V. FEYGIN,A. Gromov, A.Titov

Institute for Energy and Finance

CURRENT OIL MARKET AND ITS NEAR FUTURE

6th Meeting of OPEC-Russia Energy DialogueMoscow, Russian Union of Industrialists and Entrepreneurs

31 May 2017

1

Consequencesof the Agreement Implementation

and Current Uncertainties

2

Global oil market prices are less volatile after 2015-2016 turmoil

Oil Prices

Source: Bloomberg Source: Bloomberg

• OPEC + Non-OPEC countries’ November 2016 decision to cut production (“the Agreement”) supportedglobal oil prices.

• Since early 2017 Brent prices are $ 7.5 per barrel higher than before the Agreement, despite weakness inprices in March and at the end of May 2017.

• The volatility of oil prices fell sharply in 2017 after the shock of the end of 2014 and turbulence in the marketin late 2015 - mid 2016

Implied Volatility WTI (OVX) and S&P 500 (VIX)

35

40

45

50

55

60

08

.16

09

.16

09

.16

10

.16

11

.16

11

.16

12

.16

01

.17

01

.17

02

.17

03

.17

04

.17

$/bbl. Brent WTI

Oil Price before Agreement

0

10

20

30

40

50

60

70

80

01.1

4

04.1

4

07.1

4

10.1

4

01.1

5

04.1

5

07.1

5

10.1

5

01.1

6

04.1

6

07.1

6

10.1

6

01.1

7

04.1

7

% OVX VIX

3

Reduction in the oil prices volatility led to a decrease in the price forecasts volatility

Consensus forecast of avg. Brentin 3Q16 – 3Q16 and actual Brent price

Source: Bloomberg Source: Bloomberg, EIA

• In Jan-April 2016 the range of forecasts of leading analysts for the average price of Brent in 2017 was only about $ 3-6 / bbl (from $53 to $60 barrel range)

• Sharp increase in the price of Brent as a result of the Agreement at the end of 2016 did not lead to significant changes in the price forecasts of investment banks.

• Aspirations of ~$60 bbl Brent for mid 2017 are definitely too high and not fundamentally supported

Forecasts of the average Brent price in 2017

45

50

55

60

65

07.2016 10.2016 01.2017 04.2017

$/bbl

Barclays BNPCitigroup Societe GeneraleRaiffeisen EIA

40

45

50

55

60

65

07.2016 09.2016 11.2016 01.2017 03.2017 05.2017

$/bbl

Q1 2017 Q2 2017 Q3 2017

Q4 2017 Real Price

4

The Agreement to cut production allowed its participants to increase revenues from oil exports

Crude export volumes and export values for OPEC

Source: JODI, EIA Source: Ministry of Energy of Russian Federation, Bloomberg

• The agreement allowed OPEC countries to increase the estimated level of export value in December 2016 -March 2017 by 14% compared to August-November 2016, despite the fact that there was a significant increase in exports at that times.

• Russia also increased the volume of export earnings for the same period by 16%.

• Cooperation had a positive financial effect for the participating countries compared to the simple increase in exports volumes and the struggle of producers for their market share.

Crude export volumes and export values for Russia

0

10

20

30

40

50

60

70

80

90

20

21

22

23

24

25

26

27

Jan-14 Aug-14 Mar-15 Oct-15 May-16 Dec-16

bln $mb/d

Export Cash Inflows (right)2

6

10

14

18

3,5

4,0

4,5

5,0

5,5

6,0

Jan-14 Sep-14 May-15 Jan-16 Sep-16

bln $mb/d

Export Cash Inflows (right)

5

Monitoring of Agreement implementation and of its influence on market status should be strengthened

• The Agreement is an obvious success of its participants.

• The main objective of the Agreement was to move towards achieving a balance of

supply and demand in the global oil market.

• Bearing in mind a prolonged imbalance of the market, an Agreement is a natural first

step towards more ambitious goals.

• The task of ensuring the market balance is not yet completely solved because there

is large uncertainty of information on supplies and demand. The spread of the

corresponding estimates is also very wide.

• There are delays in information and data arrival, revisions are also frequent.

• The countries of the Agreement have not yet created an effective mechanism for

influencing the oil financial market, which continues to rely on sources that provide

fairly random or deliberately distorted information.

6

Experts have not agreed on the current (and historical) level of imbalance in the oil market

Estimates of the supply surplus in the world market of liquids according to various energy agencies

Source: EIA, IEA, OPEC

• Due to the late arrival of data, in January-February 2017 there was no clarity with the state of the balance inthe market.

• Main energy agencies have significant discrepancies in estimating the magnitude of the imbalance in theliquids world market for 1Q 2017 and for quarters of 2016.

• The IEA assumes that in 1Q 2017 the balance was already reached. OPEC, on the other hand, points to anexcess supply of 0.8 million barrels per day for the same period.

1,28

0,21

-0,62

0,550,32

1,21

0,07

-0,16

0,57

0,08

1,76

0,61

-0,37

0,83 0,77

-1,0

-0,5

0,0

0,5

1,0

1,5

2,0

I II III IV I

2016 17

mb/dEIA IEA OPEC

7

There are significant divergencesin the statistics and forecasts of oil demand

Dynamics (y/y) in liquids demand by major data sources

Source: EIA, IEA, OPEC Source: EIA, IEA, OPEC

• EIA/IEA /OPEC expect demand growth of 1,68/1,38/1,25 mb/d (y/y) respectively for 2Q 2017- 4Q 2017.

• Seasonal growth in consumption in 3Q compared with 2Q is observed each year, but estimates of thisgrowth in 2017 vary from 1.1 to 2.0 mbd by different agencies.

• Thus, there is a wide range of estimates of the most important indicator - the magnitude of thepotential imbalances in liquids in 3Q 2017 due to the prolongation of the Agreement in May 2017.

Dynamics (q/q) in liquids demand by major data sources

-1,5

-1,0

-0,5

0,0

0,5

1,0

1,5

2,0

2,5

2014 2015 2016 2017

mb/d EIA IEA OPEC

0,8

1,0

1,2

1,4

1,6

1,8

2,0

2,2

2016 2017

mb/d

EIA IEA OPEC

8

Divergences are also observed in liquids supply

Dynamics (q/q) in liquids supply in OPEC countries by major data sources

Source: EIA, МЭА, ОПЕК Source: EIA, МЭА, ОПЕК

• IEA suggests that the world supply of liquid fuels decreased by 1.7 mbd in 1Q17 (q /q), and in OPEC - only by 0.8 mbd (q/q).

• Divergences in the estimates are observed for the dynamics of production, both in OPEC countries and in non-OPEC countries.

Dynamics (q/q) in liquids supply in non-OPEC countries by major data sources

-2,0

-1,5

-1,0

-0,5

0,0

0,5

1,0

I II III IV I

2016 17

mbd

EIA МЭА ОПЕК

-2,0

-1,5

-1,0

-0,5

0,0

0,5

1,0

1,5

I II III IV I

2016 17

mbdEIA МЭА ОПЕК

9

0,6

-1,0-1,1

-0,4+0,2 0,25

+0,6 +0,2-0,1

+0,4 -0,1

+0,4

+1,3+0,2+1,5

+0,2

+1,9

+0,3

-0,4

-0,8+0,2

-1,4

+0,4

+0,2+0,1

+0,3

-0,2

+0,1

-0,6

-1,1

-2,0

-1,5

-1,0

-0,5

0,0

0,5

1,0

1,5

2,0

OPEC NonOPEC*

US OPEC NonOPEC*

US OPEC NonOPEC*

US OPEC NonOPEC*

US

4Q2016

Demand Supply 1Q2017

Demand Supply 2Q2017

Demand Supply 3Q2017

Demand Supply 4Q2017

mb/d

The world oil market might enter a deficit at the 2H 2017 due to the prolonged Agreement

Changes in global liquid fuels market balance due to the prolonged Agreement

* Not including USSource: IEF estimates bases on EIA, МЭА, ОПЕК data

• We assume that in 3Q 2017- 4Q 2017 there will be a noticeable deficit. But it will not be a shock to the global oil market given the significant volume of accumulated oil and products stocks.

• US production will grow, but its growth will not be able to compensate for the reduction in production as a result of the Agreement.

• As noted, the accuracy of estimates is not sufficient (including for the 1Q 2017- 2Q 2017)

Decrease in supply /Increase in demand Increase in supply/Decrease in demand

Uncertainty on seasonal growth in demand

Additional supplies from Libya and Nigeria

Probably lower rates of production growth in the US

10

Uncertainties of the futureand possible steps to further market

stabilization

11

Estimates of actual and forecasts of possible oil market misbalance diverge significantly for 2016-2018

Global implied market misbalance

Source: EIA, Rystad Energy, Wood Mackenzie, Barclays Source: EIA, Rystad Energy, Wood Mackenzie, Barclays

• Investment banks' estimates diverge even more significantly than estimates of energyagencies

• Divergences of estimates of global oil market misbalance in 2016-2018 reach 1 mb/d.

• For quarterly dynamics, the estimate’ range increases from 1,2 mb/d (2016) to 1,7 mb/d (2018)

Global implied market misbalance

0,40,2

0,5

-0,3

-0,9

0,7

0,3

-0,6

0,4

0,9

-0,2

1,0

-1,0

-0,5

0,0

0,5

1,0

1,5

2016 2017 2018

mb/d EIA Rystad

Barclays WoodMac

-1,5

-1,0

-0,5

0,0

0,5

1,0

1,5

2,0

2,5

2016 2017 2018

mb/d

Average

project

12

The future dynamics of OECD industrial stocks remain unclear

OECD Industry Stocks

Source: EIA, IEA, OPEC Source: FIEF, EIA, IEA, OPEC

• The Agreement has not yet led to a significant reduction in the level of OECD industrial stocks.

• The extension of the Agreement would not reduce OECD industrial stocks to an average levelof 2010-2014.

• The market does not have a source of reliable estimates of stocks in developing countries(it assumes to amount to about 45% of the world oil stocks).

OECD Industry Stocksdue to extension the Agreement

2500

2600

2700

2800

2900

3000

3100

3200

01

.14

05

.14

09

.14

01

.15

05

.15

09

.15

01

.16

05

.16

09

.16

01

.17

mln bbl IEA EIA OPEC

Average 2010-2014

350 mlnbarr.

2,42,52,62,72,82,93,03,13,23,3

Jan

Feb

Mar

Apr

May

Jun

Jul

Aug

Sep

Oct

Nov

Dec

bln bbl

Avg 2010 - 2014 2015 2016 2017

Range 2010-2014

13

-0,6

-0,2

+0,05

+0,3-0,4

+0,1

-0,43

-0,5

-0,7

-0,6

-0,8+0,4

+0,6

+0,4

+0,6

+0,2

0,0

0,3

0,6

-1,3 +0,6

-1,4

+0,5

-1,7

+0,1

0,15

0,7

-0,4

+0,0

-0,3

-0,15+0,2

-0,1

0,2

-0,3

+0,3

0,65+0,4

-0,3

-1,4

-1,2

-1,0

-0,8

-0,6

-0,4

-0,2

0,0

0,2

0,4

0,6

0,8

1,0

OPEC NonOPEC*

US OPEC NonOPEC*

US OPEC NonOPEC*

US OPEC NonOPEC*

US

4Q2017

Demand Supply 1Q2018

Demand Supply 2Q2018

Demand Supply 3Q2018

Demand Supply 4Q2018

mb/d

Extension of the Agreement to the 1Q 2018 may lead to "swings" of the global oil market misbalance

Supply-Demand misbalance after an extension of the Agreement to the 1Q 2018

* Not including USSource: FIEF, EIA, IEA, OPEC

• Extension of the Agreement will allow to keep the deficit on the market in the 1Q 2018, despite a slightreduction in global demand.

• Termination of the Agreement in the 2Q 2018 will not lead to the sharp imbalance of the global oil market.

Variability of Non OPEC production

The slower recovery in OPEC

Uncertainty of seasonal demand growth

Uncertainty of dynamics in the 4th quarter

Decrease in supply /Increase in demand Increase in supply/Decrease in demand

14

Majors continue the optimization of their costs

Majors Net Income

Source: companies reports Source: companies reports

• Majors increased net profit several times to $ 14.6 billion in Q1 2017.

• Their profit increase is primarily thanks to oil and gas prices increase and a decrease in operating expenses.

• In the 1Q 2017, Majors almost achieved the level of profit that was observed in 1H 2014, in times of high oil prices

• Majors’ investments continue to decline. In the 1Q 2017, the total investments of Majors was $19.4 bln (-26% q/q, -24% y/y)

Majors CapEx

-8

-3

2

7

12

2014 2015 2016 17

bln $ ExxonMobil Shell

Chevron BP

Total

0

2

4

6

8

10

12

2014 2015 2016 17

bln $

ExxonMobil Shell

Chevron BP

Total

15

The future of the US liquids production is unclear (1)

Dynamics (q/q) of the US liquids production

Source: EIA, IEA, OPEC Source: EIA

• The forecast of US liquids production growth in 2017 is constantly being revised upwards.From November 2016 to May 2017, the forecast of US liquids production in 2017 was revisedon average by +100 kb/d with each release of the STEO review.

Forecasts of US liquids production in various STEO issues

14,0

14,5

15,0

15,5

16,0

16,5

Jul-16 Oct-16 Jan-17 Apr-17 Jul-17 Oct-17

mb/d STEO, Nov 16

STEO, Jan 17

STEO, Mar 17

STEO, May 17

-0,4

-0,3

-0,2

-0,1

0

0,1

0,2

0,3

0,4

0,5

2016 2017

mb/d

EIA IEA OPEC

16

The future of the US liquids production is unclear (2)

Dynamics (q/q) of the US liquids production

Source: EIA Source: EIA

• In 2Q 2017 US liquids production has grown significantly, primarily due to the LTO growth - by300 kb/d (q/q).

• NGL production will be an important factor of growth in US liquids supply.

• The growth of US shale oil production is observed on the two largest plays – Permian andEagle Ford.

Oil production for key US shale plays

0,0

0,5

1,0

1,5

2,0

2,5

3,0

2013 2014 2015 2016 2017

mb/dPermian Eagle Ford

Bakken Niobrara

Others

-0,5

0,0

0,5

1,0

2014 2015 2016 17

mb/d LTO Other Oil

Other Liquids Total Liquids

17

Drilling activity in the US is increasing

Source: EIA, Goldman Sachs, Baker Hughes Source: EIA

• At the end of May, the number of operating oil rigs reached 720 units, which is twice thenumber of drilling rigs a year ago.

• Goldman Sachs expects an increase in the number of drilling rigs to 848 units (Jan 2018) andup to 908 units (Jan 2019). Overall, this roughly corresponds to the dynamics of the WTI with alag of 3.5 months.

• At the same time, part of the effect from the number of drilling rigs increase did not affectproduction, but moved to the growth in the number of DUC-wells

Drilled, Completed wells and DUCs for U.S. shale plays

US rig count and WTI

0

1000

2000

3000

4000

5000

6000

7000

0

200

400

600

800

1000

1200

1400

1600

1800

2000

Jan-14 Sep-14 May-15 Jan-16 Sep-16

DUC (right) Drilled Completed

0

10

20

30

40

50

60

70

80

90

100

0

200

400

600

800

1000

1200

1400

01.1

5

07.1

5

01.1

6

07.1

6

01.1

7

07.1

7

01.1

8

07.1

8

01.1

9

$/bbl.

Rigs WTI (3,5 month lag) (right)

project

18

An increase in US production will be limited short-term due to structural changes (Permian) and DUCs accumulation

Source: EIA, FIEF forecasts Source: EIA, FIEF forecasts

• In base scenario (avg. WTI = $50/barrel) we expect the US shale plays production to increase 1.7 mbd in2017-2018 (optimistic scenario $60 +2.3 mbd, pessimistic $40 - +0.5 mbd). EIA expects production to growby 2.5 mbd over the same time period (price assumption: WTI growing to $57 at 2018 year-end).

• We model each play individually and assume a long-term connection between the number of active drillingrigs and prices, taking into consideration individual production profiles and various lags between changes inactive rigs number and production levels changes.

Increase in the US shale productionScenario forecasts for the US shale production levels

7,3

6,6

5,2

5,2 (actual data for

April 2017

3

4

5

6

7

8

9

01.1

4

01.1

5

01.1

6

01.1

7

01.1

8

01.1

9

mbd

$60

price assumptions of STEO ($50-57)

$40

$50

0,74 0,81 0,86 0,96

-0,28

0,86

1,440,95

-0,5

0,0

0,5

1,0

1,5

2,0

2,5

$40 priceassumptions

of STEO($50-57)

$60 STEO*

mbd

2017

2018

FIEF EIA STEOSame price assumptions

19

US and Canada companies increased their hedging volumes in 2017, but the financial effect of hedging significantly decreased

Source: Goldman Sachs Source: FIEF, Bloomberg

• As of March 2017, US and Canadian companies had hedged a record 35% of liquidsproduction and 42% of natural gas production in 2017.

• In 2016, the hedging effect began to "fade" as a result of the expiration of derivative contractsconcluded at high prices.

• The financial effect of hedging in 2017 will be limited - about $ 900 million in 2017, while in2016 the financial effect was about $ 6.8 billion.

US and Canada companies’ income from oil and gas hedging

The share of hedged oil production by US and Canadian producers and the average price of

hedging

30% 30% 28% 33% 35%

97,7 95,2

74,0

55,0 54,3

20

40

60

80

100

120

0%

10%

20%

30%

40%

50%

2013 2014 2015 2016 2017

$/bbl

Share of hedging oil production

Hedging oil price (right)-1,0

0,0

1,0

2,0

3,0

4,0

2012 2013 2014 2015 2016

bln $ Oil hedging Gas hedging

hedged

20

Despite the extension of the Agreement, OPEC production may vary significantly

Surplus Crude Oil Production Capacity and Outages in OPEC

Source: EIA

• Spare capacity, which can be managed by the governments of OPEC countries, declined in2011-2016.

• Outages in production, caused by instability factors or technical problems in the fields,increased.

• The OPEC production can grow due to its recovery in Libya and Nigeria, which were notincluded in the Agreement.

Libya+Nigeria Oil Production

1,2

1,4

1,6

1,8

2,0

2,2

2,4

2015 2016 17

mb/d

EIA IEA

3,3

2,2 2,2 2,11,5 1,2

2,2

1,2

1,01,9 2,3

2,31,8

1,8

0,0

0,5

1,0

1,5

2,0

2,5

3,0

3,5

4,0

4,5

5,0

2011 2012 2013 2014 2015 2016 2017(Jan-Apr)

mb/dSurplus Outages

Source: EIA

21

There is still an uncertainty for estimates of future OPEC NGL production

OPEC NGL Production

Source: EIA, IEA, OPEC Source: Bloomberg

• OPEC NGL production rise in 2017 is estimated in 0,49/0,15/0,17 mb/d (y/y) by EIA/IEA/OPEC.

• The role of NGL in the export structure is growing and it must also be taken into account.

• After the lifting of sanctions, the NGL share in the structure of liquids exports from Iran grew from 12% in January 2016 to 20% in January 2017.

Crude oil and condensate export from Iran

5,8

6,0

6,2

6,4

6,6

6,8

7,0

7,2

2016 2017

mb/d EIA IEA OPEC

0%

5%

10%

15%

20%

25%

30%

0,0

0,5

1,0

1,5

2,0

2,5

3,0

3,5

2015 2016 2017

mb/d

Crude NGL NGL share (right)

22

Decrease of OPEC oil exports has not yet led to a reduction in the OPEC oil import reported by key consumers

OPEC* Crude Oil Export

*without Gabon, Libya, UAE, VenezuelaSource: JODI Source: EIA, National Statistics, Bloomberg

• OPEC countries have reduced crude oil exports in proportion with production cuts.

• In the 1Q 2017, the OPEC crude oil export decreased by 1.31 mb/d compared with 4Q 2016.

• However, the statistics of OPEC crude oil exports differ from the data from key OPEC oil importers.

• Total crude oil imports in 1Q 2017 in the US, China, Japan and South Korea from the OPEC countries amounted to 13.8 mb/d, 910 kb/d higher than in 4Q 2016.

Crude Oil Import from OPEC by key consumers

1

2

3

4

5

2013 2014 2015 2016 17

mb/d

US China Japan South Korea

16

17

18

19

20

21

22

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

mb/d

2014 2015 2016 2017

23

Ranges of estimates for Russian oil production cuts are narrow

Russia Crude Oil Production (incl. Condensate)

Source: Ministry of Energy of Russian Federation Source: Ministry of Energy of Russian Federation, EIA, OPEC

• Russian crude and condensate output dropped another 231 kb/d in April below the October level.

• In May 2017 Russia cuts production level by 310 Kb/d.

• Ministry of Energy of Russian Federation, EIA and IEA estimates for Russian production cuts are close.

Estimates for Russian oil production cuts (m/m)

-120

-100

-80

-60

-40

-20

0

De

c-1

6

Ja

n-1

7

Fe

b-1

7

Ma

r-17

Apr-

17

kb/d EIA IEA Ministry of Energy10,3

10,4

10,5

10,6

10,7

10,8

10,9

11,0

11,1

11,2

11,3

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

mb/d2014 2015 2016 2017

Conclusions and Suggestions

•The task of reducing the level of uncertainty in the world oil market has

not yet been resolved, but it can be solved by improving the system of

monitoring the global oil market with the participation / coordination of

the Monitoring Committee.

•«OPEC + non-OPEC» can set the task to become the most influential

source and supplier of information and assessments about the state and

perspectives of the market and, thereby, to become its decisive

stabilizer.

•This will overcome the destabilizing effects of the fact, that at present,

the market uses as “price setting” factors numerous doubtful news and

"statistical" data that are statistically unreliable and are, in many cases,

subject to significant revisions later on.

24

Conclusions and Suggestions

• We think it’s reasonable to gradually move from rigorous and fixed targets in

terms of production volumes to target price expectations and

correspondingly adjust the targets in accordance with the operational

analysis of the balance in the market. The natural goal of the participants

will be to maximize their revenues in the medium-term horizon.

• Due to significant quarterly changes in market balance, it may require

quarterly changes in the supplies to the market in order to stabilize its

status. In the current conditions, this is achievable, first of all, for Saudi

Arabia because of its significant reserves of spare capacity. To distribute

this function to a larger number of parties of the Agreement, it seems

preferable to jointly create pools of commercial oil stocks in countries

such as Russia.

25

26

Additional Slides

27

Production in non-OPEC countries changed differently

Oil production in Brazil, Canada, China, Mexico, the North Sea

Source: National Statistics, Bloomberg, JODI

• Oil production in China (refusal of strict energy security policy which assumed targets forproduction levels) and Mexico (insufficient level of investment and participation in theAgreement) is consistently declining.

• Canada production increased despite periodic falls caused by weather conditions.

• Production growth continues in Brazil and the North Sea.

1

2

3

4

5

2012 2013 2014 2015 2016 17

mb/d

Mexico Brazil Canada China North Sea

28

The first is RIG efficiency

Source: EIA Source: EIA

• The growth of drilling activity since 2H16, was mainly on Permian. Activity did not recover to the levels1H2015 in Bakken and Eagle Ford.

• Concentration of drilling activity on Permian (at least) in the short term will lead to a slowdown in productiongrowth, as current efficiency of Permian drilling rigs is 2-2.5 times lower than in other major plays. At thebeginning of 2017, the increase in output per drilling ahs stopped, and at Permian, even began to decline.

• From the point of view of production volumes until the end of 2018, it will "cost 0.5 mbd for US productiongrowth.

Increase in production at new wells per drilling rigThe number of active drilling rigs at key shale plays

0

20

40

60

80

100

120

201

4

201

5

201

6

201

7

2014=100%

Bakken Eagle Ford

Niobrara Permian

0

200

400

600

800

1 000

1 200

1 400

1 600

201

3

201

4

201

5

201

6

201

7

barrel/(day*unit)

Bakken

Eagle Ford

Niobrara

Permian

29

The second is an increase of DUC on the Permian

Source: EIA Source: EIA

• A sharp increase in drilling activity at Permian did not lead to a comparable increase in completed wells.Since July 2016, 25% of the drilled wells on Permian have not been completed and moved to the DUCcategory.

• This, at least in the short term, will restrain the growth of production in the industry as a whole. In the longterm, by the end of 2018, we estimate this effect to be around 0.3 mbd.

DUCs at key shale playsDUCs at Permian

0

100

200

300

400

500

600

700

800

201

4

201

5

201

6

201

7

шт.

Пробурено Закончено

0

500

1000

1500

2000

2500

201

4

201

5

201

6

201

7

шт. Bakken Permian

Eagle Ford Niobrara