Oil price volatility challenges Canadian and global markets: Ernst & Young

TORONTO, May 13 /CNW/ - Short-term oil and gas supply and demand remains relatively balanced, but oil prices are up due to a number of geopolitical factors, sending ripple effects through both the Canadian and the global markets, Ernst & Young says.

"The extreme price volatility we're seeing has been driven by a number of factors - political upheaval in North Africa and the Middle East, the strengthening of emerging economies and more unpredictable events like the disaster in Japan," explains Lance Mortlock, Ernst & Young, Canada. "Now, the markets are actually reacting to a potential supply problem, not necessarily real-time fundamentals."

Ernst & Young's quarterly global oil and gas report finds that global economic growth projections are being reduced, dropping to around 4% for 2011. Here in Canada, the situation is creating both opportunities and challenges — for oil and gas companies in particular.

"From the business perspective, higher oil prices mean Canadian companies have the cash needed to get new projects up and running, and propel the industry forward," explains Mortlock. "But the major price swings we're seeing now also bring new challenges. Price volatility makes it harder to build a business plan and stick to a strategy. In addition, as cash makes more projects viable, we're starting to see a shortage of skilled workers needed to keep things moving."

Additional highlights from this quarterly forecast include the following:

Oil

For most of 2010, crude oil prices (West Texas Intermediate (WTI)) hovered in the US$70 to US$80/barrel range. But as the global economy grew, global oil demand recovered, and prices began to move higher in the last quarter of 2010. The WTI price broke through the US$100/barrel mark in early March 2011, as Libyan supplies were cut off. While a disconnect has emerged between WTI prices and more globally traded crude oils, continued political upheaval in the Middle East and Africa will prolong upward pressures on oil prices. In Canada, higher prices mean previously shelved oilsands and heavy-oil-related capital projects are being dusted off, and coming back on stream. We're also seeing renewed capital investment activity as projects become viable once again.

Gas

A combination of factors has created a more positive outlook for natural gas. The crisis at Japan's Fukushima Daiichi nuclear power plant and the loss of Libyan gas supply have established a "floor" for global gas prices. In the short-term, additional liquefied natural gas will be needed to replace the damaged nuclear generation, but the nuclear power generation risks brought to light in Japan could also renew a push for greater long-term use of natural gas for electricity generation in the US and other countries. While the global natural gas outlook is positive, Canada continues to face significant short-term challenges, namely over-supply caused primarily by new sources of gas (such as shale and unconventional gas). Canadian natural gas exports to the US have been declining in recent years, and the International Energy Agency forecasts this will continue.

Downstream

Despite the strong rise in crude oil prices, refiners generally had a good first quarter. Capacity tightened with the loss of some of Japan's refining capability. At the same time, loss of high-quality Libyan crude oil is creating supply problems, particularly for middle distillates. Despite the higher cost of crude oil, average cracking margins have moved above US$20/barrel. Refiners with access to the relatively "undervalued" crude oils, like WTI and Canadian heavy, generally saw stronger gains than those more exposed to global crude oil markets. However, recent investments in additional capacity continue to come online and could overwhelm demand growth, creating weaker conditions for margins in the medium term.

Oilfield services

The oilfield services segment, which is heavily dependent on upstream spending, is encouraged by movement in offshore permitting. Since the moratorium, the first seven deepwater permits were issued in the first quarter of 2011 by the US Bureau of Ocean Energy Management, Regulation and Enforcement.

Spending rose in 2008 by about 20%, but declined in 2009 by about 25%. Spending increased by about 15 to 20% in 2010, and that pace is expected to continue in 2011, bringing the industry back to 2008 spending levels.

Transactions

The first quarter of 2011 marked the sixth strong quarter in a row, with almost US$90 billion in transaction value. Notably, BP has returned as a buyer after several quarters of primarily selling assets. In Canada, the EnCana-Petro-China deal (still subject to review) is another prime example. And there is still significant foreign inbound investment in North American unconventional gas. Transaction activity, including joint ventures, is expected to be similarly brisk throughout the remainder of the year.

About Ernst & Young

Ernst & Young is a global leader in assurance, tax, transaction and advisory services. Worldwide, our 141,000 people are united by our shared values and an unwavering commitment to quality. We make a difference by helping our people, our clients and our wider communities achieve their potential.

For more information, please visit ey.com/ca.

Ernst & Young refers to the global organization of 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.

SOURCE Ernst

For further information:

Amanda Olliver
amanda.olliver@ca.ey.com
416 943 7121

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