20 May 2013

Market Outlook Issue # 21

Oil market factors

Likely impact on prices

Factors affecting crude oil and refined product markets Overall trend: Over the last two weeks the market has remained flat with unemployment data out of the United States falling to five year low and increased tension in Syria being countered by continued weakness in the Eurozone. We expect Brent crude to trade in the US$100-110/bbl range absent of any major economic or political developments. Crude Oil Over the last two weeks Brent crude prices have remained flat as it finished last week at US$104.64/bbl (a decrease of US$0.08/bbl). According to the latest published statistics for May 2013, US crude stocks have decreased by four hundred thousand barrels though they are still in the upper half of the average range for this time of year. The sentiment for Brent remains weak, hampered by generous North Sea crude availability and high levels of regional refiner maintenance. The Brent forward price curve is in contango in the near term with July contracts trading US3c above June. Prices further out become backwardated and drop by around US$1.50/bbl by the fourth quarter. Products In the last two weeks US product stocks for Gasoline (Petrol) have increased by two million barrels. In the last two weeks US product stocks for Gasoil (Diesel) stocks have increased by four million barrels. No change to the demand for high octane gasoline in Asia so the significant premium for 95/97 octane gasoline continues over the base grades. The forward price curve for gasoline maintains a backwardated view, though near month refining margins have increased to US$11/bbl versus Dubai crude, though it is expected to weaken to US$8.60bbl by the fourth quarter. Asian margins have increased recently due to a stronger western market with talk of run cuts by European refiners amid weak refining margins. Kerosene (Jet) premiums have increased on the back of Gasoil strength as Asian refiners are maximising Gasoil production as Kero demand is still weak and stock levels remain high. Jet refining margins versus Dubai crude have strengthened to US$16/bbl and are expected to increase further to US$18/bbl by the fourth quarter. Gasoil (Diesel) demand has increased in the last few weeks as the Middle East is now into Summer peak demand season and this is reflected in the stronger Gasoil refining margins versus Dubai crude which are now at US$17/bbl (versus the previously reported US$14/bbl). This is expected to increase to US$18/bbl by the fourth quarter. F: Fundamentals (supply & demand) / M: Momentum (sentiment)

F F

F F

F F F

Figure 1: Brent Oil & Gas Oil month average and futures contracts

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Market Outlook Issue # 21

$145 $135 U S D / b b l $125 $115 $105 $95 $85

Brent Oil (Mth Average) Gas Oil (Mth Average) Source: Bloomberg & Production.investis.com

Brent Oil Futures Gas Oil Futures

Macro-Economic indicators
The Eurozone is now in its longest ever recession, contracting by 0.2% in the Jan-Mar quarter. Nine of the 17 Eurozone countries were in recession including France, Spain, Italy and the Netherlands. US Consumer sentiment data rose above expectations to its highest level in six years. This has pushed the Dow Jones Industrial average to record levels in the last week.

Currency factors
The NZD/USD has been lower over the last fortnight, falling from a high of .8557 to a low of .8061. The market sentiment has moved to being positive for the USD, due to the market starting to anticipate the reduction/reversal of quantitative easing by the US Federal Reserve in 2013/14, due to the recent string of positive US economic data releases. The NZD/USD looks like it may trade in a wide yearly range of .7800-.8800, with a smaller short term range of .8000-.8650. The two competing themes continued this month: Global economic growth momentum remains weak, which suggests NZD should struggle to move higher. Fundamental currency valuations suggest NZD should be weaker due to lower world growth outlooks from a weak US recovery, Australia

20 May 2013

Market Outlook Issue # 21

reducing interest rates, parts of Europe in recession, and Chinese economic activity falling below market expectations. NZD strength based on investor perceptions around the holding of commodity currencies like the NZD, to participate in being linked to a higher growth Asia/Pacific region, currency diversification, higher relative interest rates and higher food commodity prices.

Foreign exchange factors

Factors affecting NZD/USD Overall: The NZD has been weaker but appears to be stuck in a wide range, depending on investor and trading sentiment towards commodity currencies and USD. The strong offshore investor interest will support the NZD on any dips to .7800/.8000, while sellers will emerge at .8550/.8650 again. The NZD appears overvalued on local economic conditions, but the risk is the NZD/USD will move higher based on global currency moves and offshore buying of NZD. Based on the external trade balance the structural fair value estimate is that the long term NZD/USD is lower. Fair value factors (interest rates, commodities & economic growth) suggest NZD/USD fair value is below current levels. NZ has higher interest rates relative to rest of world which creates demand for the NZD. Offshore investors are buying NZ bonds to diversify part of their investments into higher interest rate economies (such as NZ and Australia). The Reserve Bank (RBNZ) maintained their outlook by that the OCR (Official Cash Rate) which is currently 2.5% can move in either direction based on: Commodities the level of the NZD dollar, economic effect of drought in NZ, and overseas economic developments. Likely impact

Fair value long term Fair value short term Interest rates

In contrast Australia is expected to reduce interest rates. NZ commodity prices have been stable with small price increases. In NZD terms, export commodity prices are 23% lower than the March 2011 highs. Relative high prices will continue to provide a boost to NZD sentiment due to being a food exporter. NZ drought conditions have pushed up milk prices, due to reduced supply volumes. The market continues to be focussed on three key areas of risk: Monetary policy US economic data releases, to see if US economy is improving, European sovereign debt issues and banking system and Chinese economic data and flow on effect to commodity prices.

Risk aversion

Stimulus packages from world Central Banks (in the form of Quantitative Easing) have increased. Japan joined USA and

20 May 2013

Market Outlook Issue # 21

Europe in quantitative easing. Further stimulus from China, in the form of greater government spending will add further support for economic growth. This stimulus will provide short term support for investor sentiment and provide a boost to the NZD. NZD/USD having fallen from .8650 high point and gone through .8380 support level, means that it risks moving lower toward .7950. Resistance in the form of selling should be found at .8215 & 8250/8270, before moving lower to .8110 and .7950.

Technical analysis

Glossary
Contango: is a condition where forward prices exceed spot prices, so the forward curve is upward sloping. Backwardation: is the opposite condition, where spot prices exceed forward prices, and the forward curve slopes downward. Arbitrage: the purchase of assets on one market for immediate resale on another market in order to profit from a price discrepancy. Crack spread: a term used in the oil industry and futures trading for the differential between the price of crude oil and petroleum products extracted from it.

Disclaimer: This publication has been provided for general information only and we recommend you seek professional advice before acting on this information. The information presented has been obtained from original and published sources believed to be reliable, but its accuracy cannot be guaranteed and are subject to change without notice. Actual events may differ materially from those reflected in this document. This document has been prepared by Z Energy Ltd, 3 Queens Wharf, Wellington 6140, New Zealand. z.co.nz