17 September 2012

Market Outlook Issue # 7

Oil Market Factors Factors Affecting Crude Oil and Refined Product Markets Overall Trend: The latest round of financial support (QE3) by the US treasury and ongoing tensions in the Middle East are propping up crude and product prices. However, this is still countered somewhat by the plentiful supply of physical crude. The improving demand outlook for products in the key markets is likely to add some support for further price rises. We expect Brent crude to continue to trade in the US$110-120/bbl range in absence of any major economic or political events. Crude Oil M Brent crude continued its bull run climbing another US$3/bbl over the last week following the announcement by the US federal reserve of additional financial support for the US economy. This is expected to stimulate product and crude demand. This follows on from recent moves by the German Court sanctioning the countrys proposed Euro bailout package. As if there wasnt already enough unrest, tensions in the Middle East have increased again with attacks on US sites in Libya, Yemen and Egypt following release of a US made film insulting the Prophet Mohammad. Moves by China to assert ownership over disputed territories in the South China Sea are causing new tensions in the area adding to global woes. US crude stocks increased by a further 2 million barrels according to the latest statistics and remain at historically high levels due to poor product demand. The Brent forward price curve has become increasingly backwardated in the near term with November contracts now trading US70c below October. Prices further out drop by around $4.50/bbl by end 2013. Products F Whilst there has been limited damage from hurricane activity in the US, typhoons in Asia are impacting on supplies and shipping in the area. Risk of further severe weather disruptions will continue to prop up prices in the short term. A heavy refinery maintenance programme in the US in October will tighten supplies in the short term US product stocks continue to remain at historically low levels with buyers unwilling to hold high stocks and risk losses due to future price drops. As a consequence near term prices are high even though forward prices continue to be backwardated. There is very little incentive to build stock levels in a backwardated market. Likely Impact on prices

F F

17 September 2012

Market Outlook Issue # 7

F Demand for high octane gasoline in Asia continues to be robust leading to a significant premium for 95/97 octane gasoline over the base grades. The forward price curve for gasoline continues to be backwardated over the next few months due to low product stocks. However, the US Treasury financial support package has lifted future demand assumptions and propped up the price curve further out. Near month refining margins for gasoline have climbed to over US$10/bbl versus Dubai but rather than crash further out, the prices in later months now hold up at around US$8/bbl through to early 2013. Japanese and Korean demand for kerosene (used as a winter heating fuel in North Asia) is putting pressure on Jet availability and boosting prices. Gasoil (diesel) refining margins versus Dubai have weakened slightly to around US$18/bbl for near term supply however the forward price curve is being held up by the increased kerosene demand and is now showing a slight contango through to end 2013.

F: Fundamentals (supply & demand) / M: Momentum (sentiment) Figure 1: Brent Oil & Gas Oil month average and futures contracts $145 $135 U S D / $105 b b l $95 $85 $125 $115

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

Brent Oil Futures Gas Oil Futures

17 September 2012

Market Outlook Issue # 7

Macro-Economic Indicators USAs third round of quantitative easing has been agreed at US$40b per month. The time frame is open ended. The Federal Reserve has pledged to keep short-term interest rates near zero until at least mid 2015. European Central Bank (ECB) president Mario Draghi has pledged to do whatever it takes to safeguard the euro. The German Constitutional Court has said the Germans can participate in the bailout fund. The ECB said it will buy short-dated bonds of the struggling southern countries. Spain sunk further into recession in the 2nd quarter, setting off expectations that it will have to ask for full-blown international assistance. The Chinese economy has been slowing down faster than previously expected and has wound back its demand for foreign resources. Manufacturing data out of China unexpectedly shrunk for the first time in 9 months, falling to 49.2 in August from 50.1 in July. Chinese Premier Wen Jiabo said the nation is confident in its ability to meet its economic goals for the year. Currency Factors NZD/USD moved higher last week to .8354 after confirmation that the US Federal Reserve has released another package of quantitative easing (QE3). The Federal Reserve will keep US interest rates at current low levels until at least 2015, and buy US$ 40 billion of mortgage debt a month, in order to provide support for economic growth in the US. In combination with better outcomes from European news, the overall effect is the market is willing to buy assets such as equities, commodities and currencies like the NZD. NZD/USD strength has come from: o More positive global risk sentiment from potential rescue packages to address European economic crisis. o Offshore buyers of NZD and AUD as a diversification away from other major currencies such as EUR and the USD. o Drought conditions in the US, India, Russia, and North Korea are increasing food prices, with higher prices expected for food producing countries like New Zealand and Australia. o Confirmation over the last month United States and European Central Banks, are willing to launch rescue packages to support their economies, and taking a do whatever it takes attitude to not allow economic weakness to accelerate. The main reasons for forecasting periods of NZD weakness are: o Offshore investor fear over Europe-led global slowdown and worldwide coordinated recession, o Higher NZD dollar causing lower growth in NZ economy, and lowering business confidence levels, o Weaker Chinese economic data o Lower commodity prices from lower world growth, and o Lower NZ interest rates.

17 September 2012

Market Outlook Issue # 7

Factors Affecting NZD/USD Overall: The NZD has been stronger, based on market perception that the global financial crisis risks have reduced over the last month, with the intervention of European and US Central banks. 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). NZ commodity prices have being trending lower, especially dairy prices. A wide spread drought in USA has increased grain and corn food prices, and has stabilised the fall in NZ export prices, and will continue to provide a boast to NZD sentiment due to being a food exporter. Current market sentiment is neutral to weak (lower Europe and US growth rates, and reduced economic activity reports from China). Key economic data releases and events in September to date have encouraged increased risk taking. Stimulus packages from world Central Banks (in the form of Quantitative Easing) have being launched. 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. NZD has support at .8060/.8130, so if it remains above this level, the risk is that the NZD will move higher to .8420/.8800. If the NZD/USD rate drops below .8060 then it is likely to move lower to .7850 Likely Impact

Fair value long term Fair value short term Interest Rates

Commodities

Risk aversion

Monetary Policy

Technical Analysis

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. http://www.z.co.nz