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Five Critical Energy Themes for the Decade …and Using More Gas is One of Them Natural Gas Roundtable 27-April-2010

Five Critical Energy Themes for the Decade …and Using More Gas is One of Them Natural Gas Roundtable 27-April-2010 Adam Sieminski, CFA Chief Energy Economist Deutsche Bank adam.sieminski@db.com +1 202 662 1624

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Five Critical Energy Themes for the Decade …and Using More Gas is One of Them Natural Gas Roundtable 27-April-2010

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  1. Five Critical Energy Themes for the Decade…and Using More Gas is One of ThemNatural Gas Roundtable 27-April-2010 Adam Sieminski, CFA Chief Energy Economist Deutsche Bank adam.sieminski@db.com +1 202 662 1624 All prices are those current at the end of the previous trading session unless otherwise indicated. Prices are sourced from local exchanges via Reuters, Bloomberg and other vendors. Data is sourced from Deutsche Bank and subject companies. DISCLOSURES AND ANALYST CERTIFICATIONS ARE LOCATED IN APPENDIX 1.

  2. Five Critical Energy Themes The world is not running out of oil, but there is no lack of national security issues Growth in energy demand is shifting to the developing nations Dealing with Climate Change is not going to be easy Shale Gas in North America has altered the natural gas production outlook Energy Policy needs to address gas demand These issues will drive the energy debate

  3. Top Ten Issues in US Gas Supply and Demand 2

  4. #10: US Gas Rig Count Showing Resiliency US Gas Rig Count US Rig Count by Drilling Type Source: Baker Hughes Source: Baker Hughes Outlook • US natural gas rig count bottomed in July 2009 • Horizontal rig count now higher than it was at the 2008 peak- and the horizontal drilling is mostly for gas. • US natural gas production is responding positively. 3

  5. US Gas Production Showing Resiliency Too US Gas Production (wet) Source: US DOE/EIA Outlook • We believe US natural gas production is responding positively to innovations in shale gas output, including horizontal and pad-based drilling, multi-stage fracturing and lateral offset drilling. • The estimated “completions backlog” is starting to clear. Drilling plans in high-profile, high-volume shale plays appear resilient even in a lower gas price environment given hedges and a cash requirements. 4

  6. #9: Wave of New LNG Projects Surging onto Markets Projects delayed in 2007-09 are coming on stream in 2010-11 LNG availability will increase dramatically over the next 18 months. Source: Wood Mackenzie 5

  7. Saved by European Regas Capacity Growth? Ability to absorb LNG Significant LNG regas capacity in Spain, the UK, and France should help absorb additional supplies. Physical and regulatory constraints still restrict the flow of gas and preclude the development of clear basis differentials to hubs where they exist. Source: Wood Mackenzie 6

  8. #8: When Does Gas Shut In? We believe it would take sub-$3 gas to prompt widespread economically driven shutting-in Source: Deutsche Bank estimates Outlook • Certain producers begin curtailing production when gas hits “cash breakeven” levels, which may be why the gas contract has found recent support in the mid-$3 realm. • We believe it would take sub-$3 gas to see widespread shut-ins, given other field-specific constraints (reservoir damage avoidance, etc). 7

  9. What Defines “Mid-Cycle” Gas Pricing? Based on sector cost profiles, we think $6-7 defines the range E&P valuations tend to track F&D costs, which in turn seem to circularly average about one-third of prevailing commodity prices Source: Company data, FactSet, Deutsche Bank estimates 8

  10. #7: Shale’s Increasing Importance in Production Shale gas plays reversed the downtrend in US natural gas production We think the US will be adequately supplied given current economic/demand forecasts and apparent economics on the key shale growth plays. 2008 production (bcf/d) Source: DOE/EIA, Deutsche Bank estimates Outlook • Independent natural gas producers are showing an impressive ability to develop shale plays around the US • Unlike past recovery cycles, there is no front-end exploration phase required today; shale plays are well-established • With circa 800 rigs still idle, an activity ramp-up simply awaits a return of higher prices • New shale wells are at least 3x as productive as one- to two-year old wells • Production growth in 2010 and beyond is expected to be led by the Haynesville, Fayetteville, Marcellus, Eagle Ford, and Woodford Shales. 9

  11. Shale Gas… Looks Like It’s Everywhere Major North American shale basins Most recent estimates of technically-recoverable natural gas in the US are pegged at a whopping 1,836 TCF, up 39% from just two years ago. This implies almost 100 years of supply at current consumption rates. Source: Wood Mackenzie, Deutsche Bank 10

  12. …And It’s Inexpensive Est. PreTax IRR assuming $5-8/mmbtu gas Est. NYMEX price required for a 10% pretax IRR Source: Company data, Deutsche Bank estimates Outlook • We estimate total ultimate sustainable deliverability from the major shales at ~29 Bcf/d (some estimates range as high as 30-39 Bcf/d), which compares to a current lower-48 conventional production base of 28 Bcf/d • Per the figures above, virtually all of these shale plays work at gas prices of $5/MMbtu and higher • We estimate that conventional US production would have to drop by ~9%/annum over the next two years in order to offset anticipated growth in shale plays by the dominant US players 11

  13. …As Long as We Don’t Restrict It Outlook • EPA released a study on hydraulic fracturing in 2004, concluding that the technology “poses little or no threat” to drinking water supplies. The original study was aimed at coal-bed methane wells and not shale gas wells. • An October 2009 appropriations bill’s conference committee report requested that the EPA conduct a new study of the relationship between hydraulic fracturing and drinking water. • Many of the complaints about shale gas seem to focus on above-ground issues such as drilling sites, compression stations and produced-water disposal, rather than underground potable water contamination. EPA’s 2004 study recommended that diesel fuel not be used in fracturing. Concern about the current “recipe” of chemicals used in fracturing fluids remains an issue. Source: Deutsche Bank 12

  14. #6: Macro US Natural Gas Demand Model US natural gas demand Model coefficients The economy is the most important factor in driving natural gas demand. Source: DB Global Markets Research Outlook • US natural gas use is driven by GDP, heating degree days, oil prices, lagged gas prices, and cooling degree days. • GDP has been and likely will remain the key component in any gas demand model. • Heating degree days remain critical, but the role of cooling degree days is rising. • We attribute the intercept value to technical efficiency gains. 13

  15. #5: Power Generation: Long-Term Secular Driver PowerGen demand has increased dramatically, expected to continue to grow The displacement of industrial demand with electricity consumption of natural gas is a bullish structural demand-side trend. New coal-fired generation is taking some market share in 2010 and this could continue in 2011, but gas stands to resume its market share gains post-2011, in our view. Outlook • PowerGen has grown in the demand mix, offsetting erosion in industrial sector gas consumption, while residential and commercial—a predominantly space-heating driven market—is stable and rather price inelastic • Likewise, electric utilities tend to be relatively price-inelastic given the ability to pass-through fuel costs • As PowerGen grows in the mix, summer demand becomes more of a factor, smoothing what has traditionally been large seasonal demand peaks and troughs, and “crimping” the storage injection season 14

  16. #4: Fuel Switching and the Ever-Elusive “Coal Floor” Geographic concentration on the East Coast We think natural gas prices are supported by coal breakeven economics at prices below $3.50/mmBtu, but coal recaptures share when gas rises much over $5. Source: Wood Mackenzie Outlook • Due to much higher cash mining costs, coal shut-ins are much more likely than gas shut-ins, meaning those costs will set both low-end coal and gas prices. • On the demand side, fuel switching has traditionally come from power plants that can run on either residual fuel oil or natural gas – meaning competition primarily between gas and crude oil products, as opposed to between gas and coal. • In 2009, gas-fired generation gained from coal displacement in spite of a reduction in overall electricity demand, due to low prices, however, this appears to have reversed in Q4. 15

  17. #3: Enhancing Natural Gas Demand Provide incentives for domestic demand Gas in transportation Compressed natural gas (CNG) for centrally-fueled fleets and LNG in long-haul heavy trucking Market Size: By 2030, moderate case demand is 1.5 bcf/d and in the aggressive case is 3.0 bcf/d. Moderately scalable. Environmental policies that favor natural gas in power generation This will take political skill to overcome coal-state opposition; however, we note West Virginia now has more jobs in gas production than coal mining Market Size: Approximately 3bcf/d of additional gas fired electricity generation could replace circa 80 of the least efficient, smaller, older coal-fired power plants (7.5% of existing capacity). Very scalable. Replace imported heating oil in the US NE Market Size: There are 6.2 million fuel oil heating customers in the Northeast using circa 700 gal over the heating season. Some already have gas but choose not to heat with it (about 2.0 million). At 80mcf over the season, they could burn circa 160 bcf, or roughly 1bcf/d. Some scalability. Source: Deutsche Bank, Wood Mackenzie, EIA, BP 16

  18. #2: Does a Price on Carbon Kill Gas? How much does it cost to add Carbon to the price of Power Gen? US baseload plants, startup 2025 Baseload electric power plants run continuously to meet minimum electricity demand requirements, while peaking power plants run intermittently to meet seasonal and daily peak electricity demand. Coal currently supplies about 50% of US power generation, natural gas 17% and nuclear 22%. With a price on carbon, coal becomes significantly disadvantaged, and wind becomes more competitive. At $60 per ton, natural gas is still very competitive. Source: The ExxonMobil Outlook for Energy 2009 (used with permission) For further information and discussion see: http://www.exxonmobil.com/Corporate/Files/news_pub_eo_2009.pdf 17

  19. #1: Will President Obama Kill Tax Preference Items? President Obama's 2011 budget proposal, released in February, resurrects a series of significant tax hikes on US producers of oil and natural gas that were first proposed last year, but were rejected by Congress Tax Provisions to be Eliminated Intangible Drilling and Development Costs (IDCs) Percentage Depletion Passive Loss Exception for Working Interests in Oil and Gas Properties Geological and Geophysical (G&G) Amortization Marginal Well Tax Credit Enhanced Oil Recovery (EOR) Tax Credit Tertiary Injectants Deduction Manufacturing Tax Deduction The elimination of these tax preference provisions (called “subsidies” by the administration) would raise taxes on oil and gas by circa $4.0 billion annually Obama and Congress are looking for revenue sources Source: 2011 US Budget proposal, Deutsche Bank 18

  20. Will US Storage Be High Again This Fall? Weekly working gas in storage Storage max is conventionally viewed as 4000bcf but could be as high as 4200bcf in 2010. Storage forecasts in this graphic are based on “normal” (7-yr history) builds. Current S/D balances imply storage will reach 4000 bcf at the start of winter. This suggests continuing downward pressure on prices. Source: US DOE/EIA, Deutsche Bank estimates. Outlook • Very cold weather in early January 2010 caused strong draws, but this was followed by weak draws in March and injections at the end of March. • A new high for storage was set in 2009 at 3837 bcf- current indications suggest this could be matched or exceeded in 2010. 20

  21. Has the Oil/Gas Price Ratio been Reset? Oil/Gas price ratio in the 36th month contract Since the gas contract first started trading on the Nymex in 1990, average ratio has been close to 8. Source: Bloomberg, Deutsche Bank Outlook • Markets for crude oil and US natural gas are now responding to different drivers. Crude oil is unquestionably global in nature, but the natural gas market remains highly segmented. Asian demand and OPEC supply may be key factors influencing the current crude oil market, but they have little bearing on the natural gas market in the US. • US natural gas prices have been more responsive to conditions in North America: hurricane activity along the Gulf Coast, working storage levels, development of natural gas shales, temperature swings that boost demand for heating in the winter and cooling in the summer, and, during the present economic downturn, a sharp decline in industrial gas demand. 21

  22. What About Speculators? Blaming speculators generates great 30-second sound bites, but does it reflect reality? Shale Plays Inflation Coal Floors Weather Storage Climate Change LNG Supply Canadian Imports Speculators Economic Growth Source: Deutsche Bank 22

  23. Adam Sieminski Chief Energy Economist for Deutsche Bank, working with the Bank's global commodities research and trading units. Drawing on extensive industry, government and academic sources, Mr. Sieminski forecasts energy market trends and writes on a variety of topics involving energy economics, climate change, politics and commodity prices. From 1998 to 2005 he served as the energy strategist for Deutsche Bank's global oil & gas equity team. Mr. Sieminski was the senior energy analyst for NatWest Securities in the US during 1988-1997, covering the major US international integrated oil companies. He received both his undergraduate degree in Civil Engineering and a masters in Public Administration from Cornell University. He has been president of the US Association for Energy Economics and the National Association of Petroleum Investment Analysts. He is a member of the US National Petroleum Council, an advisory group to the US Secretary of Energy, and helped author the NPC's Global Oil and Gas Study: The Hard Truths. He also acts as a senior advisor for the Center for Strategic and International Studies in Washington and is an advisory board member of the Global Energy and Environment Initiative at Johns Hopkins / SAIS. He is a member of the London, New York and Washington investment professional societies, and holds the Chartered Financial Analyst (CFA) designation. 23

  24. Important DisclosuresAdditional information available upon requestFor disclosures pertaining to recommendations or estimates made on a security mentioned in this report, please see the most recently published company report or visit our global disclosure look-up page on our website athttp://gm.db.com/ger/disclosure/DisclosureDirectory.eqsr.Analyst CertificationThe views expressed in this report accurately reflect the personal views of the undersigned lead analyst. In addition, the undersigned lead analyst has not and will not receive any compensation for providing a specific recommendation or view in this report. Adam Sieminski Appendix 1 – Disclosures and Certification 24

  25. Appendix 1 – Disclosures and Risks Country-Specific DisclosuresAustralia: This research, and any access to it, is intended only for "wholesale clients" within the meaning of the Australian Corporations Act.EU countries: Disclosures relating to our obligations under MiFiD can be found at http://globalmarkets.db.com/riskdisclosures.Japan: Disclosures under the Financial Instruments and Exchange Law: Company name - Deutsche Securities Inc. Registration number - Registered as a financial instruments dealer by the Head of the Kanto Local Finance Bureau (Kinsho) No. 117. Member of associations: JSDA, The Financial Futures Association of Japan. Commissions and risks involved in stock transactions - for stock transactions, we charge stock commissions and consumption tax by multiplying the transaction amount by the commission rate agreed with each customer. Stock transactions can lead to losses as a result of share price fluctuations and other factors. Transactions in foreign stocks can lead to additional losses stemming from foreign exchange fluctuations.New Zealand: This research is not intended for, and should not be given to, "members of the public" within the meaning of the New Zealand Securities Market Act 1988.Russia: This information, interpretation and opinions submitted herein are not in the context of, and do not constitute, any appraisal or evaluation activity requiring a license in the Russian Federation.Risks to Fixed Income PositionsMacroeconomic fluctuations often account for most of the risks associated with exposures to instruments that promise to pay fixed or variable interest rates. For an investor that is long fixed rate instruments (thus receiving these cash flows), increases in interest rates naturally lift the discount factors applied to the expected cash flows and thus cause a loss. The longer the maturity of a certain cash flow and the higher the move in the discount factor, the higher will be the loss. Upside surprises in inflation, fiscal funding needs, and FX depreciation rates are among the most common adverse macroeconomic shocks to receivers. But counterparty exposure, issuer creditworthiness, client segmentation, regulation (including changes in assets holding limits for different types of investors), changes in tax policies, currency convertibility (which may constrain currency conversion, repatriation of profits and/or the liquidation of positions), and settlement issues related to local clearing houses are also important risk factors to be considered. The sensitivity of fixed income instruments to macroeconomic shocks may be mitigated by indexing the contracted cash flows to inflation, to FX depreciation, or to specified interest rates – these are common in emerging markets. It is important to note that the index fixings may -- by construction -- lag or mis-measure the actual move in the underlying variables they are intended to track. The choice of the proper fixing (or metric) is particularly important in swaps markets, where floating coupon rates (i.e., coupons indexed to a typically short-dated interest rate reference index) are exchanged for fixed coupons. It is also important to acknowledge that funding in a currency that differs from the currency in which the coupons to be received are denominated carries FX risk. Naturally, options on swaps (swaptions) also bear the risks typical to options in addition to the risks related to rates movements. 25

  26. Appendix 1 – Global Disclaimer Global DisclaimerInvesting in and/or trading commodities involves significant risk and may not be suitable for everyone. Participants in commodities transactions may incur risks from several factors, including changes in supply and demand of the commodity that can lead to large fluctuations in price. The use of leverage magnifies this risk. Readers must make their own investing and trading decisions using their own independent advisors as they believe necessary and based upon their specific objectives and financial situation. Past performance is not necessarily indicative of future results. Deutsche Bank makes no representation as to the accuracy or completeness of the information in this report. Target prices are inherently imprecise and a product of the analysts judgment. Deutsche Bank may buy or sell proprietary positions based on information contained in this report. Deutsche Bank has no obligation to update, modify or amend this report or to otherwise notify a reader thereof. This report is provided for information purposes only. It is not to be construed as an offer to buy or sell any financial instruments or to participate in any particular trading strategy. Unless governing law provides otherwise, all transactions should be executed through the Deutsche Bank entity in the investor’s home jurisdiction . In the U.S. this report is approved and/or distributed by Deutsche Bank Securities Inc., a member of the NYSE, the NASD, NFA and SIPC. In Germany this report is approved and/or communicated by Deutsche Bank AG Frankfurt authorised by Bundesanstalt für Finanzdienstleistungsaufsicht. In the United Kingdom this report is approved and/or communicated by Deutsche Bank AG London, a member of the London Stock Exchange and regulated by the Financial Services Authority for the conduct of investment business in the UK and authorised by Bundesanstalt für Finanzdienstleistungsaufsicht (BaFin). This report is distributed in Hong Kong by Deutsche Bank AG, Hong Kong Branch, in Korea by Deutsche Securities Korea Co. and in Singapore by Deutsche Bank AG, Singapore Branch. In Japan this report is approved and/or distributed by Deutsche Securities Inc. This report may not be reproduced, distributed or published by any person for any purpose without Deutsche Bank's prior written consent. Please cite source when quoting.Copyright © 2010 Deutsche Bank AG 26

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