Rita's Legacy:
Higher Winter Costs, Lower Spring Supplies

On the Saturday and Sunday after Rita made landfall, oil and gas producers seemed to breathe a collective sigh of relief, as their worst fears had been avoided. However, as the inspection reports come in, it appears that the industry has taken several significant blows, which if confirmed and extended by subsequent reporting, could show that Rita has had or will have an impact on Gulf of Mexico oil and gas output roughly the equivalent to Katrina.

• Natural gas prices at Henry Hub were expected to be double the level of last winter, and homeowners will be paying $14-16 per mmbtu, a 40% increase over last winter's rates and a 65% increase over 2003's price.
• Heating oil prices this winter are expected to be $2.25/gallon or 24% higher than last year, and 65% over 2003's price.
• Electricity prices are rising rapidly as several utilities have already filed for rate increases and others are passing higher fuel costs through to consumers.

• Initial reports from major drilling rig contractors indicate that three deepwater semi-submersibles suffered severe damage. The same reports identify four jack-up rigs that have been lost, with another three severely damaged. These losses, combined with those due to Katrina, amount to approximately 15% of the rigs working in the Gulf of Mexico prior to Katrina.
• Chevron's Typhoon deepwater tension leg platform has apparently been capsized, knocking it out of service indefinitely, if not permanently. Unconfirmed reports indicate one of the three damaged semi-submersible drilling units rammed the Typhoon platform, knocking it off station and bulldozing it over. This facility accounts for 18 thousand barrels per day of oil and 28 thousand cubic feet per day of production.
• Reports, as yet unconfirmed, indicate that fixed leg platform attrition has occurred in the East Cameron, Vermillion, and South Timbalier offshore areas.
• Cameron and Vermillion parishes produced on a combined basis prior to Rita approximately 20 thousand barrels per day of oil and 500 thousand cubic feet of gas. Given the general devastation of these areas, most of the production is likely shut-in indefinitely.
• There is relatively little news about the status of the oil and gas support infrastructure. The data that are available suggests that this segment of the industry may be the most affected.
  • Onshore receiving, processing, and compressor facilities in Cameron and Vermillion parishes handle approximately two billion cubic feet per day of gas. As of Tuesday morning, few reports are available on the condition of these important facilities, in many cases because assessment teams have been prevented from reaching the sites due to flooding and general damage. However, given the widespread devastation along the coasts of both parishes, there are concerns that damage to these assets could be severe and extensive. If so, these facilities would be on the critical path to restoring the majority of production knocked offline due to Rita.
  • At this time, there are no reports on the condition or status of offshore pipelines.
• Impact on oil and gas production: The disruptions and resource diversions due to Rita will likely delay Katrina recovery efforts by two to four weeks, leading to:
  • Lost oil production from Rita adding 10-20 million barrels to the 35 million barrels of lost production from Katrina.
  • Lost natural gas production from Rita adding 25-40 billion cubic feet to the 170 billion cubic feet of lost production from Katrina.

• Refining capacity shut-down by Hurricane Rita is expected to return to full production over the next month.
  • Refineries in Houston and Texas City are returning this week.
  • Port Arthur and Lake Charles refineries will come on stream over the next couple weeks to one month, delayed primarily by the lack of electric power supply.
  • Four refineries shut-down by Hurricane Katrina remain closed.
• Impact on crude oil inventories: Over 70 million barrels of crude oil will not be refined by mid-October as a result of reduced demand from refinery shut-downs. This comes on top of already high U.S. crude oil inventories.
• Impact on gasoline supplies: The gasoline market is still very tight, but supplies are likely to adequate from (1) sustained higher imports, (2) higher gasoline production from refineries unaffected by the hurricanes from deferred maintenance, delays switching to heating oil production, and added flexibility resulting from gasoline specification waivers, and (3) slowing demand.
• Middle distillate supplies lost from the combined effects of Rita and Katrina could drive U.S. inventories from the seasonal high levels prior to the hurricanes to seasonally low levels by the time the Rita-related shut-downs return to operation. Four refineries remain closed from Katrina. As a result, heating oil markets could begin to tighten as we move into the fourth quarter. However, prior to Rita, U.S. production was running well above last year. If refiners return to these levels of production, supplies should be adequate by the time the heating season begins. In addition, since the Atlantic basin is well supplied, the United States will be able to import supplies to meet demand.

• Crude Oil: Lost crude oil production is offset by the drawdown of the Strategic Petroleum Reserve and IEA's Strategic Reserves. Crude prices should remain in the low-to-mid-$60s, reflecting the continuing tight balance globally and the dearth of light sweet crude supply.
• Gasoline: Gasoline prices should slowly erode as refining systems return to pre-Katrina operational levels. Imports from Europe and reduced demand due to $3 per gallon pump prices should return pump prices to $2.50 per gallon by December.
• Home Heating Oil: Home heating oil prices hit the highs of gasoline, but should catch up over the next few months as refiners restock gasoline inventories, delaying the production of needed distillate stocks. Imports will help to ease this problem, and the delivered price of home heating oil will hover in the mid-$2 range.
• Natural Gas: The rise in natural gas prices over the last month will not erode; if anything they will increase. Since the United States has only limited capacity to import natural gas, the market must balance on available domestic supplies. Henry Hub prices will vary between $12 and $15 per mmbtu based on the severity of the weather. The most price-sensitive industries will shut-in, particularly with the mismatch between oil and gas prices.

• Many rigs have been damaged or lost.
• Globally, rigs have been in short supply. Can they be repaired or replaced in time to bring production on-line in 2006?
• Resource diversion from supporting new resource development to repairing and rebuilding damage to existing infrastructure. Substantial investment had been planned. While the financial resources are available, how soon can manpower and equipment return to new field development?

• Crude prices may stay high as the disappearance of light and medium sweet supply exacerbates the imbalance in the global market.
• Natural gas prices may remain stubbornly above $10 per mmbtu resulting in substantial reductions in industrial use of gas and threatening economic performance.

• Longer term Gulf of Mexico productive capacity
• U.S. natural gas supply and demand policies
• Energy security policies
• Policies affecting siting and development of energy infrastructure