zman’s Energy Brain

oil, gas, stocks, etc…

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Monday Morning – What Next Oil?

Posted by zmann on January 22, 2007

Oil & Gas Are Racing Higher In Pre Market Trading. Oil is up $0.47. Gas is up $0.39 to $7.28! For oil I’d bet it’s more short covering as the contract for oil closes today. For gas it’s a suckers rally on more cold weather. In a nutshell both moves are follow through on Friday’s session and for oil if it closes positive it would be the first time for two up days in a row in 2007. I think this fades later this week and for oil we should get another test of $50 before the end of next week (unless of course something somewhere blows up, breaks, or gets fogged in).

Coming Soon: The Week Ahead by Popular Demand! I’ll do the cliff notes version this morning with more charts and graphs in the near future.

  • Several gassy E&P’s had 5%+ days on Friday (SWN and KWK up 7%, EOG up 5%) but not CHK. Chesapeake’s been beat up in the recent commodity downdraft despite having a majority of its gas hedged north of $8/Mcf. I’d look for a pop over $31 with gas bumping up over $7 on all this cold. However, I wouldn’t fall in love because gas will fade hard with the cold and should test $6, then $5 in February.
  • Oily Correlation. Names that have been moving tick by tick with oil over the last few months become especially intriguing when every day brings a $1 or more change in price. Of late SU and OII have followed oil on an almost second by second track. Of course, you’ve got to get the direction of oil right or it would just be too easy.
  • Watching HES Like A Hawk. Strong exploration results can’t save you from a down commodity market. This beasty is completely unscathed.
  • COP Earnings Jan. 24th. The first of the biggies to report 4Q numbers. Expecting $1.98 vs $2.69 last year. Estimates were $2.23 three months ago and have fallen 5% in the last week. These guys alread pre-announced paltry organic (non-acquisition) reserve replacement but they’ve still got to post their F&D costs (primarily the Burlington and Lukoil additions). Probably not pretty. I’m on the fence here but it’s worth watching and I’ll try to put out a mini model before numbers hit so maybe I’ll have made up my mind by then. Either way, if it scores a big beat (unfriggin likely) I’ll be looking to own XOM. A big miss and I’ll probably wait for the panic to clear before taking a very short term long trade on XOM.
  • MUR – Beaten and Rebounding? I’m staying away but looking for an area to re-enter puts as, at 13.3x 2007’s greatly optimistic earnings estimates, this is the most expensive mini-major of the group. Funny thing. They warned a week ago that they’d put up numbers of $0.40 to $0.45 on the quarter and yet analysts have only dropped them to $0.52 from $0.65. Sounds like half of the 16 analysts covering the company are still in la, la land or do they just not believe it’s possible the company could have halved analysts estimates from three months ago for the year’s final quarter? It’s no wonder Lehman upgraded it to buy this morning!
  • Refiners. Higher oil is bad. Higher products prices made from oil is good. Watch to see if heating oil and, perhaps more importantly, gasoline keep up the pace if oil continues to bounce. When crude oil levels off these guys will be the first to fall. Favorites for puts (but not right now) VLO, SUN, TSO (pumped in Barron’s this past weekend), WNR, and high priced HOC (which has burned me 3 times in the last 3 months).
  • HAL vs SLB. SLB beats and runs over 5% on Friday. HAL rallied only half as much, is cheaper (thanks to Pelosi and Co.) but probably fairly safe for a “service isn’t dead yet” rebound. After all, the service arena has been getting stomped but the earnings numbers that back it up are flat with those of three months ago (strictly service and not the drillers). It may be worth a bounce to $31 and then back out. By the way, the drillers may bounce like a new day is dawning but as soon as gas stalls I’ll be buying back into puts on the land drillers as well as a few offshore names.
  • Other Names That Could Get A Boost If Oil Holds It’s Short Term Gains. Solid operators NFX and SFY. Both have been knocked for a loop, 20% since early December as investors shunned the mid-cap E&P names for safety stocks like XOM. On Friday, Newfield cited weather delays at multiple projects that prompted what I’d call a pretty short sighted Morgan Stanley downgrade. This is the fourth downgrade since October and with the stock 20% off it’s highs this starts to look a lot like most of the damage has been done here. At 9x 2007 estimates I’ll take it’s 20% expected EPS growth (which admittedly may be a bit too high based on assumed commodity prices) over XOM‘s 12x 2007 earning and negative 4% growth track. As to SFY they’ve got a large prospect inventory that’s oily and delivering double digit production growth for them. If oil stabilizes between $45 and $55 these guys have a license to print money.
  • Important Note: I’ve got more longs in the list above than you almost ever see from me. I am not bullish. Just looking for a way to play the irrationality factor while I hunt for better entries on puts. Besides, if all I ever did was write about the short side I become one of those guys that everybody goes, “oh sure, here comes the perma-bear, doom and gloom, broken record guy” and I realy hate those guys.

Friday Was Not A Great Day For The Bears. If only I’d taken my own advice and pulled out when oil failed to break $50. On Wednesday referring to $50 oil I said… If we don’t knife through it the bounce could be very painful so watch your puts. Unfortunately I was all too right. I managed to pull out some luck with the Januaries but am still holding a few of the longer dated puts.

March Becomes The Front Month On Tuesday. Don’t let the jump in price fool you! The March over February spread was $1.41 at the close on Friday. The 12 month and 24 month strips look like they are halfway through a deadcat bounce already (maybe another $2.50 to go) and there isn’t a month out through 2009 above $60.

Traders Bet Long In SIZE BEFORE The Inventory Data Was Released. According to the CFTC, traders couldn’t get enough oil contracts last week. With this data in hand last week can be seen as a “Data be damned, enough is enough”:

  • The CFTC reported a massive reversal in the net position which had been falling for the past five weeks. Long positions jumped by 15,700 contracts or 9%. Meanwhile, shorts took the money and ran and speculative short positions fell by 18,600 contracts or 11%. As such the net long position more than tripled to 49,500 contracts, a level not seen since early December when oil was $64.
  • The move came with record open interest. As you can see in the yellow wedge below, speculators are making a big bet this time.
  • The reversal came just prior to the release of the weekly oil inventory data, which showed much higher than expected crude and gasoline inventory builds (click here for details on last week’s inventory numbers) . That data didn’t come out until 18th when traders had already made their bet simply on the $50 technical/psychological level. This means Friday, in a sense, was a double down.

nymex-crude-cftc-011607.JPG

Opec Watch:

  • Cartel Trims Demand Forecast. They did this Friday but it had no impact so I’ll repeat it here. The cartel cut it’s estimate of global oil demand growth by a miniscule 70,000 bopd to 1.3 mm bopd for 2007.
  • Much More Importantly, OPEC Has Been Dumping Treasuries. According to Bloomberg, oil “exporters including Indonesia, Saudi Arabia and Venezuela, sold 9.4%, or $10.1 billion, of their U.S. government debt securities in the three months ended in November. Opec last sold Treasuries for three straight months in June 2003. Some things to keep in mind:
  • If Opec keeps selling tresauries in favor of non-dollar assets (Euros and Gold) it has to have a negative effect on the dollar. After all, Opec is the 4th largest holder of US treasuries after Japan, China, and the UK.
  • Several Opec members (including Saudi Arabia) and non-Opec major oil producers (Putin) have voiced both a lack of appetite for US treasuries and a desire to switch oil transactions to Euros. Again not good for the poor dollar. Non-opec nations hold a little over $100 in U.S. treasuries vs Opecs $95 billion.
  • If the dollar falls it lends support to crude. Plain and simple. Not a panic button here but something to keep in mind.

Holdings Watch & Sentiment:

Oil prices remain foremost in everyone’s minds. If they’re flat or up then, to make a great oversimplification, so to will the stocks be. In the event of a warning form XOM or other majors which I full expect before the end of the month this linkage could erode and the stocks should become a little less resilient. Remember, two out of three days year to date have been down for oil but not so for the stocks.

I’m not forgetting gas but everyone else had been up until Friday. Then a new NOAA report forecasted a continuation of the cold weather into February and February gas shot up $0.56 to close at $6.88. I doubt very much the sustainability of this overnight bounce to $7.24 but I’ll wait to make any negative bets until this Thursday when 1) this expected big gas pull is out of the way and 2) the weather picture for next week firms up.

What gives? The Street keeps proclaiming that energy stocks are cheap and should be bought despite the recent slide in commodity prices. Actually that slide has been underway since the beginning of August for crude and since December 2005 for natural gas so I guess it’s not really recent but ongoing.

Anyway, those guys will tell you the energy stocks are cheap and to buy, buy, buy… Even were I to say the energy stocks aren’t all that cheap relative to recent historic levels (which also factored in considerable double digit annual growth- not any more!) that wouldn’t change the fact that the big research boys continue to find buyers for their recommendations. “Those high commodity inventories? Listen buddy, they’re going to pass before you know it! So how can I get you into 100,000 shares of XOM today?” Please…

…And this comment from S&P makes no sense to me. Someone please explain it to me. It hurts my head. From AP: “The expectation for the weaker earnings is largely factored into oil industry stock prices”, said Howard Silverblatt, S&P senior index analyst. But he cautions that “not everyone prices in ahead of time” — meaning the stocks could have further to fall once the official earnings numbers are in investors’ hands. So are they (stock prices) or are they not discouting lower earnings numbers. I’d say not but his statement really hurt my head. It’s some sort of multi-dimensional paradox to even think that way.

Question: What’ll make them sour on the group? Sustained oil and gas prices below $50/bls and $6/Mcf respectively in February? A mis-step from COP this week or a warning from XOM? Maybe. I’ll have some historical representations of the high and low forward trading multiples out later this week and you’ll see that there’s cheap and there’s where we are now. As always, thanks for reading.

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10 Responses to “Monday Morning – What Next Oil?”

  1. zmann said

    Stocks look pretty stalled this morning despite the jump in gas and oil. Maybe it’s starting to sink in that this is almost as good as it gets. Not playing any of this mornings “week ahead” plays just yet.

    Left out PETD and UPL in this mornings comments. Both could get a bounce if gas maintains $7.

    PETD should have some interesting reserve replacement numbers and the applicability of the slim hole coil tubing drilling to quickly and massively boost reserves is likely to be discussed at their analyst meeting today. 65% production growth a knockout as well.

  2. Lars said

    Would appreciate your thoughts on GW. They seem to bouncing around support @ $6.50 or so.

  3. zmann said

    PDC reports Feb 1 which should set the tone for the land drillers. GW not until late Feb. GW could bounce a bit more on this oil short covering rally. I’m waiting on the drillers to get a little more pop before reinitiating puts. After that happens I like puts on PTEN, PDC, GW, BRNC etc. Anybody with exposure to the shales is going to continue to see a deceleration but again I’m being patient.

  4. Lars said

    Thanks

  5. walter said

    “..if COP scores a big beat (unfriggin likely) I’ll be looking to own XOM…”

    What will happen to MUR and MRO then? Would you be willing to go long MUR too?

  6. neil said

    any thoughts on HP..seems largely unscathed versus some of the other land drillers..I think they have some decent LT contracts on their built-rigs, but should stil hve simlar exposure to NBR/PTEN?????

  7. ramana said

    Thanks zman….as always…insightful

  8. zmann said

    Walter – no way.

    Neil – I agree completely. Nice call. It looks like it’s 50 dma just became a ceiling too.

  9. zmann said

    For EL Diablo over on the gas storage tab:

    EL D – Here ya about most analysts. But then the sellside doesn’t get paid for telling people not to buy stuff, do they?!

    I also agree that the weather is causing a suckers rally. This just won’t do it. Even if it does the supply / demand isn’t nearly as bullish as the industry would have you believe nor are the economics so lousy that gas isn’t worth producing at $4 as many would have you believe.

    I think the we’ll see a bottom in the $4s this year Mar/Apl depending on how hot people think this summer is going to be. As long as oil holds $45 though I think gas will be hard pressed to stay below $5 for a 2007 average since imports from Canada are likely to fall, eroding the surplus this summer. Calling the fundamental bottom on gas is going to be the biggest challenge this year.

  10. Interesting commentaries. Despite crude plunging the past several months, it has hardly made a dent in the average price in gasoline in my area. Scary to think what might happen to fuel prices when oil does go back up. And can someone enlighten me as to why the airlines are now raising their rates as oil prices are falling? Seems a bit ironic to me.

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