In This Issue: Political Risk In The Global Oil Industry Comes In Several Flavors: It's critical, when determining an energy producer's credit health, to assess the political threats to production and future investment in the largest oil producing countries. This can be a difficult task: There are many forms of political risk, and the key political drivers among the major oil producing nations vary greatly. Different oil companies have more concentration-and thus more risk-than others in certain countries.M&A Activity Dominates U.S. Oil And Gas Trends In Third Quarter: Bursts of M&A activity have persisted throughout 2006 in the U.S. oil and gas industry, a trend Standard & Poor's expects to continue into 2007. Buyers have ratcheted up their commodity price expectations and recalculated the marginal cost of production upwards. It's clearly a seller's market in the exploration and production (E&P) space, which is exacerbated by the high cost of finding and developing reserves. Share Repurchases, Bigger Dividends Still Limit Global Oil And Gas Ratings Improvement: Global oil and gas companies are reaping strong profits and generating robust cash flows thanks to historically high hydrocarbon prices. As a result, issuers have the financial wherewithal to reward shareholders through large share repurchases and dividend increases. Such initiatives accelerated in the first half of 2006, totaling more than $75 billion. S&P Raises Price Assumptions For U.S. Oil And Gas Sector; Little Ratings Effect Foreseen: Standard & Poor's recently raised its long-term assumptions for oil and gas prices, which are used in the credit analysis of U.S. hydrocarbon producers. These assumptions are used to evaluate a company's ability to repay its near- and long-term debt obligations, help compare relative credit quality of a broad and diverse set of energy companies, and assess the likelihood that operating cash flow will be sufficient to fund a company's capital requirements and support its overall strategy. Why Hedging Isn't Always A Sure-Fire Ratings Strategy For U.S. High-Yield Producers: Current oil prices of around $66 per barrel compared with $29 at year-end 2003, illustrate the significant commodity price volatility inherent to the oil and gas industry. Many U.S. E&P companies have entered into hedging programs as a way to insulate their cash flow from such wide swings. Although commodity price hedges can mitigate the risk producers face if hydrocarbon prices are lower in the future, their direct effect on ratings is generally limited. U.S. And Canadian Independent Oil And Gas E&P Companies: With oil and gas prices currently at elevated levels and E&P companies reaping record profits, credit risk might not seem so important right now. However, investors must remain aware that in this highly cyclical industry, prices can drop even more quickly than they rose. Divergence Between European Economies Would Accentuate: Although the fragile ceasefire between the Israeli military and Hizbollah following their recent conflict in Lebanon may have calmed immediate fears of an ever-escalating oil price, geopolitical risks in the Middle East still remain. Standard & Poor's has applied several extreme oil price scenarios to the economies of Europe, the results of which pose important questions on policy for the European Central Bank. Japan's Economy Would Fare Better Than Most Developed Countries: Having learned its lesson during the oil shocks of the 1970s, Japan is now better prepared to weather another serious spike in petroleum prices than are most other developed countries. According to Standard & Poor's, Japan's economy would experience a comparatively minor dip should oil prices linger at about US$100/barrel over the next two years. China's Government Would Contain The Impact, But At A Cost: China is vulnerable to very high oil prices on account of its developing economy and high-energy needs. The effect of a sharp increase in oil prices to China's economy, however, would not be readily apparent due to the country's extensive distortions and price controls. A Challenge To India's Strong Economy And Benign Inflation: India's recent record of high growth and benign inflation has occurred despite a persistent rise in international oil prices. Although this is indicative of the Indian economy's resilience to high oil prices, the prospect of the country withstanding a potential oil shock will hinge on how oil prices behave in the future. | 
