The recession has led to a significant reduction in energy demand in most regions. Energy prices fell significantly in the first part of the 2009, and caused a large reduction in revenues for the players in the industry. The corresponding falls in suppliers' costs have been much smaller. Thus, the industry's profitability has weakened significantly. Most energy commodity prices have showed a partial rebound during the second half of 2009 contributing to a more positive outlook for 2010.
Macroeconomic outlook
After growing by more than 3% on an annual average basis during 2000-2008, the world economy in 2009 experienced the most severe recession since the Great Depression of the 1930s. Following the turbulence in the international financial system in the autumn of 2008, plunging business confidence and demand retrenchments led to a sharp contraction in global industrial production and international trade. In the first quarter of 2009 world economic activity fell by almost 4%. However, resolute and strong policy responses in all major economies stabilised the financial markets, restored general market confidence and from mid-2009 put the world economy on a moderate recovery path. China and other emerging economies in Asia provided an important stimulus to developed economies. For the year as a whole, there was a negative GDP growth of 3.4% and 1.9% for the OECD economies and the world economy, respectively.
At the beginning of 2010, the recovery of all major economies is still in progress. The rate of improvement does, however, vary across sectors and regions, as does the uncertainty of the outlook. Asia Pacific, less affected by the financial crisis and debt financed consumption, continues to grow relatively strongly, while the expansion in the United States and especially the European economies is more hesitant. This is mainly due to the household sectors' need for debt deleveraging, the high unemployment rate and the low rate of capacity utilisation in most industries. Furthermore, although the balance sheets of the financial institutions have improved during 2009, the planned banking reforms and the banks' own consolidation suggest that bank lending will continue to be restricted for some time. Overall, these forces indicate that the recovery of the world economy will continue during 2010, but with a less vigorous upturn than was typical for previous business cycles.
The governments' economic rescue packages, which successfully contributed to the stabilisation and recovery in 2009, have led to severe deterioration of public finances in most OECD countries. The federal deficits of the main economies, excluding Germany, have increased from pre-crisis levels of about 1.0-2.0% of gross domestic products to an estimated 9-12% for 2010. Since these levels of public deficit are not sustainable, the outlook beyond 2010 implies a more contractive fiscal policy. This is likely to restrain the pace of economic growth beyond 2011-2012. The underlying structural global imbalances, which were among the underlying causes of the recession of 2008-2009, have been corrected only partly and temporarily. Overall, these imbalances suggest that the medium-term outlook for the world economy is still marked by uncertainty.
Energy markets and price developments
The sharp fall in world economic activity in 2008-2009 led to large reductions in energy demand in most regions of the world. Driven by a 2.1 mbd reduction in OECD oil demand, global oil demand fell by about 1.3 mbd (1.5%) from 2008 to 2009. The demand for natural gas also fell significantly in North America and Europe by 1.1 % and 6.3% (estimate), respectively. Helped by the relatively short-lived economic downturn, oil and gas demand held up reasonably well in China and non-OECD Asia. The weakness in energy demand has pushed energy prices to levels not seen since the early 2000s.
After the historical high of USD 144 per barrel (dated Brent) in mid-2008, crude oil prices plunged by about USD 100 per barrel during the second half of 2008, before levelling out in the USD 40-45 per barrel range in the first quarter of 2009. The stabilisation was helped by large cuts in Opec production, which stabilised the physical markets and prevented oil stocks from building further. Despite the high oil stocks and comfortable spare Opec production capacity, crude oil prices started to recover in the second quarter, triggered by expectations of an emerging world economic recovery and the prospect of a weaker US dollar. The upward trend in oil prices lasted throughout the year, supported by constructive macroeconomic data and relatively strong demand growth in Asian markets. By the end of 2009, prices were around USD 75 per bbl. Financial players' perceptions, portfolio optimisation and market positions were important drivers behind the 2009 oil price recovery. The average price of dated Brent in 2009 was USD 61.6 per bbl, down from USD 97.3 per bbl in 2008.
The Atlantic products' markets have also been severely hit by the economic recession. Total demand for products in the US and OECD European markets both fell by close to 0.8 million barrels per day, or more than 4%, from 2008 to 2009. Reduction in the demand for distillates, including diesel oil, gas oil and jet/kerosene accounted for about half of the total, while gasoline demand kept up relatively well in both regional markets. Lower demand for oil products led to high products stocks and downward pressure on the price differentials between oil products and crude oil. However, the relative stability of the gasoline markets led to less depressed gasoline differentials (margins), while distillate margins were at their lowest since 2003-04. Thus, refineries with a high gasoline yield were somewhat sheltered from the recession, led market developments of 2008-09.
Natural gas prices (spot) in North America and Europe, which also peaked in mid-2008, fell continuously until September 2009 on the prospect of significant oversupply. This was driven by the outlook for recession-induced demand reductions, sustained US domestic production and prospects for a steep growth in the imports of LNG into the Atlantic Basic markets. Especially in the United States, market gas prices came under downward pressure due to a concern that the need for storage capacity could exceed the actual storage capacity. Prices reached a low of about USD 2.5-3.0 per million BTU in September 2009 - the lowest level since 2002-2004. Gradually, however, it became clear that as US domestic production began to slide, natural gas captured market shares from coal in power generation, the storage surplus was not growing and significant volumes of Middle East LNG supplies were directed to Asian and European markets. The reduced supply pressure put gas prices in both markets on a moderate recovery path, and by the end of the year US prices were back at about USD 5.70 per million BTU, close to the price levels at the beginning of the year. Although US conventional production slid further through 2009, the expansion of unconventional gas production, especially the production of shale gas, continued its sharply rising trend through the year. The European market has also been affected by lower gas demand and increased supply pressure, primarily from higher volumes of NGL and European spot prices (NBP) followed a similar pattern as US spot prices. The average NBP spot prices were reduced from USD 11.43 per million BTU in 2008 to USD 4.94 per million BTU in 2009.
European electricity prices fluctuated around a level of EUR 50-60 per MWh during 2005-08 and reached a peak of almost EUR 100 per MWh immediately after the break-out of the crisis in the financial markets in the autumn of 2008. Following the sharp decline in European economic activity during the winter of 2008-09, power demand contracted by more than 6 % (estimate) relative to the year before and pushed electricity prices to a low of EUR 30-40 per MWh. Power demand recovered during the second half of the year and pulled prices up into the EUR 40-50 per MWh range.
Prices in the European carbon dioxide market, the EU Emission Trading Scheme, tend to follow the same pattern as electricity prices as that market shares the same demand-side drivers. Carbon prices have, however, been relatively stable around EUR 13-15 per tonne during 2009. The lack of a clear direction following the Copenhagen meeting on future global and regional climate policies pushed carbon prices moderately downwards in December 2009.
The outlook for energy prices over the next few years is basically linked to the prospects for a moderate recovery of the world economy. The oil market is likely to resume the pre-crisis trends of moderate demand growth, modest to stagnant growth in non-Opec production and some expansion in Opec NGL/condensate production. This also suggests that Opec's spare production capacity will gradually be reduced. However, since oil price formation is strongly influenced by financial players, the uncertain outlook for financial markets, geopolitical developments and the US dollar will continue to be important additional drivers. The short-term outlook for the Atlantic Basin products markets is driven by a modest demand growth and the potential for products imports from several export refineries in the Middle East and Far East. The outlook for a sustained overcapacity in refining in the Atlantic Basin may at some point lead to capacity closures in Europe.
Prospects for a rebalancing of the European and North American gas markets are related to the strength of economic recovery. On the demand side, the price-driven competition with coal will continue to be important. The outlook for a further rise in US conventional gas production at relatively low costs has reduced the potential for imports to the North American markets. The prospects for increased LNG supplies into the Atlantic Basin are expected to cap significant natural gas price increases.
Industry context
Restricted upstream access, increasingly complex resources, the climate challenge and tougher financial terms have become more evident as strategic challenges for the oil and gas industry over the last 10 years. Access to resources restricts the growth potential of oil and gas companies, with a large share of the world's remaining conventional resources held by countries with limited access for international oil companies (IOCs). National oil companies have also entered the industry contest for international resources, resulting in an industry arena that is more competitive than ever. IOCs are therefore gradually being pushed to grow their asset base by accessing hydrocarbons in more remote areas, in deeper waters and in more technologically challenging environments. As a result, the contribution made by unconventional and deepwater hydrocarbons has increased by more than 10 percentage points during the last decade to make up nearly 30% of global production capacity in 2009. There are reasons to expect this trend to continue. Another key point is the global climate challenge. Climate regulation still remains uncertain post-Copenhagen, but a potential cost impact related to future policy adjustments remains a likely outcome. In addition to the access and climate challenge, industry profitability has tightened both through increasingly stringent government terms, but recently also through the margin squeeze following the financial turmoil.
The fall in oil and gas prices in the autumn of 2008 in the aftermath of the banking crisis took its toll on the industry in general. With average oil prices down by almost 40% in 2009 compared to 2008, revenues were severely hit. At the same time, suppliers' costs did not show a corresponding decrease. Data suggest that the cost level fell by 20-25% within capital intensive categories, while labour intensive supplies were reduced about 10%. Thus, overall industry profitability has significantly declined compared to 2008.
Figure 2.1
As a result of the margin squeeze, many companies have had to increase their borrowing, adjust their capital expenditure plans, re-evaluate their dividend policies, reduce their share buyback programmes and increase their focus on cost control and capital deployment efficiency through tighter prioritisation of exploration and development opportunities.
During the fourth quarter of 2008, most sources of funding dried up, and corporations with weak credit ratings had limited access to the bond market. However, the bond market recovered in 2009, especially for high-quality borrowers like the IOCs, which led to a large number of bond issues. Most of the money raised was used to finance existing operations and capital expenditure commitments rather than merger and aquisitions activities. Global E&P spending fell by some 15 - 20% in 2009. On the NCS on the other hand, the investment level grew by 14% mainly led by new field developments which are more challenging and require more resources due to their complexity and smaller size. With a more positive market sentiment and the jump in oil prices since the second quarter of last year, there is also an expectation of increased E&P spending for next year. Industry surveys indicate that global E&P expenditures will increase by approximately 10% this year. Statistics Norway suggests that the 2010 investment level on the NCS will be slightly lower than that of 2009. Consistent with the overall themes in the industry of cost control and capital discipline, disposals of non-core assets are back on the agenda. Several assets are currently being marketed among major oil and gas companies.
Following the financial turmoil, the drop in demand has led to refinery overcapacity and pressure on margins. This is exacerbated by the start up of several export refineries in the Far East and Mid-East. In the longer term, refining overcapacity in the Atlantic basin is expected to lead to capacity closures in Europe.
The increased concerns for energy security and climate change have continued to fortify policy and long-term market drivers for commercial growth in renewables. While most renewable energy forms are more costly than fossil fuels are today, the competitive landscape is expected to shift as production costs for renewable energy decline, while the cost of carbon emissions is reflected in power and fuel prices. Significant amounts of public and private funding are currently going into research, development and expansion of new technologies in order to make renewables and Carbon Capture and Storage (CCS) more competitive.
Wind power is the largest single market for new energy, with prospects of increasingly higher production growth over time. Offshore wind is expected to take a significant share of the total wind market if several of the major countries are to achieve their renewable energy goals.
