Spring Market Update Spring Market Update 20022002

Chris Smith & Les Deman

May 2002

If I Only Had One Slide

2001 Storage Levels Relative to Historical (Total US)

0

500

1,000

1,500

2,000

2,500

3,000

3,500

Bcf

94-01 Historical Max-Min Series2 2000 2001 2002

Source: EIA

May 24, 2002 at 1,796 Bcf

Is It Deja Vu All Over Again?

The 1999-2001 Cycle Gas inventories reached an all-time peak in March 1999 NYMEX gas prices troughed in February 1999 at $1.63 NYMEX oil prices troughed in February 1999 at $11.68/B The US rig count troughed in April 1999 at 488 WTI hit $37.20 in September 2000 Henry Hub gas approached $10 in December 2000 Gas inventories plunged to 627 Bcf in March 2001 The US rig count peaked at 1293 in July 2001

Spring 2002 Gas inventories surpassed the 1999 peak Gas and oil prices are strong The rig count dropped to 738 in early April Economic growth seems to be ramping upwards

Will the next 18 months repeat the 1999-01 experience?

US Gas Demand Better in 02, 03 Maybe

No Winter = No Demand 1st quarter 2002 was 9% warmer

than normal If rest of 2002 is normal GWHDDs -

1.4%, but up 1.3% in 2003 Residential/Commercial flat in 2002,

but up 4.2% in 2003 Power generation down 4% in Q-I,

but gas took share from oil

Generation Comes First in Q-II & III Cheap baseload units get chosen

first--hydro, coal, nucs Generation growth goes to hydro &

gas in 2002 In 2003 growth goes to coal, oil and

gas

RISKS: EL NINO BEGINNING IN SECOND HALF OF 2002

Source: EIA, NOAA and Coral estimates

WINTER RESIDENTIAL-COMMERCIAL DEMAND

30

32

34

36

38

40

42

1999-00 2000-01 2001-02 2002-03

Bcf

d

US POWER GENERATION GROWTH 2001-2003

-80-60-40-20

020406080

100

Bil K

wh

2001 2002 2003

Industry Comes Last

Industry=f(Price, HDDs, GWIP) The key variables were mostly

negative in 2001 Weather was a drag in 01Q-IV & 02Q-

I, but key industries are raising production

Gas prices were attractive in Jan-Feb, but a negative factor in Mar-Apr

How Fast a Rebound? US economic growth accelerated in Q-

I, but Q-II signs are more subdued Gas-intensive mfg. remains well below

the mid 2000 peak Efficient new gas units & a return of

hydro & coal might limit gas upside Higher gas prices through rest of 2002

impacts 2003 demand growth

RISKS: HIGHER INTEREST RATES PLUS HIGHER OIL AND GAS PRICES PUT A BREAK ON THE RECOVERY

Source: EIA and Coral estimates

BASE INDUSTRIAL GAS USE (Yr over Yr Change)

-5-4-3-2-101234

Bcfd

US GAS CONSUMPTION - 12 MO. AVE.

56

57

58

59

60

61

62

63

Jan-00

May-00

Sep-00

Jan-01

May-01

Sep-01

Jan-02

May-02

Sep-02

Jan-03

May-03

Sep-03

Bcf

d

Gotta Drill To Find Gas

Gotta Have Money to Drill About 85% of all US wells

are drilled by independents Spending is highly

correlated with prices Low price = less drilling

A Lot of Wells to Keep Even Dry gas production reached

53 Bcfd in 2001 (19.3 Tcf) Max gas discoveries* past

10 yrs was 19.1 Tcf (2000) Well half-life is down to 24

months, from 40 in 1990 Need about 800 gas rigs to

get 20 TcfRISKS: THE PRICE NEEDED TO RAISE PRODUCTION DEPRESSES DEMAND Source: EIA and Baker-Hughes

*Excludes revisions and adjustments

GAS RIG COUNT vs GAS PRICE* 1991-2002

0

200

400

600

800

1000

1200

$0 $2 $4 $6 $8

Ga

s R

ig C

ou

nt

*Wellhead Price 6 mos earlier

GAS DISCOVERIES vs RIG COUNT 1990-2000

0

5

10

15

20

300 400 500 600 700 800

Gas Rig Count

Gas

Dis

cove

ries

- T

cf

If Not in 2002, When?

2002 Supply - A Downer US gas production peaked in mid

2001 Declines likely through most of 2002 Gas rigs hit 1070 in 7/01, but supply

growth trailed off quickly in Q-III & IV Gas rigs are down 1/3, but may have

turned a corner

Gas Imports Help Some Canadian and LNG imports are trailing

last year LNG import growth is lagging, but may

rebound with gas prices $3.50+ Unless WCSB declines, pipe imports

should trend higher because of high Canadian gas storage

RISKS: E&P INVESTMENT LAGS AS PRODUCERS CLEAN-UP BALANCESHEETS

Source: EIA and Coral estimates

ESTIMATED QUARTERLY PRODUCTION CHANGES (Yr-Over-Yr)

-2.5-2.0-1.5-1.0-0.50.00.51.01.52.02.5

Bc

fd

ESTIMATED GAS IMPORT CHANGES (Yr-Over-Yr)

-2.0

-1.5

-1.0

-0.5

0.0

0.5

1.0

1.5

2.0

Bc

fd

PIPELINE LNG

A US Trial Balance: 2002-2003

So Far, So Good. But.... US demand growth should

exceed supply in 2002 & 03 High 2002 storage should

mitigate availability concerns The balance gets more dicey

in 2003

Going From Feast To Famine Record storage levels likely

until fall 2002 2003 could see record lows

over much of the year--below 1996 & 2000-01

Has the market reacted too early or is it too late?

Source: EIA, AGA and Coral estimates

US SUPPLY-DEMAND BALANCES

60.0

61.0

62.0

63.0

64.0

65.0

2001 2002 2003

Bc

fd

APPARENT DEMAND TOTAL SUPPLY

END OF MONTH STORAGE 1995-2003

0

500

1000

1500

2000

2500

3000

3500

Bc

f

1996

2000

2003

2001

2002

RISKS: ANTICIPATORY MARKET REACTION LOWERS DEMAND & RAISES SUPPLY

Supply 2005: Through a Looking Glass

It’s A Tall Order Forecasts call for production to

grow nearly 1.0 Bcfd per year All regions expected to increase

except southwest Gas rigs may need to average

1000+ between 2002-05

Can Imports Balance S&D? Imports need to grow at least

0.5 Bcfd per yr. Will Canadian exports grow

from East & West basins? LNG import capacity grows to

3.5 Bcfd by 2005, but worldwide supply lags

RISKS: TRADITIONAL NA GAS SUPPLY BASINS HAVE PEAKED Source: EIA (12-2001) and Coral estimates

NET IMPORTS

-202468

101214

2000 2005

Bcfd

LNG

Mexico

Canada

US ANNUAL SUPPLY GROWTH 2000-05

-0.050.000.050.100.150.200.250.300.35

Bcf

d

What If the Forecasts are Wrong?

The Physical Issues Smaller gas supply squeezes

industrials Price sensitive sectors close

first--ammonia, methanol, etc. Foreign sources gain share--

metal products, chemicals, etc Higher supply encourages

more gas-for-oil fuel switching The Financial Issues

If supply lags, gas prices move up to clean oil products on a sustained basis--No. 2, LPGs, etc. Hub prices might range from $3.50-$6.00/MMBtu

Higher supply pits gas against No.6. Hub prices in the $2.75-$4.25/MMBtu range.

RISKS: BOOM-BUST CYCLES LIMIT INVESTMENTS IN BOTH THE SUPPLY AND DEMAND SECTORS

Source: Coral estimates

POTENTIAL DEFICITS 2005

-12

-10

-8

-6

-4

-2

0

Flat Production Higher Generation Flat Productuin +High Generation

Bc

fd

KEY OIL-GAS PRICE RELATIONSHIPS (HUB GAS*)

$-

$1.00

$2.00

$3.00

$4.00

$5.00

$6.00

$7.00

$20 WTI $25 WTI $30 WTI

$/M

MB

tu

USGC Propane NYC Distillate NYC 0.3% No 6

ASSUMES $0.50 HUB-NYC BASIS

New Generation, No Place to Go

Build and they Will Come 72 Gw slated from 2000 to

2005, 37% in CA Peak demand growing at 3-

4 Gw per year Need aluminum and silicon

valley to return to 2000 growth rate

The Good, Bad & …. Many plants facing limited

operation at variable cost Merge, sell or mothball? Consumers in some

western states see flat-to- lower bills. Not in CA.

WSCC GENERATION ADDITIONS - GW

0

5

10

15

20

25

2001 2002 2003 2004 2005

CA OTHER

WSCC RESERVE MARGIN FORECAST - %

0

5

10

15

20

25

30

2000 2001 2002 2003 2004 2005

CA OTHER

COMFORT RANGE

Source: RDI and Coral estimates

Gas Gets Generation Growth, But…

Limited, Low Cost Sources Hydro can do 200+ in wet

year, but no upside Nuclear, operating near

capacity now. Tomorrow? Coal’s cheap, but minimal

new capacity slated Load growth goes to gas

Declining Heat Rates Dampen Gas Growth Gas generation growth

exceeds 5%/yr. 66% of new plants are cc-

gas Heat rates could easily

decline by 10% in 2005

WECC LOAD ESTIMATES - Bil KWh

0

100

200

300

400

500

600

700

800

2000 2001 2005

OTHER*

GAS

COAL

NUCLEAR

HYDRO

*Other includes purchases & imports

ESTIMATED GAS USE FOR GENERATION - WECC

3.4

3.6

3.8

4.0

4.2

4.4

4.6

2000 2001 2005

Bcf

d

Source: EIA and Coral estimates

Gas & Electricity ValuesYesterday, Tomorrow (& Last Year)

0.00

2.50

5.00

7.50

10.00

12.50

15.00

17.50

20.00

Jan-9

5Jul-95

Jan-9

6Jul-96

Jan-9

7Jul-97

Jan-9

8Jul-98

Jan-9

9Jul-99

Jan-0

0Jul-00

Jan-0

1Jul-01

Jan-0

2Jul-02

Jan-0

3Jul-03

Jan-0

4Jul-04

Jan-0

5Jul-05

Jan-0

6Jul-06

Jan-0

7Jul-07

Jan-0

8Jul-08

Jan-0

9Jul-09

Jan-1

0Jul-10

$/MMBtu

0.00

25.00

50.00

75.00

100.00

125.00

150.00

175.00

200.00$/MWH

SP 15 On Peak

SP 15 On Peak - (Last Yr)

SoCal Border

SoCal Brdr - (Last Yr)

You are hereYou were here

Tying It All Together

Despite a 1st quarter GDP surge, a U-shaped US economic recovery in 2002 seems likely as capital investment expenditures lag

Gas increases marketshare from oil (lost in 2000-01) and in power generation, but mild winter moderated demand growth

A large inventory overhang hinders gas markets, but farsighted players provide upward momentum

Accelerating economic growth (US and R-O-W) moves energy demand up sharply in 2003

US gas demand could see record growth in 2003 Quicker market reaction sends early signals to producers and

consumers, reducing the likelihood of price spikes

RISKS: ESCALATING OIL AND GAS PRICES LOWER ECONOMIC GROWTH AND DEPRESS GAS & OIL DEMAND BY LATE 2002-EARLY 2003. PRICES FALL AND THE NEXT CYCLE BEGINS.