Lower For Longer Oil Market Update

See Appendix A-1 for Analyst Certification, Important Disclosures and non-US research analyst disclosures

Citi Research is a division of Citigroup Global Markets Inc. (the "Firm"), which does and seeks to do business with companies covered in its research reports. As a result, investors should be

aware that the Firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision.

Certain products (not inconsistent with the author’s published research) are available only on Citi's portals.

This presentation was approved for distribution on 12 October 2015; the disclosures in Appendix A1 are current as of the same date.

Commodities Strategy | November 2015

Seth Kleinman

Managing Director

seth.kleinman@citi.com

+44 (0) 207 986 4556

Pedro Medeiros

Director

pedro.medeiros@citi.com

+55 21 3282 9960

Agenda

Four key themes

1

● (1) Saudi pulling back production because crude has nowhere to go

● (2) Are low oil prices really positive for medium-term demand growth?

● (3) North America shale vs. Deepwater vs. OPEC supply in the medium-term

● (4) Asia is the only market short left – But, there are potential impacts from other sources

Current State of Play: Global Oversupplies are Heading into Storage

1Q’15 saw crude stocks blow-out before strong refinery runs started to shift the oil surplus downstream. Crude

and petroleum product stocks are now both at elevated levels and weekly observed oil inventories are showing

little sign of coming down from record levels.

Source: Chinese Customs, EIA, Euroil, PAJ, KNOC, PJK, International Enterprise, Citi Research 2

OECD and China crude

stocks (bln bbls)

OECD and China petroleum

product stocks (bln bbls)

OECD and China oil stock

changes (m b/d)

Weekly observed oil stocks

(bln bbls)

Weekly observed crude and

product stocks (bln bbls)

Weekly observed ex-US oil

stocks (bln bbls)

1.07

1.12

1.17

1.22

1.27

1.32

1.37

Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec

2012 2013 2014 2015

1.45

1.50

1.55

1.60

1.65

1.70

1.75

Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec

2012 2013 2014 2015

-2.5

-2.0

-1.5

-1.0

-0.5

0.0

0.5

1.0

1.5

2.0

2.5

Jan-12 Jul-12 Jan-13 Jul-13 Jan-14 Jul-14 Jan-15 Jul-15

Crude build (m b/d) Product build (m b/d)

Oil build (m b/d)

1.25

1.30

1.35

1.40

1.45

1.50

1.55

1.60

1.65

1.70

Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec

2012 2013 2014 2015

0.45

0.47

0.49

0.51

0.53

0.55

0.57

0.59

0.61

0.63

0.65

0.75

0.80

0.85

0.90

0.95

1.00

1.05

Jan-13 Jun-13 Nov-13 Apr-14 Sep-14 Feb-15 Jul-15

ProductsCrude - RHS

0.25

0.26

0.27

0.28

0.29

0.30

0.31

0.32

0.33

0.34

0.35

Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec

2012 2013 2014 2015

1.07

1.12

1.17

1.22

1.27

1.32

1.37

Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec

2012 2013 2014 2015

1.45

1.50

1.55

1.60

1.65

1.70

1.75

Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec

2012 2013 2014 2015

-2.5

-2.0

-1.5

-1.0

-0.5

0.0

0.5

1.0

1.5

2.0

2.5

Jan-12 Jul-12 Jan-13 Jul-13 Jan-14 Jul-14 Jan-15 Jul-15

Crude build (m b/d) Product build (m b/d)

Oil build (m b/d)

1.25

1.30

1.35

1.40

1.45

1.50

1.55

1.60

1.65

1.70

Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec

2012 2013 2014 2015

0.45

0.47

0.49

0.51

0.53

0.55

0.57

0.59

0.61

0.63

0.65

0.75

0.80

0.85

0.90

0.95

1.00

1.05

Jan-13 Jun-13 Nov-13 Apr-14 Sep-14 Feb-15 Jul-15

ProductsCrude - RHS

0.25

0.26

0.27

0.28

0.29

0.30

0.31

0.32

0.33

0.34

0.35

Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec

2012 2013 2014 2015

Source: JODI, Saudi Aramco, Cargo Tracking, Citi Research

3

OPEC OSPs to Asia ($/bbl)

Saudi Crude Production (m b/d)

Saudi Pulling Back on Production As Crude Has Nowhere to Go

Saudi Crude Burn (m b/d)

Saudi Crude Stocks (m bbls)

-5

-4

-3

-2

-1

0

1

2

3

4

5

Aug-12 Jan-13 Jun-13 Nov-13 Apr-14 Sep-14 Feb-15 Jul-15

Arab Light (Saudi)Basrah Light (Iraq)Iran LightKuwait

0.0

0.1

0.2

0.3

0.4

0.5

0.6

0.7

0.8

0.9

1.0

Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec

2009 2010

2011 2012

2013 2014

2015

220

240

260

280

300

320

340

Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec

2011 2012 2013 2014 2015

8.0

8.5

9.0

9.5

10.0

10.5

11.0

Jan Feb Mar Apr May Jun Jul Aug Sep Oct

Implied Saudi Production (k b/d) JODI IEA

4

Global oil demand growth by selected counties

(monthly, m b/d)

US, India, and China accounted for the lion’s share of

global oil demand growth (2014-15, m b/d)

Source: Energy Ministry Data, Citi Research Estimates

Demand Growth So Far Has Not Been Enough to Tighten Global Markets

● Oil demand posted gains of 1.8-m b/d y/y growth in

1H’15 with Citi expecting 1.6-m b/d of y/y growth in

2H’15.

● Yet the composition of oil demand growth shows a

two-speed response to lower prices. Big net oil

importers such as the US, China and India account for

the bulk of the gains while the rest are witnessing

mediocre growth.

● And the impact of the oil price drop was a 2015

story, with 2016 prices seen to be flattish y/y. While

there could be lagged impacts of the 2015 oil price

drop stretching into 2016 oil demand, much of the new

demand growth looks like it would need to come from

rising economic activity. This is given that Citi sees

Brent average annual prices at $54 in 2015 and $53 in

2016.

● Given Citi’s bearish macro view, with the potential

of China dragging other EMs and the world into a

recession, this bodes bearish for 2016 oil demand.

-1.0

-0.5

0.0

0.5

1.0

1.5

2.0

2.5

Jan-14 Apr-14 Jul-14 Oct-14 Jan-15 Apr-15 Jul-15

US, India, China The Rest

-1.5

-1.0

-0.5

0.0

0.5

1.0

1.5

2.0

2.5

3.0

3.5

Jan-14 Mar-14 May-14 Jul-14 Sep-14 Nov-14 Jan-15 Mar-15 May-15 Jul-15

Russia

Argentina

Mexico

Brazil

Thailand

China

India

German RoadFuelsSpain

Italy

UK

France Road Fuels

Australia

South Korea

5

Despite strong product demand, crude demand has

been even stronger (m b/d)

Product stocks at Singapore and ARA trading hubs have

blown out (m bbls) Northwest Europe cracking margins have softened

($/bbl)

Source: IEA, EIA, PAJ, PJK, International Enterprise, EUROIL, Citi Research

Crude Demand has been Outpacing Product Demand

● The 1Q’15 bumper 1.8-m b/d y/y growth in products

demand outpaced run rate growth prompting much

stronger margins which were then buoyed by

summer gasoline dynamics.

● This has prompted refiners globally to ramp-up

runs, with crude runs expected to be 2-m b/d higher

y/y. This is now materializing in downstream stockbuilds,

as one-off demand factors in 1Q’15 fade and the

demand outlook is tempered.

● Product stocks should keep building therefore,

compressing margins, which could be set-up for

lower-than-expected run rates come 1H’16. 0.0

0.5

1.0

1.5

2.0

2.5

3.0

1Q15 2Q15 3Q15 4Q15

Petroleum Products Demand Crude Runs

Product Stockbuild

60

65

70

75

80

85

90

95

100

105

Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec

2011 2012 2013 2014 2015

(1) Falling energy prices weigh heavily on exporter revenues. . .

● OPEC revenues have suffered substantially as energy price declines have outpaced increased

output. The effects are seen most clearly in the collapse of government revenues.

● Saudi Arabia, Venezuela, other oil exporters lose the most, while energy importers (i.e. India,

Japan) gain.

6

Sources: EIA, Bloomberg, Citi Research

Oil Exporter Revenues Saudi Arabia Government Revenue

-70

-50

-30

-10

10

30

50

70

0

200

400

600

800

1000

1200

1400

2000 2002 2004 2006 2008 2010 2012 2014

% Y

oY

Gro

wth

Riy

al

Bil

lio

ns

Revenue % YoY

0

200

400

600

800

1000

1975 1980 1985 1990 1995 2000 2005 2010 2015

US

D B

illi

on

OPEC nominal OPEC real

Source: UNCTAD

7

Commodity exports as a percentage of the gross

domestic product by region

Emerging Market Growth Has Relied Heavily on Commodity Exports

Sixty-three developing economies were considered "extremely commodity dependent" with commodities

accounting for more than 80 percent of export earnings in 2012/13. During the boom years, the value of

commodity exports from developing countries jumped from $2.0 trillion in 2009/10 to $3.2 trillion in 2012/13

-50

0

50

100

150

200

250

2008 2009 2010 2011 2012 2013 2014 2015

India Saudi Arabia

Saudi Arabian Oil Demand Growth Has Outperformed

India’s, even with a lower base (m b/d)

● World trade has lagged GDP, signalling a potential cyclical factor (China growth slowing) or a

structural one (the shifting of the global supply value chain).

● EM terms of trade have worsened, compounding current deficits and restricting central bank

capabilities to stimulate growth (see Brazil, Argentina, Russia).

(2) Slowing Chinese economy and diminishing trade share

8

0%

5%

10%

15%

20%

25%

30%

1981-1985 1991-1995 2001-2005 2011-2014

% Y

oY

World Export Growth World GDP Growth

Sources: Bloomberg, Citi Research

-20.00%

-10.00%

0.00%

10.00%

20.00%

30.00%

40.00%

Jan-11 Jun-11 Nov-11 Apr-12 Sep-12 Feb-13 Jul-13 Dec-13 May-14 Oct-14 Mar-15

% y

oy

6m

ma

Exports Imports

China Total Trade Volume World Trade Volume versus GDP Growth

EMFX is often positively correlated with oil*, including BRL, RUB

9 Source: Bloomberg, Citi Research, *weekly changes in EMFX and oil price; exports are annualized

RUB

COP

MXNMYR

HUFCZK PLN

SGDCNY

TWD

BRL

ILSIDR

TRYKRW CLPTHB

ZARPEN

INR

-40%

-30%

-20%

-10%

0%

10%

20%

30%

40%

50%

-0.2 -0.1 0 0.1 0.2 0.3 0.4 0.5 0.6 0.7

Net oil exports /

Total exports

FX-Oil correlation

Foreign flows have been waning, as has credit expansion

● Foreign investment has steadily declined in line with commodities, as markets focus on China

theme and evidence of EM’s “broken growth model”.

● Credit, while still robust, is waning alongside debt and FDI and losing its influence as a growth

multiplier.

● Worsening terms of trade, especially in Latin America is a significant concern

10

EM Private Credit Flow

Sources: IIF, Bloomberg, Citi Research

* 30 Nations as defined by IIF

Foreign Capital Flows into EM*

-2.5

-2

-1.5

-1

-0.5

0

0.5

1

0

20

40

60

80

100

120

140

160

180

200

2009 2010 2011 2012 2013 2014 2015

% Y

oY

Gro

wth

US

D B

illio

n /

Yea

r

EM-30 Total Net Credit Flow EM-30 % YoY Net Credit Flow

-200

-100

0

100

200

300

400

500

2010Q1 2010Q3 2011Q1 2011Q3 2012Q1 2012Q3 2013Q1 2013Q3 2014Q1 2014Q3 2015Q1

Bil

lio

n U

SD

Inward FDI Inward Portfolio Equity Inward Portfolio Debt Inward - Other

How Low Could Demand Go (in a Sub-2% GDP Growth World)?

If a China-led global recession were to manifest next year, our estimates indicate that demand growth in 2016

could be even weaker than the disappointing growth seen in 2014 (and 2017 could be weaker still). Declines in

growth would be led be non-OECD Asia, Latin America and Russia.

Source: Citi Research * at market exchange rates 11

● Citi’s chief economist recently outlined a case for a China-led

global recession: China GDP growth declines to roughly 5%

(official forecast) in 2H’16 and stays low for a year before recovering

into 2018. Global growth slows to sub-2%* in this case.

● We estimate that such an event could reduce non-OECD oil

demand growth by ~0.6-m b/d in 2016 and ~1-m b/d in 2017

versus demand growth under base case GDP forecasts. Non-

OECD Asia would see the sharpest impacts. OECD demand growth

could be reduced by ~0.2-m b/d in both 2016 and 2017.

Estimated difference between base case oil

demand growth (m b/d) and growth in a sub-

2% GDP growth (China-led recession) world

2016 2017

OECD -0.19 -0.18

OECD Americas -0.11 -0.12

United States -0.07 -0.05

Canada -0.01 -0.03

Mexico/Chile -0.03 -0.05

OECD Europe -0.03 -0.03

OECD Asia -0.04 -0.03

Japan -0.02 0.00

South Korea -0.02 -0.03

Australia/New Zealand 0.00 0.00

Non-OECD -0.61 -1.02

Non-OECD Asia -0.18 -0.48

China -0.06 -0.19

India -0.06 -0.11

Other Non-OECD Asia -0.06 -0.18

Middle East -0.11 -0.15

Latin America -0.08 -0.14

FSU -0.19 -0.20

Africa -0.05 -0.06

Non-OECD Europe 0.00 0.00

-6.0

-4.0

-2.0

0.0

2.0

4.0

6.0

8.0

10.0

Bas

e C

ase

Glo

bal r

eces

sion

Bas

e C

ase

Glo

bal r

eces

sion

Bas

e C

ase

Glo

bal r

eces

sion

Bas

e C

ase

Glo

bal r

eces

sion

Bas

e C

ase

Glo

bal r

eces

sion

Bas

e C

ase

Glo

bal r

eces

sion

Bas

e C

ase

Glo

bal r

eces

sion

Bas

e C

ase

Glo

bal r

eces

sion

Bas

e C

ase

Glo

bal r

eces

sion

Bas

e C

ase

Glo

bal r

eces

sion

UnitedStates

Japan Euro Area UnitedKingdom

China India Indonesia Korea Russia Brazil

2016 2017

GDP growth in key countries/regions in base case and

global recession case (%)

Supply side: Shale the First to Slip but OPEC and ex-NAM Continue Apace

All buckets of supply continue to grow; in July US crude was up 0.5-m b/d Y/Y, non-OPEC non-shale was up

0.6-m b/d Y/Y whilst OPEC crude was up 1.3-m b/d Y/Y. US shale production is showing early signs of slowing,

as is US stripper well output but this is heavily price dependent and more than offset by OPEC’s surge.

Source: IEA, EIA, Citi Research 12

Output from the three main buckets of supply

continues to grow strongly y/y (m b/d) US crude is showing signs of rolling-

over at lower oil prices ($/bbl)

-1.5

-1.0

-0.5

0.0

0.5

1.0

1.5

2.0

2.5

3.0

Jan-11 Aug-11 Mar-12 Oct-12 May-13 Dec-13 Jul-14 Feb-15

Non-OPEC ex-US Crude US Crude OPEC Crude

4.00

4.20

4.40

4.60

4.80

5.00

5.20

5.40

5.60

5.80

8.0

8.2

8.4

8.6

8.8

9.0

9.2

9.4

9.6

9.8

Jan-14 Mar-14 May-14 Jul-14 Sep-14 Nov-14 Jan-15 Mar-15 May-15 Jul-15 Sep-15 Nov-15

STEO Weekly 4WMA PSM DPR - RHS

Easy access to capital was the essential “fuel” of the shale revolution – many shale producers depend on

capital market injections to fund ongoing activity. Without last year’s price collapse, the industry was expected

to become cash flow neutral in 2014 and positive in 2015. But the “funding gap” worsened with oil’s collapse.

Source: IHS, Citi Research 13

Free cash flow for the top 50 US producers has been consistently negative and is getting worse in 2015,

creating a “funding gap”

2010 2011 2012 2013 2014

Oil & gas revenue 150,266$ 181,162$ 180,342$ 198,731$ 217,417$

Lifting costs 39,706 50,552 56,357 59,782 63,912

Exploration expenses 4,786 5,558 6,791 7,561 9,320

DD&A (incl. writedowns/impairment) 43,957 50,680 80,182 72,681 95,386

Other expenses/(income) 2,970 3,653 (154) 5,928 4,612

Pre-tax profit 58,847$ 70,720$ 37,167$ 52,780$ 44,188$

Income tax/(benefit) 20,739$ 24,277$ 12,212$ 18,439$ 15,428$

Net income 38,108$ 46,443$ 24,955$ 34,340$ 28,760$

Operating Cash Flow 87,416$ 103,517$ 112,553$ 115,205$ 134,131$

Free cash flow (operating cash flow less F&D capex) (44,156) (30,435) (46,538) (24,492) (37,083)

• Capital markets are a decisive factor impacting drilling activity, supply, and global prices

going forward. Citi has argued that North American shale is a key source of marginal supply with

significant influence on global prices. Markets have closely watched rig counts as a leading indicator

of shale supply. But capital markets are ultimately a longer-term leading indicator of eventual rig

counts.

• Citi envisions capital markets shaping oil markets in two important ways over the near term

and medium term: 1) near term, as producers face lower prices and stressed balance sheets,

capital markets might determine who lives, who dies, and who gets burned in an asset fire-sale; 2)

medium term, the capital markets will shape the inevitable restructuring of the sector around high

quality assets and stronger producers.

Capital Market Access Plays Central Role in Shale Rebalancing

14

Citi expects US production could drop 500-kb/d by year end. Analyzing public producers shows that mostly

smaller producers are outspending cash flow (top chart). Smaller producers also tend to have worse free cash

flow (bottom chart). Most producers with negative free cash flow are producing less than 200-kb/d liquids.

Capex to operating cash flow vs. hydrocarbon production* **

Source: Woodmac, Citi Research, *Note: CAPEX is upstream capex and does not include exploration capex or land acquisitions. **Operating Cash flow is estimated

operating cash flow less taxes, royalties, and capex (as previously defined)., *** Free cash flow shown is estimated as operating cash flow less royalties less taxes less

CAPEX.

Free cash flows vs. hydrocarbon production* ***

-3

-2

-1

0

1

2

3

4

5

6

7

8

0 200 400 600 800 1000 1200Cap

Ex/O

pe

rati

ng

Cas

h F

low

2014 Production (kboe/day, liquids & gas)

Total Producer Universe: 135 firms ; Total Production: 15.3 MM boe/day (liquids & gas)

-2000

-1000

0

1000

2000

3000

4000

0 200 400 600 800 1000 1200Fre

e C

ash

Flo

w (

$M

M)

Production (kboe/day, liquids & gas )

Total Producer Universe: 135 firms; Total Production: 15.3 MM boe/day (liquids & gas)

Liquidity Squeezes Could Mean Shakeout of Smaller, Weaker Producers

8.6

8.8

9.0

9.2

9.4

9.6

9.8

10.0

10.2

10.4

10.6

10.8

11.0

Oct

-14

Dec

-14

Feb

-15

Apr

-15

Jun-

15

Aug

-15

Oct

-15

Dec

-15

Feb

-16

Apr

-16

Jun-

16

Aug

-16

Oct

-16

Dec

-16

Feb

-17

Apr

-17

Jun-

17

Aug

-17

Oct

-17

Dec

-17

Case 1 Case 2 Case 3 Case 4

But How Quickly Can Shale Rebound If and When Prices Recover?

In our base case, oil inventories could balance in 4Q’16 and begin to draw down as demand growth joins non-

OPEC non-shale supply declines to tighten markets; prices could rise – how quickly might shale respond?

Source: EIA, Citi Research * see previous slide for rig count scenarios 15

2016 oil production growth already positive for rig

outlook* (Case 3 is base case, m b/d)

● As markets balance end-2016 and prices pick up, how

quickly and strongly might US production respond?

Productivity gains are already setting up greater production

growth in 2017; working down the fracklog of drilled but

uncompleted wells (DUCs) could add up to an extra 0.4-m b/d

within months (~0.2-m b/d averaged over years 1-2); and higher

prices/returns can set up improved financing conditions for

higher capex and rig counts 2017 onwards.

● Crude production might be declining now, but it is already

on track to plateau in 2016, and then grow again into 2017.

The base case for US crude oil production is for rigs to drop

another 100 by end-2015, holding flat thereafter; this would see

US crude output down 0.4-m b/d y/y to ~9-m b/d in 2016, but

even with no additional rigs, production would be set to rise in

2017 again, up 0.3-m b/d y/y, and could end 2017 at over 9.4-m

b/d (with another ~0.4-m b/d of stripper well production lost

between now and 2016); if stripper wells decline even more

sharply, this could offset shale gains further.

● Working down the fracklog of DUCs could add 0.1-0.2-m

b/d of additional production within several months. The

number of DUCs could stand at as much as 4,700, with 2,200 in

oil; but this is counting all “inactive” wells 2013-15YTD; taking

out possible “dry” holes mean this could be 600-1,100 oil DUCs.

● This could mean shale output stays robust even as

markets rebalance in 2017, keeping a cap on upward

surges in prices even through 2016 in our base case.

Working down ~900 oil DUCs could add ~0.2-m b/d in

year 1, but monthly peak could be up to ~0.4-m b/d

Shale’s Next Chapter: Higher Cost of Capital vs. Improving Efficiencies

Source: Citi E&P Research, Company Reports, EIA, Citi Research

Energy Loan Issuance ($ mln)

16

Citi’s HY Energy Index has declined since June, with

YTW on the index spiking relative to other HY sectors

Eagle Ford productivity gains YoY Permian productivity gains YoY

0

1000

2000

3000

4000

5000

6000

1-J

an

-09

1-M

ar-

09

1-M

ay-0

9

1-J

ul-

09

1-S

ep

-09

1-N

ov-0

9

1-J

an

-10

1-M

ar-

10

1-M

ay-1

0

1-J

ul-

10

1-S

ep

-10

1-N

ov-1

0

1-J

an

-11

1-M

ar-

11

1-M

ay-1

1

1-J

ul-

11

1-S

ep

-11

1-N

ov-1

1

1-J

an

-12

1-M

ar-

12

1-M

ay-1

2

1-J

ul-

12

1-S

ep

-12

1-N

ov-1

2

1-J

an

-13

1-M

ar-

13

1-M

ay-1

3

1-J

ul-

13

1-S

ep

-13

1-N

ov-1

3

1-J

an

-14

1-M

ar-

14

1-M

ay-1

4

1-J

ul-

14

1-S

ep

-14

1-N

ov-1

4

1-J

an

-15

1-M

ar-

15

1-M

ay-1

5

1-J

ul-15

Energy loan Issuance ($mn)

4

5

6

7

8

9

10

11

Yie

ld t

o W

ors

t

All HY Index

Energy HY

-60%

-40%

-20%

0%

20%

40%

60%

80%

No

v-0

9

Ma

r-1

0

Ju

l-1

0

No

v-1

0

Ma

r-1

1

Ju

l-1

1

No

v-1

1

Ma

r-1

2

Ju

l-1

2

No

v-1

2

Ma

r-1

3

Ju

l-1

3

No

v-1

3

Ma

r-1

4

Ju

l-1

4

No

v-1

4

Ma

r-1

5

Ju

l-1

5

Oil

Gas

-50%

0%

50%

100%

150%

200%

De

c-0

8

Ma

y-0

9

Oct-

09

Ma

r-1

0

Aug-1

0

Jan-1

1

Jun-1

1

No

v-1

1

Apr-

12

Sep-1

2

Feb

-13

Jul-1

3

De

c-1

3

Ma

y-1

4

Oct-

14

Ma

r-1

5

Aug-1

5

Oil

Gas

In deepwater, lower day rates and both capex and opex deflation improve economics, but companies are still

hesitant to pursue projects near the top of the cost curve. Cost declines could take several years to fully pass

through due to contract cycles and technical project complexity. Offshore breakeven costs might drop ~20%.

Source: Citi Oilfield Services team, ODS, company reports, Citi Research

17

Marginal deepwater floater rig day rates are down 50%

from 2014 highs, with potential additional 25% deflation

Offshore costs are continuing to deflate – How low can they go?

0

100

200

300

400

500

600

700

800

Jan-

04

Sep

-04

May

-05

Jan-

06

Sep

-06

May

-07

Jan-

08

Sep

-08

May

-09

Jan-

10

Sep

-10

May

-11

Jan-

12

Sep

-12

May

-13

Jan-

14

Sep

-14

May

-15

Jan-

16

Sep

-16

May

-17

Th

ou

san

d $

/ d

ay

Potential 25% further

deflation as utilization

could drop rates

another 8%

?

Deepwater F&D cost deflation expected

Capex Type Weight Deflation

Impact

on Cost

Finding Costs

Drilling Rig 30-35% -25% additional? -7.5 to 9%

Well Services 40-45% -10% -4 to 4.5%

Other (seismic, overheads, etc) 20-30%

Total -15 to 20%

Development Costs

Drilling rig 18% -30% -5%

Well services 20% -10% -2%

Facilities 29% -15% -4%

Subsea production hardware 10% -25% -3%

SURF and Pipelines 23% -20% -5%

Total 100% -19%

50%

60%

70%

80%

90%

100%

'98 '99 '00 '01 '02 '03 '04 '05 '06 '07 '08 '09 '10 '11 '12 '13 '14 '15E'16E'17E

Utilization, %

Floating drilling rigs Construction vessels Seismic vessels Pressure pumping

Deepwater May Compete with Shale On Price, but…

18

The lower oil price range resulting from the emergence of shale supply has led to careful scrutiny of future

deepwater projects. Despite declining costs and service sector utilization, competition with shale could become

more intense. Cost deflation in shale is expected to be faster.

Service sector utilization has plummeted

shale investment profile more favorable than deepwater

Source: Company reports, ODS, Citi Research

● Deepwater cost compression should continue as utilization along

the supply chain remains under pressure.

● Complexity of deepwater projects may make cost compression

less responsive globally than for the shale sector. With the,

emergence of shale and the drop in oil prices to the $60 level, some

30% of deepwater projects now may not be sanctioned but Mexico’s

opening could boost deepwater in both US and Mexican GoM.

● As shale remains more attractive than deepwater (below right), it

would take a larger share of overall investment flows and a larger share

of output.

Factor Shale Deepwater

Investment Dynamics

FID every ~20 days; scales up and down

quickly

Large, lumpy investment schedule;

scales up/down slowly

Cost Deflation

Potential up to 25% up to 20%

Cost Deflation Timing quick- majority of gains in 12mo slow - multiple years

Cost Deflation Pass-

through

high- US production taxes pass benefit to

oil company

variable- in multiple geographies

production sharing contracts pass benefit

to governments

Environmental Risk low- largely localized at well site large- e.g. Macondo

Execution Risk

low - shale manufacturing plus portfolio

effect

high - frequent delays and overruns in

sanctioning and fabrication

Depletion Rate high- ~60% in year 2, ~30% base modest- 0 in first few years, ~20 base

Maintenance easy - install pump, refrac, etc. difficult - expensive to access

Deepwater capex by company type

Meanwhile, OPEC Supply is Going Up Faster Than Shale is Going Down

Source: IEA, Baker Hughes, EIG, Citi Research

Saudi and GCC rig counts have been rising as the

US rig count has collapsed

Total Iraqi crude exports were over 1-m b/d higher y/y in

June, reaching a record 3.6-m b/d

19

● Since last November’s OPEC meeting, the message has

been clear from Saudi Arabia and its GCC allies in that

they are pursuing their own strategy of revenue

maximization. Rig counts are climbing and crude production is

up 0.9-m b/d since Nov-14 from the Saudi Arabia, UAE, Kuwait

and the Neutral Zone.

● OPEC crude output hit 31.8-m b/d in July, well above its

30-m b/d “quota”. In addition to GGC growth, Iraqi output is

being bolstered by Basrah and Northern export growth, with

October Basrah loadings set for 3.7-m b/d, a massive 1.2-m

b/d y/y increase.

● With Iranian barrels now very likely to hit the market in

1Q’16, OPEC crude growth should continue to dominate

shale declines, for now at least.

OPEC Crude Production (m b/d)

0

10

20

30

40

50

60

70

80

90

Jan-11 Aug-11 Mar-12 Oct-12 May-13 Dec-13 Jul-14 Feb-15

UAE Oil UAE Gas Kuwait Oil

Kuwait Gas Saudi Oil Saudi Gas

28.0

28.5

29.0

29.5

30.0

30.5

31.0

31.5

32.0

32.5

33.0

Jan-05 May-06 Sep-07 Jan-09 May-10 Sep-11 Jan-13 May-14

1.8

2.0

2.2

2.4

2.6

2.8

3.0

3.2

3.4

3.6

3.8

Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec

Tho

usan

ds 2013 2014 2015 2016

20

Iranian crude and NGL production (m b/d)

Russia overtook Saudi as China’s biggest crude supplier

in May (m b/d)

Source: IEA, Chinese Customs, BP, Citi Research

Will Iran Re-enter Oil Markets with a Bang or a Whimper?

● Returning Iranian production looks very likely now given

recent activity in Congress, and in any case, President

Obama has enough Democratic votes to uphold a

Presidential veto. Crude exports could increase by 300-500-k

b/d by end-2016 with perhaps an unsustainable 500-700-k b/d

spike at the start.

● Yet placing this crude may prove difficult, more so in Asia

than Europe. Asian buyers are suffering from an

embarrassment of riches as Middle Eastern, Russian, African

and LatAm sellers compete for the one oil short region left in

the world. 500-k b/d of former imports of Iranian crude to

Europe could return post sanctions given historical ties with

refiners in the region. With several European majors also

looking at entering Iranian upstream, this could well be another

motivating factor behind it.

0

0.1

0.2

0.3

0.4

0.5

0.6

0.7

0.8

2.5

2.7

2.9

3.1

3.3

3.5

3.7

3.9

4.1

4.3

2000 2001 2002 2004 2005 2007 2008 2009 2011 2012 2014

Crude Oil Natural Gas Liquids - RHS

0.0

0.2

0.4

0.6

0.8

1.0

1.2

1.4

1.6

2011 2011 2011 2012 2012 2013 2013 2013 2014 2014 2015 2015

Saudi Arabia Russia Iran

Source: Company Reports, Baker Hughes, Citi Research

21

Global big oil capex cuts have hit brownfield hard

($/bn)

International usage of US rigs is dropping

Brownfield Capex Cuts Are Not Having Any Clear Effect – Yet…

0

200

400

600

800

1000

1200

Jan-13 May-13 Sep-13 Jan-14 May-14 Sep-14 Jan-15 May-15

Middle East Latin America Asia Pacific Europe Africa

For oil majors, brownfield has borne the brunt of sizeable capex cuts and is expected to drop by 15% y/y in

2015. This means less spending on field maintenance, water injections, infilling drilling and other techniques

that stem field declines. This takes time to feed through, but should take effect by 2016.

Source: Company reports, Citi Research

Shale: The Tail Wagging The Dog?

22

Marginal full-cycle breakeven costs for projects expected by 2020 ($/boe)

Source: WoodMackenzie, EIG, Company Reports, IEA, Citi Research *excluding unconventional North American Projects

23

Big oil projects have slowed in 2015 (US $bn, gross capex)

Upside on the Back of the Curve Hindering Sanction of Expensive Projects

Current prices may not support adequate long-term supply growth from more expensive projects, and

companies are reining in investment. One euro major saying currently looking for projects that breakeven below

$50/bbl, other reporting projects to be sanction only below “$60/bbl mark”. However, costs are still falling.

Brent and WTI deferred prices point to ~$60 ($/bbl,

futures curves at Sept 21, 2015))

But many IOC projects break even above $60 (IOC

project cost curve to 2020)

40

45

50

55

60

65

70

Oct

-15

Jan

-16

Ap

r-1

6

Jul-

16

Oct

-16

Jan

-17

Ap

r-1

7

Jul-

17

Oct

-17

Jan

-18

Ap

r-1

8

Jul-

18

Oct

-18

Jan

-19

Ap

r-1

9

Jul-

19

Oct

-19

Jan

-20

Ap

r-2

0

Jul-

20

Oct

-20

Jan

-21

Brent WTI

Medium-Term Case 1: The World Can Live on Shale and OPEC Alone

Source: IEA, Citi Research

24

Demand 2013 2014 2015 2016 2017 2018 2019 2020 16' 17' 18' 19' 20'

OECD Demand 46.0 45.7 46.2 46.4 46.4 46.3 46.2 46.1 0.2 0.0 -0.1 -0.1 -0.1

Non-OECD Demand 45.9 47.1 48.2 49.2 50.2 51.2 52.2 53.2 1.0 1.0 1.0 1.0 1.0

Total Demand 91.9 92.7 94.5 95.7 96.6 97.5 98.4 99.3 1.2 0.9 0.9 0.9 0.9

Supply 2013 2014 2015 2016 2017 2018 2019 2020 16' 17' 18' 19' 20'

US 10.3 12.0 12.8 12.5 12.7 12.9 13.1 13.5 -0.2 0.2 0.2 0.2 0.4

Canada 4.0 4.3 4.3 4.4 4.5 4.6 4.7 4.7 0.0 0.1 0.1 0.1 0.0

Mexico 2.9 2.8 2.6 2.5 2.4 2.5 2.6 2.7 -0.1 -0.1 0.1 0.1 0.1

Brazil 2.1 2.4 2.6 2.7 2.8 2.9 3.1 3.2 0.1 0.1 0.1 0.2 0.1

North Sea 2.9 2.9 3.0 2.9 2.8 2.6 2.6 2.6 -0.1 -0.1 -0.2 0.0 0.0

Russia 10.8 10.9 11.0 11.1 11.0 10.9 10.9 10.8 0.0 -0.1 -0.1 0.0 -0.1

Other Non-OPEC 17.5 17.4 17.4 17.1 16.7 16.4 16.1 15.7 -0.3 -0.3 -0.3 -0.3 -0.3

Non-OPEC 50.4 52.6 53.8 53.2 52.9 52.8 53.1 53.2 -0.6 -0.3 -0.1 0.3 0.2

Iraq 3.1 3.3 3.9 4.2 4.4 4.5 4.6 4.7 0.2 0.2 0.1 0.1 0.1

Iran 2.7 2.8 2.9 3.3 3.4 3.5 3.5 3.6 0.4 0.1 0.1 0.0 0.1

Kuwait 2.8 2.8 2.8 2.9 3.0 3.0 3.1 3.2 0.1 0.1 0.0 0.1 0.1

Saudi 9.7 9.7 10.2 10.3 10.5 10.6 10.7 10.7 0.1 0.2 0.1 0.1 0.0

U.A.E 2.8 2.8 2.9 2.8 2.9 3.0 3.1 3.2 -0.1 0.1 0.1 0.1 0.1

OPEC Crude 30.5 30.3 31.2 31.8 32.5 32.9 33.3 33.7 0.6 0.7 0.4 0.4 0.4

OPEC Unconventional 0.2 0.3 0.3 0.3 0.3 0.3 0.3 0.3 0.0 0.0 0.0 0.0 0.0

OPEC NGLs 6.0 6.1 6.3 6.5 6.7 6.8 6.9 7.0 0.2 0.2 0.1 0.1 0.1

OPEC Oil 36.6 36.6 37.8 38.6 39.5 40.0 40.5 41.0 0.7 1.0 0.5 0.5 0.5

Processing Gains 2.2 2.2 2.2 2.3 2.3 2.3 2.4 2.4 0.1 0.0 0.0 0.1 0.0

Global Biofuels 2.0 2.2 2.3 2.4 2.4 2.5 2.5 2.5 0.0 0.0 0.1 0.0 0.0

Total Supply 91.3 93.7 96.1 96.4 97.2 97.6 98.5 99.2 0.3 0.7 0.5 0.9 0.7

Implied Stockbuild -0.7 0.9 1.7 0.8 0.6 0.1 0.1 -0.1 - - - - -

"Call on US Production" 11.1 11.0 11.1 11.8 12.1 12.8 13.0 13.6 0.7 0.4 0.6 0.2 0.6

1Q15 2Q15 3Q15 4Q15 1Q16 2Q16 3Q16 4Q16 2014 2015 2016 2017

Brent 55 64 50 44 44 50 55 60 100 53 52 65

WTI 49 58 45 39 39 46 51 55 93 48 48 60

Brent-WTI 6 6 5 5 5 4 4 5 7 6 5 5

Medium-Term Case 2: Shale is the Tail Wagging the Dog

Source: IEA, Citi Research

25

Demand 2013 2014 2015 2016 2017 2018 2019 2020 16' 17' 18' 19' 20'

OECD Demand 46.0 45.7 46.2 46.4 46.4 46.3 46.2 46.1 0.2 0.0 -0.1 -0.1 -0.1

Non-OECD Demand 45.9 47.1 48.2 49.2 50.2 51.2 52.2 53.2 1.0 1.0 1.0 1.0 1.0

Total Demand 91.9 92.7 94.5 95.7 96.6 97.5 98.4 99.3 1.2 0.9 0.9 0.9 0.9

Supply 2013 2014 2015 2016 2017 2018 2019 2020 16' 17' 18' 19' 20'

US 10.3 12.0 12.8 12.5 12.8 13.2 13.7 14.2 -0.2 0.3 0.4 0.5 0.5

Canada 4.0 4.3 4.3 4.4 4.5 4.6 4.6 4.6 0.0 0.1 0.1 0.0 0.0

Mexico 2.9 2.8 2.6 2.5 2.4 2.5 2.6 2.7 -0.1 -0.1 0.1 0.1 0.1

Brazil 2.1 2.4 2.6 2.7 2.8 2.9 2.9 3.0 0.1 0.1 0.1 0.0 0.1

North Sea 2.9 2.9 3.0 2.9 2.8 2.6 2.5 2.5 -0.1 -0.1 -0.2 -0.1 0.0

Russia 10.8 10.9 11.0 11.0 11.0 10.9 10.9 10.8 0.0 0.0 -0.1 0.0 -0.1

Other Non-OPEC 17.5 17.4 17.4 16.9 16.4 15.9 15.4 14.9 -0.5 -0.5 -0.5 -0.5 -0.5

Non-OPEC 50.4 52.6 53.8 52.9 52.7 52.6 52.6 52.7 -0.8 -0.3 -0.1 0.0 0.1

Iraq 3.1 3.3 3.9 4.1 4.3 4.4 4.4 4.5 0.2 0.2 0.1 0.0 0.1

Iran 2.7 2.8 2.9 3.3 3.4 3.4 3.4 3.4 0.4 0.1 0.0 0.0 0.0

Kuwait 2.8 2.8 2.8 2.9 3.0 3.0 3.0 3.0 0.1 0.1 0.0 0.0 0.0

Saudi 9.7 9.7 10.2 10.3 10.4 10.5 10.5 10.5 0.1 0.1 0.1 0.0 0.0

U.A.E 2.8 2.8 2.9 2.8 2.9 3.0 3.0 3.0 -0.1 0.1 0.1 0.0 0.0

OPEC Crude 30.5 30.3 31.2 31.6 32.2 32.5 32.5 32.6 0.4 0.6 0.3 0.0 0.1

OPEC Unconventional 0.2 0.3 0.3 0.3 0.3 0.3 0.3 0.3 0.0 0.0 0.0 0.0 0.0

OPEC NGLs 6.0 6.1 6.3 6.5 6.7 6.8 6.9 7.0 0.2 0.2 0.1 0.1 0.1

OPEC Oil 36.6 36.6 37.8 38.6 39.2 39.6 39.7 39.9 0.7 0.6 0.4 0.1 0.2

Processing Gains 2.2 2.2 2.2 2.3 2.3 2.3 2.4 2.4 0.1 0.0 0.0 0.1 0.0

Global Biofuels 2.0 2.2 2.3 2.4 2.4 2.5 2.5 2.5 0.0 0.0 0.1 0.0 0.0

Total Supply 91.3 93.7 96.1 96.2 96.6 97.0 97.2 97.5 0.0 0.4 0.4 0.2 0.3

Implied Stockbuild -0.7 0.9 1.7 0.5 0.0 -0.5 -1.2 -1.8 - - - - -

"Call on US Production" 11.1 11.0 11.1 12.0 12.8 13.7 14.9 16.0 0.9 0.8 0.9 1.2 1.1

Source: BP, Citi Research

26

Regional Primary Energy Balances in Mboe/d

(includes coal, gas, other energy sources)

Asia is the Only Energy Short Left

-30

-25

-20

-15

-10

-5

0

5

10

15

20

25

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

N America Latin America Europe Mid East Africa Asia

-25

-20

-15

-10

-5

0

5

10

15

20

25

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

N America Latin America Europe Mid East Africa Asia

Regional Primary Oil Balances in M b/d

27

Fuel-Efficiency & Fuel-Substitution Remain A Threat To Oil Demand Growth

Oil demand growth – the end is nigh? Transportation is only 1/3 of oil demand

Source: Citi Research

Natural gas substituting for oil, coupled with the increasing car and truck fuel economies already in play, is

enough to mean an end to global oil demand growth is closer than the market seems to think

88

90

92

94

96

98

100

2012 2013 2014 2015 2016 2017 2018 2019 2020

Business As Usual

After vehicle efficiency gains

After gas substitution

0 5 10 15 20 25

Rail

Shipping

Other transport

Aviation

Electricity

Petrochemicals

Residential

Trucks

Other industrials

Cars

27

Increasing Efficiency Is a Threat to All Forms of Energy Demand

Source: EIA, The International Council for Clean Transportation, Citi Research

28

Global fuel economy mandates should drive

improvements in efficiency.

As improvements are made in demand management and

efficiency, US electricity demand growth is decoupling

from GDP growth.

-4%

-3%

-2%

-1%

0%

1%

2%

3%

4%

5%

6%

1996 1998 2000 2002 2004 2006 2008 2010 2012 2014

Electricity Demand Growth Real GDP Growth

Source: Woodmac, Citi Research

29

Global LNG supply/demand, supply by project

progress, showing many projects in FEED face delays

Global LNG supply/demand, supply forecast by country,

North American proposed exports dominate the

landscape

LNG Oversupply is Expected to Persist this Decade

Source: Woodmac, Company Reports, Citi Research

30

US LNG Projected Output (mtpa) Australian LNG Projected Output (mtpa)

Huge Volumes of LNG from Australia and the US Are Coming

0

10

20

30

40

50

60

70

80

Jan-1

5

Au

g-1

5

Mar-

16

Oct

-16

May-

17

De

c-17

Jul-1

8

Fe

b-1

9

Se

p-1

9

Ap

r-20

No

v-20

Jun-2

1

mtpaSabine Pass Freeport Cove Point

Cameron Corpus Christi

Source: EIG, Citi Research

Developing Asia LCOE ($/MWh)

Japanese LCOE ($/MWh) European LCOE ($/MWh)

31

Solar is becoming increasingly competitive globally

US LCOE ($/MWh)

0

50

100

150

200

250

300

Dec-09 Jul-10 Feb-11 Sep-11 Apr-12 Nov-12 Jun-13 Jan-14 Aug-14 Mar-15

Coal with CCS Gas CCGT Large Hydro

Large Solar PV Nuclear Wind Onshore

0

50

100

150

200

250

300

Jan-10 Aug-10 Mar-11 Oct-11 May-12 Dec-12 Jul-13 Feb-14 Sep-14 Apr-15

Coal with CCS Gas CCGT

Large Hydro Large Solar PV

Nuclear Wind Onshore

0

50

100

150

200

250

300

350

400

Dec-09 Jul-10 Feb-11 Sep-11 Apr-12 Nov-12 Jun-13 Jan-14 Aug-14 Mar-15

Coal with CCS Gas CCGT Large Hydro

Large Solar PV Nuclear Wind Onshore

0

100

200

300

400

500

600

700

Dec-09 Jul-10 Feb-11 Sep-11 Apr-12 Nov-12 Jun-13 Jan-14 Aug-14 Mar-15

Coal with CCS Gas CCGTLarge Hydro Large Solar PVNuclear Wind Onshore

32

Ending On A Bullish Note….Spare Capacity Is Low And Risks Are High

OPEC Crude Production (m b/d) vs. Brent Price

($/bbl) OECD & China Oil Inventories (Bln bbls)

Source: Citi Research Estimates

The shift from a ‘Call on OPEC’ to a ‘Call on Shale’ world could mean greater ‘spike’ risk as shale producers will

never carry several m b/d of spare production capacity on their balance sheets

32

40

60

80

100

120

140

160

28.0

28.5

29.0

29.5

30.0

30.5

31.0

31.5

32.0

32.5

33.0

Jan-05 Aug-06 Mar-08 Oct-09 May-11 Dec-12 Jul-14

OPEC Crude Brent Price - RHS

2.55

2.65

2.75

2.85

2.95

3.05

3.15

Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec

2012 2013 2014 2015

33

Appendix A-1

Analyst Certification

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NON-US RESEARCH ANALYST DISCLOSURES Non-US research analysts who have prepared this report (i.e., all research analysts listed below other than those identified as employed by Citigroup Global Markets Inc.) are not registered/qualified as research analysts with FINRA. Such research analysts may not be associated persons of the member organization and therefore may not be subject to the NYSE Rule 472 and NASD Rule 2711 restrictions on communications with a subject company, public appearances and trading securities held by a research analyst account. The legal entities employing the authors of this report are listed below:

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34

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