Asian demand have renewed interest in sanctioning new supply. FIDs on LNG projects are trickling through and are expected to gain momentum over the coming months. Source: EY analysis of data from Thomson Reuters Datastream Asian LNG demand triggering FIDs ► Since the world financial crisis began in 2008, central banks across the world have flooded the banking system with cash. Short-term interest rates hovered near 0% for some time. Interest rates have gradually increased, raising recession risk. ► Trade tensions between the US and China continue unabated. No new tariffs have been announced recently, but there are signs of a slowing Chinese economy. Automobile sales in China fell for the first time in more than 20 years in 2018, and slowing sales in China have led US companies to issue profit warnings. ► A growing economy guarantees steady, predictable oil and gas demand growth. Economic contraction, particularly in developing countries where energy demand growth is concentrated, would have the opposite effect. 0 2 4 6 8 10 12 $/mmbtu UK NBP Henry Hub LNG Asia FOB 0.0 0.5 1.0 1.5 2.0 2.5 3.0 Jan-2014 Jan-2015 Jan-2016 Jan-2017 Jan-2018 % Historical interest rates LIBOR US Federal funds
  8. 8. Page 8 Page 8 Q1 | January 2019 EY Price Point: global oil and gas market outlook Brent futures Brent futures fell in line with the decline in spot prices throughout the fourth quarter. Similarly, we have seen an uptick in January. Liquidity of the futures curve falls rapidly beyond 2020, and therefore the views of banks/brokers and consultants are considered more appropriate sources of determining or challenging a long-term price assumption. 40 45 50 55 60 65 70 75 80 85 Jan-2018 Jan-2019 Jan-2020 Jan-2021 Jan-2022 Jan-2023 Jan-2024 $/bbl Historical Brent Brent futures - 31 December 2018 Brent futures - 10 January 2019 Brent futures - 31 October 2018
  9. 9. Page 9 Page 9 Q1 | January 2019 EY Price Point: global oil and gas market outlook Oil price outlook Brent: Brokers’ and consultants’ price estimates, ranges and averages WTI: Brokers’ and consultants’ price estimates, ranges and averages For both benchmarks, brokers predict (on average) marginally higher oil prices in 2019 and 2020. The trend is reversed in the midterm. Consultants focus primarily on the analysis of a long-term sustainable oil price, while the banks/brokers balance their views on the basis of current market conditions. Despite the fall in oil prices noted in 4Q18, the views of market participants remain relatively unchanged. However, we note high relative forecasting uncertainty given the proven ability of identified risk factors to move the price significantly in a short period of time. Consultants’ forecasts result in averages of US$78.7/bbl and US$74.4/bbl vs. banks’/brokers’ averages of US$67.4/bbl and US$61.7/bbl for Brent and WTI, respectively in 2023. This data is effective as of 11 January 2019. US$67.4 US$78.7 US$61.7 US$74.4Brent: Average price forecast in 2023 WTI: Average price forecast in 2023 Banks/brokers Consultants Banks/brokers Consultants Source: Bloomberg, banks’/brokers’ reports, consensus economics, consultants’ website 30 40 50 60 70 80 90 100 2019 2020 2021 2022 2023 $perbarrel Bank/Broker range Consultants range Bank/Broker average Consultants average 40 50 60 70 80 90 100 2019 2020 2021 2022 2023 $perbarrel Bank/Broker range Consultants range Bank/Broker average Consultants average
  10. 10. Page 10 Page 10 Q1 | January 2019 EY Price Point: global oil and gas market outlook Gas price outlook Henry Hub: Brokers’ and consultants’ price estimates, ranges and averages UK NBP: Brokers’ and consultants’ price estimates, ranges and averages For Henry Hub, consultants forecast (on average) higher prices than banks/brokers. The NBP forecasts of banks and brokers exceed that of consultants. Banks’ and brokers’ view of the outlook for Henry Hub is essentially flat with the increase throughout the forecast period, representing little more than inflation. In contrast, consultants’ estimates reflect a steady upward trend, reflecting a view on demand growth and production economics. Estimates for UK NBP are scarce with only 5 and 3 data points available from banks/brokers and consultants, respectively. This data is effective as of 11 January 2019. US$3.8 GBP51.2 GBP58.7UK NBP: Average price forecast in 2022 Banks/brokers Consultants Source: Bloomberg, banks’/brokers’ reports, consensus economics, consultants’ website Banks/brokers Consultants US$3.3Henry Hub: Average price forecast in 2023 40 45 50 55 60 65 70 2019 2020 2021 2022 2023 GBppertherm Bank/Broker range Consultants range Bank/Broker average Consultants average 2.0 2.5 3.0 3.5 4.0 4.5 2019 2020 2021 2022 2023 $permmbtu Bank/Broker range Consultants range Bank/Broker average Consultants average
  11. 11. Page 11 Page 11 Q1 | January 2019 EY Price Point: global oil and gas market outlook Brent oil price estimates Appendix Bank/broker 2019 (US$/bbl) 2020 (US$/bbl) 2021 (US$/bbl) 2022 (US$/bbl) 2023 (US$/bbl) High 80.0 85.0 90.0 95.0 83.0 Average 69.0 70.5 71.8 70.5 67.4 Median 69.5 70.0 70.0 70.0 65.0 Low 54.5 52.1 62.0 60.0 58.3 Source: Bloomberg, banks’/brokers’ reports Source: Consultants’ websites, Oxford Economics Consultant 2019 (US$/bbl) 2020 (US$/bbl) 2021 (US$/bbl) 2022 (US$/bbl) 2023 (US$/bbl) High 70.0 75.1 85.1 90.7 95.7 Average 63.6 69.8 73.4 76.1 78.7 Median 63.3 68.5 71.5 73.7 75.5 Low 58.8 65.6 66.8 68.6 71.2 This data is effective as of 11 January 2019.
  12. 12. Page 12 Page 12 Q1 | January 2019 EY Price Point: global oil and gas market outlook WTI oil price estimates Appendix Bank/broker 2019 (US$/bbl) 2020 (US$/bbl) 2021 (US$/bbl) 2022 (US$/bbl) 2023 (US$/bbl) High 75.9 81.0 88.0 86.0 70.0 Average 62.2 64.8 66.5 65.3 61.7 Median 63.3 65.6 64.7 64.0 61.2 Low 49.0 48.9 55.5 53.5 53.5 Source: Bloomberg, banks’/brokers’ reports Source: Consultants’ websites, Oxford Economics Consultant 2019 (US$/bbl) 2020 (US$/bbl) 2021 (US$/bbl) 2022 (US$/bbl) 2023 (US$/bbl) High 63.0 71.9 81.1 86.7 91.6 Average 56.9 64.6 68.8 71.9 74.4 Median 56.3 63.8 67.6 71.4 72.8 Low 53.4 57.2 58.2 59.7 62.0 This data is effective as of 11 January 2019.
  13. 13. Page 13 Page 13 Q1 | January 2019 EY Price Point: global oil and gas market outlook Henry Hub gas price estimates Appendix Bank/broker 2019 (US$/MMBtu) 2020 (US$/MMBtu) 2021 (US$/MMBtu) 2022 (US$/MMBtu) 2023 (US$/MMBtu) High 3.7 4.3 4.2 3.8 4.0 Average 3.1 3.1 3.1 3.1 3.3 Median 3.1 3.0 3.2 3.0 3.3 Low 2.6 2.6 2.6 2.6 2.6 Source: Bloomberg, banks’/brokers’ reports * Brokers have reported figures in $/mcf. We have used a conversion ratio of 1.037 for mcf conversion to MMBtu. Source: Consultants’ websites, Oxford Economics Consultant 2019 (US$/MMBtu) 2020 (US$/MMBtu) 2021 (US$/MMBtu) 2022 (US$/MMBtu) 2023 (US$/MMBtu) High 3.6 4.0 4.0 4.2 4.4 Average 3.2 3.3 3.5 3.6 3.8 Median 3.0 3.2 3.4 3.5 3.6 Low 3.0 3.0 3.2 3.4 3.6 This data is effective as of 11 January 2019.
  14. 14. Page 14 Page 14 Q1 | January 2019 EY Price Point: global oil and gas market outlook NBP gas price estimates Appendix Bank/broker 2019 (GBP/therm) 2020 (GBP/therm) 2021 (GBP/therm) 2022 (GBP/therm) 2023 (GBP/therm) High 60.0 65.2 56.3 54.0 53.4 Average 56.9 55.3 52.9 52.8 51.2 Median 56.3 54.0 53.4 53.4 51.2 Low 53.4 50.0 48.0 51.0 49.0 Source: Bloomberg, Banks’/Brokers’ reports *Jefferies has reported figures in $/mcf. We have used exchange rate forecast by Jefferies for USD to GBP conversion and an mcf to mmbtu conversion ratio of 1.037. Source: Consultants’ websites, Oxford Economics *Oxford Economics has reported figures in US$/MMBtu. We have used exchange rate forecast by Oxford Economics from USD to GBP conversion. ** GLJ has reported figures in US$/MMBtu. We have used exchange rate forecast by GLJ for USD to GBP conversion. Consultant 2019 (GBP/therm) 2020 (GBP/therm) 2021 (GBP/therm) 2022 (GBP/therm) 2023 (GBP/therm) High 63.8 60.8 60.0 61.2 62.4 Average 60.0 57.6 57.2 57.6 58.7 Median 60.0 60.0 59.6 58.5 58.5 Low 56.1 52.0 51.9 53.2 55.2 This data is effective as of 11 January 2019.
  15. 15. Page 15 Page 15 Q1 | January 2019 EY Price Point: global oil and gas market outlook Key contacts Important notice Price outlook data incorporated within this publication is effective as of 11 January 2019. Given the rapidly evolving nature of the market and views of market participants, analysis can become quickly outdated. It should be noted that our analysis is not for the purpose of providing an independent view of the outlook for oil and gas prices. Instead, we are collating the views of market participants. Price outlook data should not be applied mechanistically. Instead, careful consideration should be given to the purpose of any value assessment with price forecasts assessed in the context of the other key assumptions, such as resources/reserves classification, production rates, discount rates and cost escalation rates together with an appreciation of the key sensitivities in any such analysis. EY | Assurance | Tax | Transactions | Advisory About EY EY is a global leader in assurance, tax, transaction and advisory services. The insights and quality services we deliver help build trust and confidence in the capital markets and in economies the world over. We develop outstanding leaders who team to deliver on our promises to all of our stakeholders. In so doing, we play a critical role in building a better working world for our people, for our clients and for our communities. EY refers to the global organization, and may refer to one or more, of the member firms of Ernst & Young Global Limited, each of which is a separate legal entity. Ernst & Young Global Limited, a UK company limited by guarantee, does not provide services to clients. For more information about our organization, please visit ey.com. Ernst & Young LLP is a client-serving member firm of Ernst & Young Global Limited operating in the US. How EY’s Global Oil & Gas Sector can help your business The oil and gas sector is constantly changing. Increasingly uncertain energy policies, geopolitical complexities, cost management and climate change all present significant challenges. EY’s Global Oil & Gas Sector supports a global network of more than 10,000 oil and gas professionals with extensive experience in providing assurance, tax, transaction and advisory services across the upstream, midstream, downstream and oil field subsectors. The Sector team works to anticipate market trends, execute the mobility of our global resources and articulate points of view on relevant sector issues. With our deep sector focus, we can help your organization drive down costs and compete more effectively. © 2019 EYGM Limited. All Rights Reserved. EYG no. 000209-19GBl ED None This material has been prepared for general informational purposes only and is not intended to be relied upon as accounting, tax or other professional advice. Please refer to your advisors for specific advice. ey.com/oilandgas Derek Leith EY Global Oil & Gas Tax Leader +44 12 2465 3246 Andy Brogan EY Global Oil & Gas EY Transactions Advisory Services Leader +44 20 7951 7009 Jeff Williams EY Global Oil & Gas Advisory Leader +1 713 750 5916 • Gary Donald EY Global Oil & Gas Assurance Leader +44 20 7951 7518 •

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