a p r i l 1 9, 2 0 0 5 o i l & g a s c o n f e r e n c e, i n d e p e n d e n t p e t r o l e u...
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A P R I L 1 9, 2 0 0 5
O I L & G A S C O N F E R E N C E, I n d e p e n d e n t P e t r o l e u m A s s o c I a t I o n o f A m e r I c a
Jim Glassman
212-834-5102
Energy and the Economy
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What’s up with oil? …
2
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93 94 95 96 97 98 99 00 01 02 03 04 05
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40
50
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OPEC's Price Target Range for WTI
West Texas Intermediate (Dollars Per Barrel) West Texas Intermediate (Dollars Per Barrel)
Source: Bloomberg LLP.
… double OPEC’s “target”
3
Updated Through April 2005
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Global demand is strong …Global demand is strong …
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1997 1998 1999 2000 2001 2002 2003 2004 2005
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Global Demand
Global Supply
Global Petroleum Supply and Demand (Millions of Barrels Annualized) Global Petroleum Supply and Demand (Millions of Barrels Annualized)
Source: Bloomberg LLP.
… but so is supply …
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Updated Through April 2005
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93 94 95 96 97 98 99 00 01 02 03 04 05
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US Private Oil Inventories (Millions of Barrels) US Private Oil Inventories (Millions of Barrels)
Source: American Petroleum Institute.
… and inventories are normal
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Updated Through April 2005
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A weak dollar drains a petrodollar’s purchasing power …A weak dollar drains a petrodollar’s purchasing power …
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1997 1998 1999 2000 2001 2002 2003 2004 2005
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OPEC Quota
OPEC Output
Petroleum Output (Millions of Barrels Annualized)Petroleum Output (Millions of Barrels Annualized)
Source: Bloomberg LLP.
… but OPEC isn’t dragging its feet
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… and not everything’s made in Europe
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It’s a stealth OPEC move to raise the target price …It’s a stealth OPEC move to raise the target price …
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West Texas Intermediate (Dollars Per Barrel)West Texas Intermediate (Dollars Per Barrel)
Source: Bloomberg LLP.
… I think they know better
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As Oil Demand Surges,Saudis Offer to Boost Output
Rare Move Aims to Head OffCuts, Backlash From Buyers;Meeting With Bush Looms
By BHUSHAN BAHREE Staff Reporter of THE WALL STREET JOURNALApril 7, 2005; Page A1
Saudi Arabia, the world's largest oil exporter, is telling petroleum buyers it will supply them with all the oil they want to help them build up inventories ahead of an expected sharp rise in energy demand later this year.
… and why are the Saudis saying this?
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A lower dollar reduces the price to non-dollar consumers …A lower dollar reduces the price to non-dollar consumers …
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Global Demand
OECD Europe's Demand
Petroleum Demand (Barrels)Petroleum Demand (Barrels)
Source: Bloomberg LLP.
… so why aren’t they buying?
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Nominal Oil Prices (Left Scale)
Nominal Trade-Weighted Dollar Versus Major Currencies (Right Scale)
WTI (Dollars Per Barrel) Dollar Index (March 1973 = 100)WTI (Dollars Per Barrel) Dollar Index (March 1973 = 100)
Sources: Federal Reserve Board and Bloomberg LLP.
In fact, the dollar/oil correlation isn’t obvious
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We have a shortage of refining capacity …We have a shortage of refining capacity …
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95 96 97 98 99 00 01 02 03 04 05
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Ratio of the Pump Price of Gasoline to the Crude EquivalentRatio of the Pump Price of Gasoline to the Crude Equivalent
Sources: American Petroleum Institute and Bloomberg LLP.
… then why is the retail-crude markup so low?
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It’s the sweet-&-sour spread …It’s the sweet-&-sour spread …
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86 88 90 92 94 96 98 00 02 04
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Price Differential Between WTI and Dubai Crude (Dollars Per Barrel)Price Differential Between WTI and Dubai Crude (Dollars Per Barrel)
Source: Bloomberg LLP.
… I don’t see it
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So what’s going on? … So what’s going on? …
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… it takes time to find equilibrium
A market that has inelastic demand has fewer price anchors in the near term … i.e., prices can get out of line for a spell
Higher levels of capacity utilization in oil production imply less ability to absorb potential disruptions than previously
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The oil “tax” ...
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Wall Street’s view of petroleum as a “tax” …Wall Street’s view of petroleum as a “tax” …
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Oil is a “tax” … in a narrow sense …
Rising oil prices represent a leakage from the spending stream of countries that are net petroleum importers.
Consumers bear a disproportionate burden of the adjustment to higher energy prices.
Rules of thumb, two ways to figure it:
Economic models say a $10/barrel oil price raises GDP prices by 0.5 percentage point and lowers GDP by 0.5%.
Back-of-the-envelop calculation … the US consumes 7 billion barrels of oil annually and imports 4.5 billion barrels. So, a $10/bbl jump in oil prices raises the nation’s aggregate energy bill by $70 billion annually and its oil import bill by $45 billion (the rise in net imports lowers real GDP by 0.5 percent, everything else the same)
So, last year’s surge in oil prices from $25/bbl to near $50 may have slowed US and global growth by more than 2 percentage points in Q2 and Q3 and by 1¼ percentage points in the year as a whole.
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Oil Prices (Right)
US Imports from OPEC (Left)
US Exports to OPEC (Left)
US Imports and Exports to OPEC ($ Billions) WTI ($/Barrel)US Imports and Exports to OPEC ($ Billions) WTI ($/Barrel)
Sources: US Department of Commerce and Haver Analytics.
… for oil consuming countries and sectors
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Less true for natural gas
Natural gas production is “all in the family”, so to speak, a domestic resource
The “tax” on consumers represents a revenue boost to producers, who are largely domestic
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But …But …
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Global Oil Supply Versus Demand Global Oil Supply Versus Demand
Source: Econ 101.
… if demand drives oil, oil hurts demand?
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Initial Demand
Final Demand
Petroleum Supply
Price
Quantity
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Round 1 … “tax” on oil’s users Consumer spending is dampened, profits depressed, and GDP of net oil
consuming countries retarded by the oil “tax”
Round 2 … recycled petrodollars boost asset prices Rising oil prices effectively raises saving—taxing consumers and giving
producers revenues—and the flow into financial assets dampens the consumer hit
A $10/barrel jump in oil boosts the flow of oil revenue into financial markets by $300 billion—global oil demand runs about 30 billion barrels annually
Oil revenues initially are invested in financial assets
Round 3 … the oil “tax” recycled Producers are consumers as well and they eventually spend their oil
revenues—on oil exploration and development projects, on government social outlays, for typical consumer goods—recycling the oil tax back to industrial countries
… oil revenues don’t vanish into outer space …
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… oil producers are spenders too
Dubai to offer snow skiing in 120-degree heat
Thursday, April 07, 2005
By Jim KraneThe Associated Press
DUBAI, United Arab Emirates -- When this city's furnace-like summer gets too hot to bear, folks will cool off at a local resort with tumbling snowflakes, skiing and snowboarding on five trails, and, for those who need a break from the cold, mugs of hot chocolate by the fireplace.
The resort, a faux mountainside playground dubbed Ski Dubai, is currently a cacophony of blazing jackhammers, forests of steel scaffolding and an emerging gray mountain of concrete slabs.
Come September, a thick insulated roof with a sky-blue ceiling will seal in the site, with its 200-foot vertical drop and trails as long as 1,300 feet.
Crank up the 23 massive air conditioners and turn on the snowmaking jets and organizers say the concrete mountain will be covered in 28 inches of powdery snow.
For those bundling up in parkas and strapping on their boots and gloves, the desert outside will melt away.
"There will be no windows looking to the outside," said Phil Taylor, Ski Dubai's chief executive, bounding up the concrete slopes and catwalks during a brisk tour of the construction. "The idea is to create a beautiful day in the mountains."
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Kamran Jebreili, Associated Press
A billboard advertises an indoor ski attraction under construction in the background at the Mega Mall on Sheikh Zayed High-way in Dubai.
The Ski Dubai Web site features animations of skiing that is scheduled to be reality by this fall.
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Economic progress report …
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0.71.1
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US Real GDP (Annualized Percentage Change)US Real GDP (Annualized Percentage Change)
Source: US Department of Commerce.
Growth is good … despite oil
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Bars are change from previous quarter
Line is change from four quarters earlier
Diamonds are Q4-Versus-Q4 change
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Real GDP in Selected Regions (% Change from Four Quarters Earlier)Real GDP in Selected Regions (% Change from Four Quarters Earlier)
Source: JPMorgan Chase.
More challenging abroad
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Asia Ex. Japan
US
EU-11Japan
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After-Tax Operating Profits (Ratio to GDP)After-Tax Operating Profits (Ratio to GDP)
Sources: US Department of Commerce and Standard and Poor’s.
Profits haven’t been better
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GDP Profits, After-Tax
Profits from Current
Production
S&P 500 After-Tax Operating Earnings
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Core Consumer Inflation (Percentage Change from 12 Months Earlier)Core Consumer Inflation (Percentage Change from 12 Months Earlier)
Sources: US Department of Commerce and US Department of Labor.
Inflation is … well … price stability …
35
The Fed’s Forecast (“Target”)
Core PCE Chain Price Index
Core CPI
Updated Through March 2005
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Core CPI
Core PCE Chain Prices
Core Consumer Inflation (Percentage Change from 12 Months Earlier)Core Consumer Inflation (Percentage Change from 12 Months Earlier)
Sources: Federal Reserve Board, US Department of Commerce, and US Department of Labor.
… you need a microscope to find something
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Updated Through March 2005
The Federal Reserve’s “Forecast” (Target) for the Core PCE Chain Price
Index
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We’re not yet at full employment …
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2
4
6
8
10
12
60 65 70 75 80 85 90 95 00 05
0
2
4
6
8
10
12
Unemployment (Percent of the Labor Force) Unemployment (Percent of the Labor Force)
Sources: US Department of Commerce and US Department of Labor.
Unemployment is deceptively low
38
If the Participation Rate Had
Held Steady
Official Unemploymen
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Updated Through March 2005
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First of all, full employment may be 4%
In my judgment, while we may not know where the unemployment rate which is consistent with stable prices [is] … it is clearly from what we can judge, well under 6 percent, and I would not rule out the possibility that it is down to the 4 percent level.”
Federal Reserve Chairman Alan Greenspan, Remarks in Semi-Annual Testimony on the State of the Economy to the House Financial Services Committee, US House of Representatives, February 11, 2004
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70
85
100
115
130
145
80 85 90 95 00 05
70
85
100
115
130
145
Nonfarm Payrolls (Millions)Nonfarm Payrolls (Millions)
Source: US Department of Labor.
Second, some unemployment is hidden
40
Nonfarm Payrolls
Updated Through March 2005
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115
130
145
80 85 90 95 00 05
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115
130
145
160
175
Working Age Population and Employed (Millions)Working Age Population and Employed (Millions)
Source: US Department of Labor.
Where is everyone?
41
Working Age Population (Right)
Nonfarm Payrolls (Left)
Updated Through March 2005
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6,000
7,000
8,000
9,000
10,000
11,000
12,000
91 92 93 94 95 96 97 98 99 00 01 02 03
6,000
7,000
8,000
9,000
10,000
11,000
12,000
People Not in the Job Market Because They Are in School (Thousands)People Not in the Job Market Because They Are in School (Thousands)
Source: Current Population Survey, March Annual Demographic Survey.
Some gave up and went back to school
42
Updated Through March 2005
2003
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64
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68
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72
74
76
78
80
Unemployment (Percent) Participation Rate (Percent)Unemployment (Percent) Participation Rate (Percent)
Sources: US Department of Commerce and US Department of Labor.
That artificially depresses unemployment
43
Participation Rate of 20 – 24 Year Olds (Right)
Unemployment Rate (Left)
Updated Through March 2005
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Unemployment (Percent of the Labor Force) Unemployment (Percent of the Labor Force)
Sources: US Department of Commerce and US Department of Labor.
Considerable “slack” measured or not
44
If the Participation Rate Had
Held Steady
Official Unemploymen
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Updated Through March 2005
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The future looks carbon-hungry …
45
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-2
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2
4
6
8
10
1970 1975 1980 1985 1990 1995 2000
-4
-2
0
2
4
6
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10
Electricity Demand
Real GDP
Energy & the economy … like horse & carriage
GDP and Electricity Consumption (% Change from the Previous Year)GDP and Electricity Consumption (% Change from the Previous Year)
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The US economy’s bright future …The US economy’s bright future …
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Flexibility keeps the economy on a higher plane
US Real GDP (Percentage Change from Four Quarters Earlier)US Real GDP (Percentage Change from Four Quarters Earlier)
Sources: US Department of Commerce, Ray Fair, Yale University, and National Bureau of Economic Research.
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-20-15-10
-505
10152025
1851 1876 1901 1926 1951 1976 2001
-20-15-10-50510152025
Historical Average = 3.75% Annual Growth
Updated March 2005
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Core Consumer Inflation (Percentage Change from 12 Months Earlier)Core Consumer Inflation (Percentage Change from 12 Months Earlier)
Sources: US Department of Commerce, and US Department of Labor.
Price stability keeps interest rates lower …
49
The Fed’s Forecast (“Target”)
Core PCE Chain Price Index
Core CPI
Updated Through March 2005
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5
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15
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25
1970 1975 1980 1985 1990 1995 2000 2005
-5
0
5
10
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20
25
Consumer Price Indexes (Percentage Change from 12 Months Earlier)Consumer Price Indexes (Percentage Change from 12 Months Earlier)
Sources: US Department of Commerce, and US Department of Labor.
… the same goes for others
50
United States
Updated Through March 2005
Aggregate of All Industrial Countries
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60 65 70 75 80 85 90 95 00 05
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-2
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2
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4
56
7
8
Productivity of Nonfarm Businesses (Annualized Percentage Change)Productivity of Nonfarm Businesses (Annualized Percentage Change)
Source: US Department of Commerce.
Productivity … rocket fuel
51
Five-Year Moving Average
% Change from Four Quarters Earlier
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30
1851 1876 1901 1926 1951 1976 2001 2026 2051 2076
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0
5
10
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30
Historical Average = 3.75% Annually
Long-Run Growth Assumption in Budget Projections = 1.75%
Annual Growth
Real GDP (Percentage Change from Four Quarters Earlier)Real GDP (Percentage Change from Four Quarters Earlier)
Sources: US Department of Commerce, Ray Fair, National Bureau of Economic Research.
Bottom line … don’t count on a slower future
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East Asia joins the team …East Asia joins the team …
53
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20000
40000
60000
80000
100000
120000
140000
160000
180000
200000
1990 2000 2010 2020 2030 2040 2050
0
20000
40000
60000
80000
100000
120000
140000
160000
180000
200000
A world with or without East Asia … the difference
between annual petroleum consumption of 300 million barrels versus 400 million
Real GDP in Selected Regions (Chained Dollars)Real GDP in Selected Regions (Chained Dollars)
Source: JPMorgan Chase.
… and that means demand for resources
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Technology and economics can help …Technology and economics can help …
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0.0006
0.0008
0.0010
0.0012
0.0014
0.0016
65 70 75 80 85 90 95 00 05
0.0006
0.0008
0.0010
0.0012
0.0014
0.0016
Ratio of Petroleum Consumed to Nominal GDPRatio of Petroleum Consumed to Nominal GDP
Sources: US Department of Commerce and Haver Analytics.
Energy’s role is shrinking …
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0.3
0.4
0.5
0.6
0.7
1947 1957 1967 1977 1987 1997
0.3
0.4
0.5
0.6
0.7Note: Services Excluding Energy, Business Outlays for Computers and
Software, and Government Outlays for Consumption and Services.
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… partly because GDP is getting lighter
Services Share of US GDPServices Share of US GDP
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0.32
0.34
0.36
0.38
0.40
1970 1980 1990 2000 2010 2020
0.30
0.32
0.34
0.36
0.38
0.40
Falling Relative Prices Would
Encourage More Consumption
Lighter GDP is Curbing the Amount of Electricity to Produce
GDP
58
Efficiency of electricity usageRatio of Electricity Demand (Millions of Megawatthours) to Real GDPRatio of Electricity Demand (Millions of Megawatthours) to Real GDP
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1.25
1.50
47 52 57 62 67 72 77 82 87 92 97 02
0.50
0.75
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1.25
1.50
Deregulation Driving Down the Cost of Power
Generation
East Asia's Development Driving
Up the Cost of Carbon Fuels
59
How much more from deregulation?
Ratio of CPI Electricity to Total CPI (August 2004 = 1.0)Ratio of CPI Electricity to Total CPI (August 2004 = 1.0)
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Coal48%
Petroleum2%
Natural Gas and Other Gasses
17%
Nuclear19%
Hydroelectric6%
Renew able8%
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Carbon dependency makes it our issue
Fuel Used to Generate Electricity (Percent of Total)Fuel Used to Generate Electricity (Percent of Total)
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Lessons from the Club of Rome …
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Failed doomsday predictions …
Proven oil reserves of 550 billion barrels in 1970 would be exhausted by 1990
Natural gas supplies would be gone by 2010
Food supplies would need to triple by the turn of the century to feed 6 billion population
Global supplies of silver, tin, uranium, aluminum, copper, and lead would be exhausted
Oil prices would reach $100/barrel
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… forgot about economics
On the supply side On the demand sideYearsof Oil
Supply
At China’s consumption rate 26
At US consumption rate51
At Europe’s consumption rate 61
At Japan’s consumption rate 85
Identified Petroleum ReservesBillions of Barrels
Global 922
Saudi Arabia 255Iraq 99Kuwait 96Russia 80Iran 63United Arab Emirates 56United States 49Venezuela 44Mexico 27China 22Libya 22
63
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Oil’s price tells me …
… There’s still too much oil for alternatives to make economic sense
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Copyright 2005 J.P. Morgan Chase & Co. All rights reserved. JPMorgan is the marketing name for J.P. Morgan Chase & Co., and its subsidiaries and affiliates worldwide. J.P. Morgan Securities Inc. is a member of NYSE and SIPC. JPMorgan Chase Bank is a member of FDIC. J.P. Morgan Futures Inc., is a member of the NFA. J.P. Morgan Securities Ltd. (JPMSL), J.P. Morgan Europe Limited and J.P. Morgan plc are authorized by the FSA. J.P. Morgan Equities Limited is a member of the Johannesburg Securities Exchange and is regulated by the FSB. J.P. Morgan Securities (Asia Pacific) Limited (CE number AAJ321) is regulated by the Hong Kong Monetary Authority. J.P. Morgan Securities Singapore Private Limited is a member of Singapore Exchange Securities Trading Limited and is regulated by the Monetary Authority of Singapore (“MAS”). J.P. Morgan Securities Asia Private Limited is regulated by the MAS and the Financial Services Agency in Japan. J.P.Morgan Australia Limited (ABN 52 002 888 011) is a licensed securities dealer.
Additional information is available upon request. Information herein is believed to be reliable but JPMorgan does not warrant its completeness or accuracy. Opinions and estimates constitute our judgment and are subject to change without notice. Past performance is not indicative of future results. The investments and strategies discussed here may not be suitable for all investors; if you have any doubts you should consult your investment advisor. The investments discussed may fluctuate in price or value. Changes in rates of exchange may have an adverse effect on the value of investments. This material is not intended as an offer or solicitation for the purchase or sale of any financial instrument. JPMorgan and/or its affiliates and employees may hold a position, may undertake or have already undertaken an own account transaction or act as market maker in the financial instruments of any issuer discussed herein or any related financial instruments, or act as underwriter, placement agent, advisor or lender to such issuer. Clients should contact analysts at and execute transactions through a JPMorgan entity in their home jurisdiction unless governing law permits otherwise. This report should not be distributed to others or replicated in any form without prior consent of JPMorgan. This report has been issued, in the U.K. only to persons of a kind described in Article 19 (5), 38, 47 and 49 of the Financial Services and Markets Act 2000 (Financial Promotion) Order 2001 (all such persons being referred to as “relevant persons”). This document must not be acted on or relied on by persons who are not relevant persons. Any investment or investment activity to which this document relates is only available to relevant persons and will be engaged in only with relevant persons. In other European Economic Area countries, the report has been issued to persons regarded as professional investors (or equivalent) in their home jurisdiction.
JPMorgan uses the following recommendation system: Overweight. Over the next six to twelve months, we expect this bond to outperform the average total return of the bonds in the analyst’s (or analyst’s team’s) coverage universe. Neutral. Over the next six to twelve months, we expect this bond to perform in line with the average total return of the bonds in the analyst’s (or analyst’s team’s) coverage universe. Underweight. Over the next six to twelve months, we expect this bond to underperform the average total return of the bonds in the analyst’s (or analyst’s team’s) coverage universe.
JPMorgan uses the following rating system: Improving (I) The issuer’s long-term credit rating likely improves over the next six to twelve months. Stable (S) The issuer’s long-term credit rating likely remains the same over the next six to twelve months. Deteriorating (D) The issuer’s long-term credit rating likely falls over the next six to twelve months. Deteriorating+ (D+) The issuer’s long-term credit rating likely falls to junk over the next six to twelve months. Defaulting (F) There is some likelihood that the issuer defaults over the next six to twelve months.
This report should not be distributed to others or replicated without prior consent of JPMorgan.65
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The analyst(s) denoted by an "AC" certifies that: (1) all of the views expressed in this research accurately reflect his or her personal views about any and all of the subject securities or issuers; and (2) no part of any of the analyst's compensation was, is, or will be directly or indirectly related to the specific recommendations or views expressed by the analyst(s) in this research.