Signs of recovery in some sectors of the U.S. economy and rising consumer confidence have driven oil prices steadily higher in recent months, but other areas of the energy sector, including natural gas, have yet to be impacted by the “hope premium,” according to a report issued Monday by Ernst & Young’s Americas Oil & Gas Center.
“In the past few years, there was a $20 to $25/barrel ‘risk premium’ added to oil prices,” said Marcela Donadio, who leads the center. “That premium has been replaced by a ‘hope premium,’ as markets believe an improving economy will spur significant demand increase. Major players in the energy industry are preparing for the upturn.”
For the U.S. gas sector, increases in upstream spending, drilling activity and infrastructure expansion led to a jump in output over the past two years. However, because of the depressed economy and an oversupply, demand continues to be weak, the report noted.
“When commodity prices collapsed at the end of 2008, leaving gas at $6/MMBtu, oil and gas prices were aligned in the $30/boe range,” the report noted. “While oil prices have bounced off the bottom and climbed as high as $70/bbl, natural gas prices have continued the downward march and are currently around $3.50/MMBtu, or $21/boe. On a barrel of oil equivalent basis, oil is now approximately three times the value of natural gas.”
Donadio said “recovery will be slow and gradual,” but “there is a great deal more optimism in the markets going into the third quarter and that is reflected in oil and gas industry activity.”
The oilfield services sector, which traditionally is last to feel the effects of a down economy, is now feeling the brunt of the credit crunch, according to Ernst & Young. The sector also is experiencing the effects of exploration and production (E&P) spending cuts and pressure to renegotiate contract rates for all drilling and production services.
“There is a trickle down effect for oilfield services,” said Charles Swanson, managing partner for Ernst & Young’s Houston office. “Earnings go through the roof in the good times, when demand for equipment and services is high, driving up the price. Likewise, earnings bottom out when E&P companies cut back spending.”
However, the “transactions landscape” appears to be stable, “and the start of the recovery may be at hand,” the report noted. Deal activity in the first six months of 2009 was down only slightly from the first half of 2008 when prices averaged $125/bbl.
“We anticipate the next wave of transactions coming soon,” said Jon McCarter, who leads the transaction advisory services unit for the Americas Oil & Gas Center. “There are weakened companies out there, ripe for the picking, and companies with strong balance sheets looking for quick growth opportunities.”
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