Market Outlook 2018: Oil, Gas and Services

Oil, Gas and Services

Overweight

Sector Outlook

• Oil industry 2017: Production cut supports prices

On October 25, 2017, Brent crude oil price rose to USD58.44/b (+2.85% YtD), while WTI price decreased to USD52.2/ton (-2.9% YtD), causing wider spread between the two benchmark prices, and indicating a sharp increase in U.S. shale production at time when OPEC is cutting back. Geopolitical tensions and catastrophes caused hedge funds to raise their net long positions in ICE Brent futures and options by almost 200,000 contracts.Total U.S. oil production topped 9.5 mbd in late August, up from 8.5 mbd  a year ago. The rapid comeback of U.S. shale has undercut OPEC’s efforts at balancing the market and has prevented WTI from staging a rally.

 

Exhibit 60: Oil prices (Brent and WTI, in USD/b)

Source:Bloomberg

 

• Industries and transportation continue to support oil demand

We see global demand for oil to increase to 98.19 mb/day in 2018 mostly due to increasing demand from industries and transportation.US better economic outlook and continued expansion of industrial activities will lead to raising oil demand and further reductions in oil inventories. Demand for transportation fuel in the US is expected to expand as larger vehicle sales increased in 2017. The same condition goes for European oil demand, with road transportation and industrial fuels – notably diesel – will account for the bulk of the increases. These developments are supported by the positive momentum in auto sales, and the solid expansions in all major auto markets. However, high taxation policies on oil use still remain the main factors that could curb oil demand. In China, we see demand contraction as slightly lower GDP growth as compared to 2017, a continuation of fuel quality programs targeting fewer emissions and the continuation of fuel substitution with natural gas.

 

Exhibit 61: World oil demand, mb/d

    Source:OPEC, CiptadanaSekuritas Asia

 

• Oil supply cut from OPEC, but offsets by others

We see global oil supply to reduce in 2018 after some of the world’s most powerful oil producers are rallying behind an extension of supply cuts agreement. OPEC - lead by Arab Saudi,has indicated that they are ready to back extension of the agreement to cut oil supply by 1.8 mb/day at least until late 2018. Restart of several projects that were postponed after 2014 price collapse may cause oil production from non-OPEC, especially in US, to increase. US shale oil producers such as Chesapeake and Pioneer have said that they are making investment to increase production. Given these, we see price to retreat from current level of USD60/barrel, to USD58/barrel as the declining supply from OPEC will be offset by increasing production from US and other non-OPEC producers.

 

Exhibit 62: World oil supply, mb/d

     Source:Bloomberg

 

• Low prices of gas poise to drive demand up

We see natural gas-focused drillers stand to benefit as low prices appear poised to drive up demand for the commodity. Prices for future delivery of natural gas have fallen below USD3/mmbtu. This has sets up a more attractive backdrop as low prices give power plants a reason to burn natural gas rather than coal in the upcoming 2018’s winter. Under normal weather conditions, we expect natural gas to rebound to USD3.25/mmbtu in 2018.

• Our stock picks and stock ratings

We recently upgraded our recommendation for the industry from neutral to overweight, as we see stable-high of oil and gas prices. We like MEDC and maintain our Buy rating on its ability to reduce cost and increase gas volume to offset negative impact from the volatility of oil prices.  

 

Exhibit 63: Oil and gas and services rating and valuation