• Largest US rig count drop this year. The US rig count on 20 October declined by 15 rigs to 913 rigs, which accounted for 33% of the 45-rig drop since the 2-year peak of 958 on 28 July this year. 888 rigs were working onshore in the Lower 48 states, down 13 rigs from the previous week, and the biggest single-week drop since the 14 rig loss in the week ended 11 March 2016. We note that Canada’s output, which accounts for 18% of the North American rig count, has declined by 42% or 150 rigs since 10 February this year.

• Decline led by Texas. Texas, which leads the US in shale production, led the way into negative territory, losing 8 rigs from the previous week, to 435 from 443. This drop was the largest in Texas since the week of 24 March 2016, when the state lost 12 working rigs.

• US crude production down as well. US crude production is also in the same trajectory, down 12% from the 2-year peak of 9.6mil barrels on 29 September 2017 (See Exhibit 4). This correlates to the declining trend of US rig counts, which indicate the level of drilling activities.

• Equilibrium in sight? There appears to be some equilibrium in sight for the oil & gas industry, as the pace of US crude production and the momentum of rig count acceleration appears to be tapering off. While we do not foresee a significant decline in US output in the medium term, we expect diminishing pressure from the supply imbalance to support crude oil prices, which is stabilising at over US$50/barrel levels.

• Multiple push and pull factors. Nevertheless, we note that there are still uncertainties in the price trend clarity from: 1) the ability of OPEC to ensure quota compliance as prices stabilise; 2) significant capex reductions which signal under-investment for future needs; 3) increasing proportion of renewable sources for electricity generation which could reduce liquid consumption and lead to “peak oil demand”; 4) pace of US deregulation under the Trump administration that could further accelerate crude output growth; and 5) decoupling of global economic growth from carbon dioxide emissions since 2000 in tandem with the shift towards gas and other energy alternatives together with fuel-efficient hybrid automobiles.

• Still persistent low asset utilisation levels expected for the medium term as we do not expect any significant change in Petronas’ cautious approach to upstream exploration and development expenditures. For 2Q2017 to date, contract awards have risen by 15% QoQ RM2.2bil largely due to the lumpy award of the RM1bil Bokor central processing platform project to MMHE. For Malaysian operators, which operate wholly offshore, weak capex rollout prospects mean that the worst can stretch for quite a while for those struggling with high gearing such as Bumi Armada and UMW Oil & Gas. Locally-based companies such as Perisai Petroleum Teknologi, Alam Maritim and Nam Cheong Group are currently in financial distress.

• Most of Petronas’ capex spent on RAPID. Petronas’ capex declined 21% QoQ to RM9.4bil in 2Q2017, which led to a decrease of 15% YoY to RM21.3bil in 1H2017, of which 59% was spent on the US$27bil Refinery and Petrochemical Integrated Development (RAPID). RAPID has reached a completion stage of 70%, compared to only 20% for exploration and development. So far, the 1H2017 capex spending accounts for only 35% of the RM60bil guided by Petronas for this year with average Brent crude oil prices assumed at US$45/barrel.

• Flat oil price forecast for 2017-2018. As Brent crude oil spot has currently risen above US$55/barrel, we maintain our 2017- 2018 projection at US$50-55/barrel for now. As a comparison, Petronas is projecting an average of US$45/barrel for 2017 while the EIA forecasts US$52/barrel for 2017 and US$54/barrel for 2018.

• Maintain NEUTRAL stance as the prospects of the sector over the next 12 months are muted given that the direction for crude oil price appears to be “lower for longer”. Our top picks are companies with stable and recurring earnings such as Dialog Group and Yinson Holdings. Dialog’s earnings visibility is secured largely by the Pengerang Deepwater Terminal project with its enlarged buffer zone while Yinson’s Ghana floating production, storage and offloading vessel project will provide the earnings momentum over the next 2 years. Our HOLD calls are for Sapura, MISC, MMHE, Bumi Armada and UMW Oil & Gas while Petronas Gas is a SELL due to the upcoming implementation of the incentive-based regulatory tariff setting mechanism.

Source: AmInvest Research - 23 Oct 2017