Best Energy GEMsPlays for 2010

•We are more aggressive than Consensus on Oil prices:Oil prices will rise in the medium term as supply challenges are re-assessed, in our opinion —ultimately, price will need to go substantially higher to ration demand. Our 2012 forecast of US$105/bbl is 15% ahead of the Street. We see oil prices testing US$95/bbl by year-end as demand stabilizes, inventory falls, and the call on OPEC rises. Please refer to Fundamentals Improving: Raising Oil Price Forecastdated January 24, 2010 by Hussein Allidina for more details.

•Least conviction on Refining:While lackluster refining margins bottom-out in 2010, we prefer to play integrated or petrochemical stocks.
•Our GEMsportfolio is overweight Energy :The energy weighting is 30% against MSCI EM portfolio having a 14.5% weight. Within Global Emerging Markets (GEMs), our strategist’s preference is for Russia and China.
•We believe GEMshave two common themes: Improving government regulations and focus on increasing reserves domestically and internationally.

•Our ten key favourites:
E&P: Cairn, CNOOC, Rosneft, Gazprom
Services: OGX, China Oilfield Services
Integrated: Reliance Industries, Petrobras, SK Energy
Petrochemicals: Formosa Plastics

Key Picks by Region

Brazil
•Petrobras–Play on increasing production, cheap valuation, scaling taxation on changes in oil price; global oils leverage.
•OGX–Pure play in Brazil, company is at an important turning point whereby it is shifting from exploration to production, demanding higher valuation.

China
•CNOOC–Play on higher oil reserves via M&A and gas reserves in deep water offshore China; global oils leverage.
•COSL –COSL is a play on higher E&P capex.Day rates have bottomed, and COSL's2010 earnings should be helped by additional new capacity.

India
•Reliance –Play on increased E&P reserves specially gasin India; and high leverage on refining and petchem cycle.
•Cairn India–Leveragedplay on crude oil prices in India and we like it over ONGC/ OilIndia, since the company does not face risks on subsidy burden.

Korea
•SK Energy –Play on increasing E&P production; and upside on auto battery.

Russia
•Gazprom–Play onderegulation of domestic gas prices,partial recovery in export pricing/volumes, improvinggas relations with the Ukraine and attractive valuations.
•Rosneft–Play on access to Russian resources, strongest growth, and given tax relief, best leverage to oil prices. Being overweight this stock makes even more sense due to its discount to Petrobras.

Gazprom –Max Pain Point?

•Gazprom’s 2009 performance ranked last among the Russian large cap energy names, thwarted by market anxiety over balance sheet strength, capex rigidity, domestic gas pricing and market share, weak production and export volumes, threats to export contract pricing, and risk of new Ukrainian tensions.
•We think Gazprom is at or near a “Max Pain”point,and expect trend stability/improvement on three key issues fromhere: 1) European exports, 2) Ukrainian relations, and 3) domestic market conditions. We also think valuation reflects an excessively pessimistic view of Gazprom’s prospects, and balance sheet issues were never material in thefirst place, in our view.
•We think Gazprom’s export contracts are likely “hold up”in 2010and the foreseeable future, with fears of a rupture in the oil-index basis justifiable but overblown. For 2010, we see a substantial rebound in export volumes and production volumes, though still well short of 2008 levels.
•We think market fears of an accelerating erosion of Gazprom’s domestic market share are excessive; we expect stability or growth in Gazprom’s domestic sales in 2010; the “domestic story”will again flourish if the government clarifies the plan for liberalize domestic gas markets.
•On both a multiple and DCF basis, we think the current share price excessively discounts the risks facing Gazprom’s business from here. We have Gazprom among the least expensive names in large cap global energy.

OGX –Pure Player in the Brazilian Offshore
Investment Thesis
-Experienced management team: Former employees of Petrobraswere hired to start a pure E&P company. The man behind the pre-salt discovery is Paulo Mendonça, COO of OGX.
-Large resource base: D&M made the appraisal of OGX’snet risked prospective resources at 6.8bn boe(risked at 34%). The resources are divided in four different basins (Campos, Santos, EspiritoSanto and Para-Maranhão)
-Successful drilling activity: Since the beginning of the exploratory campaign, the company had a 100% success ratio, de-risking nearly 3.5bn boe.
-Valuation is attractive: The stock is trading at US$3.5/boe (net risked prospective resources) at a discount to its pure E&P companies in the UK (~US$7/boe). We expect first oil in 2H2011 and potential farm-down of the blocks in 2H2010.

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