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Financial Times: Demand fuels oil industry confidence

By Sheila McNulty in Houston
Published: February 21 2008

At last week’s annual gathering of global oil industry executives and academics at the Cambridge Energy Research Associates conference in Houston, Texas, climate change and energy security were on the agenda. A US recession was not.

The surge in commodity prices to record levels in recent years has left the leading oil companies flush with cash, which they intend to continue spending.

We are making investments for a long period of time. It doesn’t alter our investment programme,”’ says Jim Mulva, chief executive of ConocoPhillips. Meanwhile, Linda Cook, Royal Dutch Shell’s executive director of gas and power, says Shell would only be affected by a recession if it was so broad that it spilled into the global economy.

For an industry operating at or near capacity, with strong demand forcing energy prices to record levels, a recession might even give such companies a much-needed breather.

“It would take away one of the most important props for prices being at the levels they have been the last few months,” says Daniel Yergin, Cera chairman.

Taking away this prop would free oil companies to divert money to meeting demand rather than on to the increasing costs of labour and supplies.

This would then have a knock-on effect on prices. “Lower energy prices [would in turn] take some of the pressure out of the market, so it [could] keep pace with the strength in demand,” Mr Yergin said.

Adam Sieminski at Deutsche Bank said the combination of aggressive interest rate cuts from the Fed and a fiscal stimulus package from Congress reduces the probability that the US will slip into a deep recession. The most likely scenerio, he said, is a recession that lowers US gross domestic product to 1 per cent in 2008, with world growth near 3.2 per cent, which would lead global oil demand to rise by 1.2 per cent. Opec, he said, would then defend oil prices at near $80 per barrel.

At that level, the oil majors would continue making big profits, as would the rest of the energy industry, if it is right in believing that energy is one of the last things people cut back on.

Red Cavaney, chief executive of the American Petroleum Institute, a national trade association representing the US oil and natural gas industry, says the expendable part of gas usage in the US is small, with Americans relying on vehicles to drive to work and school. “People don’t go joy driving most of the time,” he said. “It is an essential product, and there aren’t any alternatives.”

In the power sector, meanwhile, executives are not even sure the US is on the brink of recession. James Rogers, chairman and chief executive of Duke Energy, says that slowing growth would not be broad-based but would be confined to specific regions and sectors.

Deryk King, chief executive of fellow power producer Direct Energy, said: “We have not seen any evidence through our business, at this stage, that there is a recession.” Certainly bad debt has been “drifting up” in some markets but “turning down the gas and electricity is probably one of the last things people do”.

However, in spite of the optimism at home, the outlook is not all rosy.

Both the oil and the power sectors have in recent years had to pay record prices for supplies, such as copper; equipment such as rigs; and increasingly scarce talent.

Meanwhile, oil companies are being confronted with nationalism from oil-rich countries, which has driven down the majors’ control of global reserves from 85 per cent in 1970 to less than 20 per cent today, and left them at the mercy of countries such as Venezuela.

When Venezuela nationalised its energy sector last year, for example, it expropriated 1.6bn oil-equivalent barrels from ExxonMobil’s resource base – a loss the company is trying to recover through arbitration.

In the US, meanwhile, there is pressure for politicians to tax the industry to pay for development of alternative resources as global warming takes centre stage.

In the power sector, meanwhile, the expectation of legislation forcing them to pay for and/or reduce their carbon footprint has left many companies too fearful to invest in new capacity without knowing what the environmental costs will be to their bottom lines.

Copyright The Financial Times Limited 2008

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