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Energy Market Tutorial Presented by Company Webb.

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Presentation on theme: "Energy Market Tutorial Presented by Company Webb."— Presentation transcript:

1 Energy Market Tutorial Presented by Company Webb

2 Energy Discussion Topics Basic Definitions Basic Definitions Exploration and Production Exploration and Production Energy Supply and Demand Energy Supply and Demand Petroleum Refining Petroleum Refining Energy Commodity Trading Energy Commodity Trading Physical versus Financial Trading Physical versus Financial Trading New York Mercantile Exchange New York Mercantile Exchange Trading Terminology Trading Terminology Conclusion Conclusion

3 Basic Definitions Petroleum refers to crude oil or the refined products obtained from the processing of crude oil (gasoline, diesel fuel, heating oil, etc) Petroleum refers to crude oil or the refined products obtained from the processing of crude oil (gasoline, diesel fuel, heating oil, etc) Natural gas is a nonrenewable source of energy used for heating and generating electricity Natural gas is a nonrenewable source of energy used for heating and generating electricity

4 Basic Definitions Crude oil is measured in barrels Crude oil is measured in barrels 1 barrel = 42 gallons 1 barrel = 42 gallons Natural gas is measured in British Thermal Units (BTU) Natural gas is measured in British Thermal Units (BTU) 1 BTU = amount of heat energy required to raise 1 lb of water by 1 degree Fahrenheit 1 BTU = amount of heat energy required to raise 1 lb of water by 1 degree Fahrenheit Gasoline is measured in gallons Gasoline is measured in gallons 1 gallon of gasoline = 124,000 BTUs 1 gallon of gasoline = 124,000 BTUs

5 Exploration and Production Oil and natural gas were formed from the remains of animals and plants that lived millions of years ago in a marine (water) environment before the dinosaurs Oil and natural gas were formed from the remains of animals and plants that lived millions of years ago in a marine (water) environment before the dinosaurs Over the years, the remains were covered by layers of mud Over the years, the remains were covered by layers of mud Heat and pressure from these layers helped the remains turn into crude oil, natural gas, and coal Heat and pressure from these layers helped the remains turn into crude oil, natural gas, and coal

6 Energy Supply The worlds top 5 crude oil producing countries are: The worlds top 5 crude oil producing countries are: 1. Saudi Arabia 2. Russia 3. United States 4. Iran 5. China About 59.5% of petroleum used in the U.S. comes from other countries About 59.5% of petroleum used in the U.S. comes from other countries

7 Energy Supply Most of the natural gas consumed in the United States is produced in the United States Most of the natural gas consumed in the United States is produced in the United States There were 394 active underground storage fields in the Unites States in 2005 There were 394 active underground storage fields in the Unites States in 2005 The Federal offshore Gulf of Mexico and 5 states accounted for 77.1% of natural gas production in 2005 The Federal offshore Gulf of Mexico and 5 states accounted for 77.1% of natural gas production in 2005

8 Energy Demand In 2005, total US petroleum demand was 20.8 million barrels per day In 2005, total US petroleum demand was 20.8 million barrels per day In 2004, the 3 top petroleum consumers were: In 2004, the 3 top petroleum consumers were: 1. United States 2. China 3. Japan Approximately 22% of US energy consumption comes from natural gas Approximately 22% of US energy consumption comes from natural gas

9 Petroleum Refining A refinery takes crude oil and turns it into gasoline and hundreds of other useful products A refinery takes crude oil and turns it into gasoline and hundreds of other useful products Products from crude oil include gasoline, diesel fuel, heating oil, jet fuel, and asphalt Products from crude oil include gasoline, diesel fuel, heating oil, jet fuel, and asphalt

10 Petroleum Refining Products made from a barrel of crude oil Products made from a barrel of crude oil

11 Energy Commodity Trading Commodities can be traded either physically or financially Commodities can be traded either physically or financially Physical trading involves the actual delivery and receipt of the commodity Physical trading involves the actual delivery and receipt of the commodity For example, Company A agrees to deliver 100 barrels of crude oil to Company B at a specific location and price today For example, Company A agrees to deliver 100 barrels of crude oil to Company B at a specific location and price today Financial trading involves contracts for future delivery Financial trading involves contracts for future delivery For example, Company A agrees to deliver 100 barrels of crude oil to Company B at a specific location and price at some time in the future For example, Company A agrees to deliver 100 barrels of crude oil to Company B at a specific location and price at some time in the future Delivery and receipt only required if contract expires and holder hasnt offset (e.g. sold/bought contract to/from another person) Delivery and receipt only required if contract expires and holder hasnt offset (e.g. sold/bought contract to/from another person)

12 Energy Commodity Trading Physical vs. Financial Physical vs. Financial Under a physical transaction, delivery and receipt of the commodity is required for each party at a time shortly after the transaction date (e.g. for natural gas, delivery/receipt may be required the next day) Under a financial transaction, each party is obligated to deliver and receive the commodity at some time in the future Trader not obligated if the contract position is offset to another party before the contract expires The contracts that are traded are financial derivatives that derive their value from the underlying commodity PhysicalFinancial Delivery/ReceiptRequiredObligated TimeNowLater Trading Type SpotFutures

13 Energy Commodity Trading The New York Mercantile Exchange (NYMEX) is a regulated exchange that facilitates the trading of financial energy commodity contracts (i.e. futures contracts) The New York Mercantile Exchange (NYMEX) is a regulated exchange that facilitates the trading of financial energy commodity contracts (i.e. futures contracts) NYMEX provides liquidity, price transparency, and credit to the buyer and seller of the contract NYMEX provides liquidity, price transparency, and credit to the buyer and seller of the contract NYMEX also acts as clearinghouse to each transaction NYMEX also acts as clearinghouse to each transaction Buyer buys from NYMEX Buyer buys from NYMEX Seller sells to NYMEX Seller sells to NYMEX

14 Terminology Energy trading is no different than stock or bond trading Energy trading is no different than stock or bond trading A trader forms a market view and takes the corresponding position A trader forms a market view and takes the corresponding position If trader believes that prices will rise (bullish), the trader should buy low, then sell high If trader believes that prices will rise (bullish), the trader should buy low, then sell high If trader believes that prices will fall (bearish), the trader should sell high, then buy low If trader believes that prices will fall (bearish), the trader should sell high, then buy low A traders position is either long or short A traders position is either long or short If long, the trader has bought more contracts than he has sold If long, the trader has bought more contracts than he has sold If short, the trader has sold more contracts than he has bought If short, the trader has sold more contracts than he has bought

15 Terminology Market View PositionOpinion BullishLong Prices are going up BearishShort Prices are going down

16 Terminology The New York Mercantile Exchange requires the holder of a futures contract to post margin The New York Mercantile Exchange requires the holder of a futures contract to post margin Margin is similar to the collateral that your lender would require for a loan Margin is similar to the collateral that your lender would require for a loan Margin requirements change as the price and volatility of the commodity change Margin requirements change as the price and volatility of the commodity change A rule of thumb is that margin requirements are about 10% of the contract value A rule of thumb is that margin requirements are about 10% of the contract value

17 Terminology The terms of a futures contracts are standardized for each transaction The terms of a futures contracts are standardized for each transaction Volume Volume $/unit $/unit Delivery/Receipt Location Delivery/Receipt Location Each commodity contract has its own specific terms: Each commodity contract has its own specific terms: CommodityUnitsVolumeQuote Crude Oil Barrels1,000$/barrel Heating Oil Gallons42,000.$/gallon GasolineGallons42,000.$/gallon Natural Gas BTUs 10,000 MM $/MMBtu

18 Crude Oil Example Trader buys contract when crude is $60/barrel Trader buys contract when crude is $60/barrel Since trader buys contract, he expects prices to rise (I.e. bullish) NYMEX requires trader to post margin (if 10% of contract value, then $6,000) Trader owns a contract worth $60,000 Trader sells contract when crude is $80/barrel Trader sells contract when crude is $80/barrel NYMEX releases margin (assumed to be $6,000) Trader sells a contract worth $80,000 Trader profits by $20,000 because he bought a contract for $60,000 and sold for $80,000 $/barrelVolume Contract Value $601,000$60,000 $701,000$70,000 $801,000$80,000

19 Crude Oil Example The trader only needed $6,000 to make $20,000 in this example The trader only needed $6,000 to make $20,000 in this example Trader could have lost $20,000 if prices fell to $40/barrel Trader could have lost $20,000 if prices fell to $40/barrel Compare this example to stock investments Compare this example to stock investments Trader buys 100 shares of ABC stock at $60/share (100 shares * $60/share = $6,000) Trader buys 100 shares of ABC stock at $60/share (100 shares * $60/share = $6,000) Trader sells 100 shares of ABC stock at $80/share Trader sells 100 shares of ABC stock at $80/share Trader profits by $2,000 (100 shares * $20/share) Trader profits by $2,000 (100 shares * $20/share)

20 Conclusion The energy markets have attracted many investors over the last decade The energy markets have attracted many investors over the last decade Energy prices are extremely volatile Energy prices are extremely volatile Volatility creates both risk and opportunity Volatility creates both risk and opportunity Not suitable for everyone Not suitable for everyone Contact for more information Contact for more


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