Energy Prospectus

Raymond James "Energy Stat of the Week" published 7/12/10

Tweaking Oil and Gas Commodity Price Forecasts; Long-Term Outlook Unchanged

Since our last commodity price update in April, commodity prices have exhibited increasing volatility. On the natural gas side, warmer than normal temperatures across the U.S. (especially in the gas-burning South) coupled with heightened activity in the tropics (and probably a fair amount of short-covering) induced a substantial rally in prices from the low $4/Mcf range to the low $5/Mcf range. Prices have settled back in the mid $4/Mcf range, and we remain very concerned about summer-ending storage levels and the potential for another gas price collapse. Nevertheless, we are truing up our forecast to account for higher summer prices thus far. Our new 2010 natural gas price forecast is $4.51/Mcf, up from $4.25/Mcf. For 2011, we are still forecasting $4.75/Mcf, consistent with our long-term bearish stance on natural gas.

On the oil side, the story is much different. Fears of a "double dip" recession, largely brought on by sovereign debt issues in Europe and fiscal tightening measures (or rhetoric thereof) in China, have driven a pullback in oil prices. Recall that, in April, prices were approaching $90/bbl; they have since slid back in the mid $70/bbl range. The fundamentals, meanwhile, actually look stronger than we previously modeled. Global oil demand has been stronger in both the US and China. Additionally, Obama's illegal moratorium in the US will probably tighten non-OPEC supply more than some may realize. Nevertheless, we are truing up our forecast to account for recent pricing changes. Our new 2010 forecast is $78.55/bbl, down from $81.66/bbl. Likewise, we are lowering our 2011 forecast from $95/bbl to $90/bbl. We remain bullish on the long-term oil fundamentals with two major caveats: 1) a "double dip" recession which would tip prices meaningfully lower, and 2) escalating geopolitical issues (i.e. Iran) that would tip prices meaningfully higher.

From today's Wall Street Journal interview:

We remain positively biased towards energy supply and demand fundamentals. Let me start first with demand side. As you know from our past discussions, our primary focus on the demand side has been growing demand from the developing nations in the world, China and India in particular, as opposed to the developed or OECD nations. In fact, we have predicted for some time now that we would see flat if not declining demand in the OECD nations of the world, certainly Europe and the United States, and that has generally been the case. So, while we have to take concerns about the US economy and now the European economy into consideration, we think global energy demand will continue to grow given the inexorable link between global GDP growth and energy demand growth.

On the supply side, we actually view the supply challenges, and decline rates in particular, as a more compelling factor than the growth in demand. Decline rates in the Gulf of Mexico, especially deepwater, are very high, on the order of 30 to 40% (and even greater in some instances) post peak production. Globally decline rates are in excess of 6% per year, which means the world has to bring online roughly 5 million barrels a day of new production every year simply to keep supply flat. In addition, the recent incident in the Gulf of Mexico is another example of the existing the supply challenges and more evidence that the era of cheap, easy to access oil is truly over.On a specific note, one of the interesting dynamics at play today is that the deepwater Gulf of Mexico represents a very important part of US domestic production.