Raymond James' Energy Outlook

JOHN FREEMAN, Raymond James (04/16/2010)
"Front month oil prices trended slightly higher in April despite not moving much through the first half of the month. Crude managed to spike in the last days of trading and close near $84/Bbl, up roughly 5% during the month. Natural gas prices weren't so fortunate and took a nosedive throughout the month. Natural gas closed down more than 20%, ending below $4/Mcf for the first time since September of 2009. As a result, energy stocks were mixed during the month with E&P shares (EPX) down marginally and the OSX up about 1%. We had called for gassy stocks to underperform and continue to take a cautious stance given that we foresee further weakness in the commodity on the horizon.

. . .In early April, we revised our 2010 natural gas forecast to $4.25/Mcf, meaningfully below the Street. Despite the fact that we entered injection season at lower inventory levels y/y, we are still worried about natural gas over the course of the year. We believe natural gas is range-bound between $4.00/Mcf and $6.00/Mcf for the next few years but has a ceiling near $5/Mcf in the near term. The downside potential is similar to last year (sub $3/Mcf), considering that we expect to fill storage once again. Bearish factors include the following: 1) The rig count has moved higher despite $4.00/Mcf gas, and we believe only 900 gas rigs are necessary to grow production. The gas rig count is now at 959. 2) Natural gas demand was up in 2009, solely as a result of fairly major coal-to-gas switching (nearly 2 Bcf/day). At $5.00+/Mcf, coal prices become competitive with gas, and, at $6.00/Mcf, the entire 2 Bcf/day returns to coal. 3) The LNG market looks to be oversupplied in the near term, and U.S. imports could surge if gas rises above $4.00/Mcf.

On the crude oil front, we are leaving our forecast relatively unchanged at $82/bbl forecast for 2010, as we still have near-term concerns about substantially higher-than-normal global inventory levels. Additionally, it's important to point out that oil prices look to be linked at the hip to the broader market in the short term. For oil prices to punch out above $85/bbl, we believe the overall supply/demand dynamics will have to tighten, and recent signs have been encouraging, as oil demand is beginning to rebound in a number of countries. When combined with a number of incremental supply projects that have been postponed or shelved, the long-term outlook looks quite promising. As a result, we remain confident in our 2011 oil price forecast of $95/bbl and expect the commodity to reach triple digits by the end of 2011. Should potential geopolitical concerns take a turn for the worse (read Iran), either or both of these estimates could prove meaningfully conservative."

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