Oil Winners, losers and trades

l Global Research l Important disclosures can be found in the Disclosures Appendix All rights reserved. Standard Chartered Bank 2011 research.standardchartered.com Will Oswald, +65 6596 8258 Will.Oswald@sc.com Global Research Team Special Report | 06:00 GMT 24 February 2011 Oil – Winners, losers and trades We analyse macroeconomic sensitivities and asset-price risks under two oil-price scenarios: USD 120/bbl and USD 150/bbl Our baseline is for oil to trend downwards in the absence of sustained geopolitical risk; our scenario analysis allows us to stress-test for winners and losers We identify trades that we believe have an asymmetric payoff, performing well in our scenarios but relatively neutral if prices retrace below USD 100/bbl Since September 2010, Brent crude oil prices have risen from around USD 75/barrel (bbl) to USD 112/bbl. Despite the increase in geopolitical risk, we believe that the rise to around USD 90-95/bbl was consistent with rising global demand. This implies that only the last USD 10-15/bbl can be attributed to higher geopolitical risks. We analyse the risks and opportunities arising from a more sustained increase in oil prices. Our baseline scenario is for oil prices to peak at around USD 110/bbl before receding in Q2-2011 on a seasonal decline in demand. Here, we examine the sensitivities of a range of key macroeconomic variables to two scenarios: oil at USD 120/bbl and at USD 150/bbl, in both cases for a four- to six-month period. This is not an unreasonable risk scenario. Heightened tensions in 1979 in Iran were a classic example of risks in a key oil-producing country, although circumstances today are different. This said, we do not rule out temporary spikes in response to a new supply shock or geopolitical event. Given remaining uncertainty around oil prices, we recommend focusing on asymmetric risk trades, where we expect little impact if oil prices retrace to USD 90/bbl, but a strong positive return under our higher oil-price scenarios. We examine opportunities across FX, rates and credit. We recommend the following trades: Foreign exchange: In emerging-markets (EM) FX, long SGD on a basket basis (i.e., versus USD, EUR and JPY) is our highest-conviction view, benefiting from more proactive monetary policy and the likelihood that the MAS will tighten again in April. We also recommend relative value trades – long IDR versus ZAR, short BRL-MXN and short CLP-COP. In FX options, G10 and EM 3M vols remain near cyclical lows and have so far failed to react to the moves in spot. We recommend 3M-1Y USD-JPY vol curve flatteners, as the curve remains extremely steep and we expect short-end vols to get paid up on rising market risks. Rates: Inflation risk in EM existed before the recent spike in food and energy inflation. However, the additional fiscal burden for subsidy countries suggests additional risks to Malaysia and India: remain paid in Malaysia 2Y IRS, and pay India 2Y OIS. Risk aversion should also contribute to the further outperformance of our US 5Y/10Y flattener recommendation. Credit: in the USD 120/bbl environment, the winners are upstream oil and gas players and coal miners and the losers are refiners, oil marketers, utilities and energy-intensive industries such as metals, mining and transportation. In the USD 150/bbl environment, we could see a second-order impact in sectors like banking, property and consumer discretionaries. We see asymmetric risk/return profiles in Qatar/Philippines; Petronas/Korea; PTT Exploration/Indian Oil, and Bumi/Chandra Asri. Special Report GR11JA | 24 February 2011 2 Analysing sensitivity and policy responses Our framework for the risks posed by higher oil prices We measure the following macroeconomic variables for sensitivity to higher oil prices: the current account as a percentage of GDP, the fiscal deficit as a percentage of GDP, the real GDP growth rate, and inflation. This analysis allows us to identify the winners and losers from such a rise in oil prices. We recognise that either a high level sustained for longer or an even larger rise would likely change global growth dynamics, but we leave such analysis for later work. Combining the fiscal deficit and inflation indicators to identify the most vulnerable rates markets, we conclude that Indonesia, Malaysia and Brazil are at greatest risk. Based on our already-bearish outlook for EM rates, we retain our pay recommendations in Malaysia, while the broader negative dynamics for India also contribute to our bearish view on rates there. The impact on foreign exchange is more mixed. While the combination of current account and real GDP sensitivity is an i