Straits Talking: Iraq As Good As It Gets?

In conjunction with our commodity and oil services teams, we take a detailed look at the outlook for Iraqi oil production over the coming few years. Financing pressures and slowing investment activityremove further upside to volumes, in our view

One of the big positive oil supply surprises this year has been Iraq : Based on July production figures, Iraq has been the strongest contributor to global oil supply in the last year, just ahead of the US, with total crude production increasing from 3.2mb/d in July 2014 to 4.2mb/d in July 2015. This has been driven by the removal of export and infrastructure constraints in the south, increased pipeline and production capacity in Kurdistan, and the separation of heavy and light crude streams.

However, several headwinds to production growth emerging: With these infrastructure and crude marketing tailwinds now largely played out, we see limited prospects for further production growth, especially given several key challenges: 1) Significant pressure on Iraqi government finances due to the weak oil price and the ongoing fight against ISIS (Daesh) – at $50/bbl, the IMF estimates Iraqi foreign reserves will more than halve by the end of next year; 2) Clear evidence of a slowdown in current upstream investment activity, with ~30% capex cuts announced on some of Iraq’s largest oil fields and a halving in the oil-directed rig count in the last 12 months; and 3) Proprietary, bottomup analysis from our European oil field services team suggests a relatively weak outlook for contracting activity in Iraq and a risk of delays to some key projects.

Lowering production forecasts – Iraq now ex-growth out to 2020 : Given these headwinds, our commodity team have lowered their Iraq oil supply forecasts and now expect Iraq oil production to average ~4.2mb/d in 2016, broadly flat compared to Iraq’s production levels in June and July. They also now forecast a slight decline in Iraqi production between 2016-2020 compared to previous forecast growth of over 500kb/d.

Stock implications – UW Petrofac and Tecnicas; OW Genel: We highlight our Underweight ratings on Petrofac and Tecnicas Reunidas as a way to play a slowdown in activity levels in Iraq given market expectations for a Middle East ‘bright spot’ in spending.
However, we are Overweight Kurdistan pure-play, Genel Energy, as we think the shares discount an overly bearish outlook for export payments and gas development progress, offering an appealing risk-reward.

Morgan Stanley Research