A cold winter warms industry hearts and overshadows events in Europe
Houston, 22 April 2014
According to EY Oil & Gas Center’s US quarterly outlook
Geopolitical risks remain high, particularly in the Middle East and North Africa, and a new risk emerged in the first quarter with the confrontation between Russia and Ukraine and the West. Meanwhile, North American oil and gas markets in the quarter were buoyed by a very cold winter that brought relief to oil and gas producers and refiners, and by further progress along Mexico’s road to energy reform.
“We think the industry broadly had a good quarter,” says Deborah Byers, the Oil & Gas Leader for Ernst & Young LLP in the US, “and we think the market dynamics will continue to play out positively for the industry over the rest of the year. We are probably looking at some short-term seasonal downward pressures on both oil and natural gas prices, but we’re looking for moderately strong demand growth over the second half of the year that should support prices.”
Global oil prices have stayed relatively high despite supply gains, as demand has stayed strong with the rebound in economic growth, supported by extreme weather in many parts of the globe. In the US, crude prices edged higher in the first quarter, fed by strong winter demand for crude as well as by continuing infrastructure capacity growth, which served to further narrow some of the differentials for US crudes. US oil production growth continues to be strong, albeit impacted by some shut-ins due to cold weather.
US gas producers celebrated the first really cold winter in years, with strong demand taking US gas storage levels to record seasonal lows. Spot gas prices averaged over $5 per million BTUs for the first quarter, with daily spot averages topping $8 per million BTUs in early February. The first quarter of 2014 stood in sharp contrast to 1Q 2012, when an abnormally warm winter resulted in record high gas-in-storage and drove prices below $2 per million BTUs. US gas production remains relatively high and the higher prices will incentivize further production. Prices will likely need to remain reasonably high in order to incentivize the necessary storage build over the summer, but at the same time, the higher gas prices will slow the switch from coal to gas in the power sector.
US natural gas in underground storage
(weekly EIA data)
With product prices boosted by strong winter product demand, refiner margins increased in the first quarter, despite some upward crude price pressures. Notional cracking margins on a NYMEX 3-2-1 basis averaged about $21.50 per barrel in the first quarter, up from an average of about $18.75 per barrel in 4Q 2013. Average margins were up for the quarter across all of the refining regions, with margins in the Midwest continuing to be the strongest.
Led by international drilling, total global rig counts continue to rise, but rig activity in the US continues to disappoint. Upstream operators are seen to becoming more cautious in their spending plans, and while spending is expected to continue to increase in 2014, the increases (5-7%) are expected to be less than those estimated for 2013 (8-10%). At the same time, pressures on operators’ cash flows are being reflected as pressures on service companies to control costs.
Global oil and gas transaction activity in the first quarter 2014 was broadly similar to activity in 1Q 2013 and 1Q 2012, but down from last quarter. North American oil and gas transaction activity was down for the quarter and remains relatively weak. However, the EY Americas Oil & Gas Transactions leader, Jon McCarter, remarked, “A more conservative consensus on prices and a relentless focus on cost-cutting and operational efficiency has tempered the growth agendas for many companies. But with credit conditions improving and some evidence of increasing appetite for debt, strong IPO and spin-out activity, and some evidence of a narrowing of the valuation gap in certain corners of the market, we do expect to see some modest recovery in activity over the rest of the year.”
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