While oil prices are expected to improve, the outlook for natural gas isn’t as favourable.

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So says Gary Chapman, a senior portfolio manager and managing director of Canadian equity at Guardian Capital. He manages the Renaissance Canadian Growth Fund.

“World [oil] consumption tends to grow at about one million barrels a day, and we expect it’ll grow even faster due to lower prices and elasticity of demand. So, combining reduced production and [increased] consumption would reduce the 1.5-million-barrel-a-day surplus that caused prices to collapse,” says Chapman.

As a result, he anticipates prices will return to between $65 and $75 per barrel in 2016. “While many shale oil plays could have satisfactory returns on investment at lower prices, energy companies wouldn’t generate enough cash flow to drill enough wells to offset the steep production decline rates that shale oil plays exhibit.”

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And, “[oil] companies [couldn’t] borrow or raise equity easily or sufficiently at lower prices to offset the reduced cash flows—hence the declining production in the United States.” Indeed, the country’s three largest shale oil fields, Bakken, Eagleford and Permian, are all edging into decline.

What’s more, many large projects in Brazil and Canada are being deferred or cancelled, which “would affect supply four or five years out.”

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Chapman’s positive outlook will change, however, if the U.S. makes a deal with Iran. If sanctions are lifted, “An extra 30,000 barrels a day of floating oil storage could come to market quickly, and an additional 300,000 barrels a day of production would come to market in three or four months.”

In a few years, that production could grow to between 700,000 and one million barrels, says Chapman. “If so, oil prices could be below $65 per barrel for some time.”

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Natural gas outlook

Up until the end of 2014, Chapman had forecasted benchmark natural gas prices would be between $3.50 and $4.50 per million cubic foot (MCF). But production has risen from 66 billion cubic feet per day to 77 billion; prices have since fallen below $3.50 MCF.

“Complicating matters is that Marcellus Utica gas in the U.S. Northeast, where very low cost production is rising dramatically, will be less trapped as pipelines into [that] former natural gas importing region are reversed and newer pipes are built to take gas out,” says Chapman.

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Once that supply is no longer trapped, prices will decrease in North America – particularly in Alberta – since the northeast natural gas will become a direct competitor with the U.S. Midwest and Canada.

But, “over time the pressure on natural gas prices will ameliorate,” Chapman says. That’s because:

  1. gas associated with oil wells will decline as fewer oil wells are drilled;
  2. the number of rigs drilling for natural gas is in decline;
  3. shale gas well decline rates are very high;
  4. over time, industrial demand for natural gas for things like chemicals, power and fertilizers will increase;
  5. liquid natural gas will start leaving the U.S. for export markets (by 2016, there should be almost one billion cubic feet a day getting shipped out); and
  6. Mexican demand for U.S. natural gas will increase as pipes get built into Mexico to replace high cost liquid natural gas that they import from off the continent.

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And, unlike shale oil, natural shale gas is “almost unlimited, which will likely keep U.S. gas prices well below $4.50 MCF, even when these demand factors come back.”


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