Energy Prospectus

On January 3, 2017 Raymond James put out an updated forecast for 2017 oil and gas prices. They think WTI will average $70/Bbl in 2017 and U.S. natural gas will average $3.25/MMBtu (Henry Hub). I think they are a bit too optimistic for oil and about right for gas.

If you want a copy of the RJ price targets, with details on how they come up with them, send me an e-mail: dmsteffens@comcast.net

Here are the prices that I have decided to use for my 2017 and 2018 forecast/valuation models. KEEP IN MIND THAT I ADJUST EACH COMPANY'S FORECAST FOR HEDGES AND REGIONAL PRICE DIFFERENTIALS. You can find the production mix and the oil, gas and NGL prices I use at the bottom of each forecast model. The forecast models are all macro driven Excel spreadsheets. Most of the revenue and expense line items are driven by changes in production and commodity prices. So, you can change the production volumes and commodity prices used in the forecast periods to see how it impacts Net Income, Cash Flow, EPS and CFPS. The models are great tools. Take the time to learn how to use them.

Period_WTI Price_Natural Gas Price
2017
Q1: $55, $3.25
Q2: $60, $3.00
Q3: $60, $3.25
Q4: $65, $3.50

2018: $60, $3.50

I do think WTI may reach $70/Bbl in the 3rd quarter if OPEC and Russia actually cut their production to the levels they have agreed to. Demand for oil is forecast to increase by 1.3 million barrels per day in 2017. Non-OPEC production will only go up by 500,000 barrels per day at most. Production is increasing in the U.S., but nowhere else.

Why is Raymond James so bullish on oil prices? Here is their reasoning.

Oil price outlook: Further recovery to cyclical highs with a 2017 WTI average of $70/Bbl, moderating to $65 in 2018, and settling
at $60 long-term. Despite non-stop choppiness for oil prices (China concerns, excessive oil inventories, Brexit, U.S. dollar strength),
the fundamental oil picture actually stayed fairly predictable: low oil prices drove global supply/demand from oversupplied in 1H16,
to undersupplied in 2H16. As 2017 gets underway, there is clear evidence that the market is already undersupplied, and global
inventories should continue to fall, leading oil prices higher. In 1H17, the effects of the OPEC/Russia production cut will show up.
Without ascribing credit to an extension of this cut beyond June 30, our oil model shows that inventory draws will continue (we
estimate an average draw of nearly 1.0 million bpd in 2H17), reflecting robust demand and slow global supply recovery.

Why are we convinced that 2016 marked the bottom for oil? Simply put, it has become clear that the global oil industry cannot
grow aggregate oil supply on a sustainable basis at sub-$50/Bbl oil. The clearest evidence for this is the fact that non-OPEC supply in
2016 posted its steepest annual decline this decade, down 1.3 million bpd (more than 2%) when we compare exit-2016 versus exit-
2015. This included exceptionally steep declines in the U.S., China, Mexico, and Colombia, partly offset by growth in Russia, Brazil
and a few other places. Further, global demand rose at an above-trend pace for the second straight year (up 1.6 million bpd), as
cheap fuel stimulated record auto sales, rising miles traveled, and strong growth in gasoline consumption. Despite an unrepeatable
2015/16 surge in OPEC supply, the oil supply/demand equation became undersupplied (inventories fell) in the second half of 2016.

How do we see global oil supply/demand evolving in 2017? Our oil model shows that global oil inventories have been drawing since
2Q16. The draws are set to increase in 2017, averaging 900,000 bpd for the full year. Inclusive of the partial implementation we are
assuming for the OPEC cut, we project draws of 1.1 million bpd in 1Q and a similar 1.0 million bpd in 2Q. Even if we assume OPEC
supply recovers to near maximum capacity in 2H17, our model still shows a draw of 500,000 bpd in 3Q and 0.9 million bpd in 4Q.
How is it that inventories still draw so much even after the OPEC cut expires? First, we forecast global demand growth of 1.2 million
bpd in 2017 (this is well below the levels of 2015, 2016, and IEA forecasts). Second, non-OPEC, ex-U.S. supply looks like it will flatline
in 2017/18 as the best-case scenario. In other words, our bias would be for non-OPEC supply outside of the U.S. to decline a bit.
Third, U.S. production should post a modest ~350,000 bpd recovery in 2017, rising to a robust 1.2 million bpd surge in 2018.

MY TAKE: This oil price cycle was "brutal". Severe damage has been done to the oilfield services sector. As a result, Non-OPEC production will not recover for at least two years. Yes, U.S. production will rebound a bit (my SWAG is that we get back to 9.0 to 9.2 million barrels per day by Q4 2017). Compare this to U.S. peak production of 9.7 million barrels per day in early 2015. In other words, $60/Bbl oil is not going to cause a surge in oil production that many on Wall Street fear. Outside of Texas and Oklahoma, I see little evidence of oil production growth. If the global economy grows at 2% to 3%, we may have an oil shortage in 2018.