Option Investor

Oil Back Over $55 and Looking Good

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Thanks to Keene for covering for me over the last two weeks and I really appreciate the strong rebound in oil he produced. Three weeks ago I left him with oil hovering just under $50 and threatening to tag the 200-day average at $47. Thanks to his remarkable efforts oil closed over $55 and bullish conditions are breaking out all over in the oil patch. Keene, I don't know how you managed to do it but we all thank you. Next time the portfolio is in trouble I know who to turn to.

Oil is the main topic today given the +$7 rebound and the various news stories impacting price. In no particular order I will try to list them all.

It was reported on Friday that jet fuel consumption hit a new record for the month/qtr and projections were for even higher consumption ahead.

We are now into the vacation driving season and gasoline consumption is also climbing despite prices over $2 a gallon. In Italy last week diesel was selling at roughly $6 per gallon after making the liter/euro conversion. It seems much of the world has already suffered substantially from the various price factors yet the U.S. as the largest consumer has yet to really feel the pain.

Two refineries each producing 500,000 bbls of gasoline per day suffered outages late in the week right at the time the inventory levels were beginning to slip.

Heating oil levels fell substantially with heating oil trading higher than gasoline on the news. A cooler than normal spring produced some late season buying after many refineries had made the switch to gasoline.

Saudi's King Fahd was said to be seriously ill but late news claims he is responding to treatment. Worries of political unrest should he die helped push prices higher.

Frontline, an oil tanker company, said shipments from OPEC nations were slowing as three OPEC nations saw production fall below their quotas due to failing equipment and declining fields.

Venezuela called for OPEC to cut production even further to push oil prices higher. President Hugo Chavez is at war with the major oil companies producing the very heavy sludge his country calls oil. Chavez is no friend to the U.S. and wants to do anything that will cause us price pain. He currently claims the major oil companies owe an additional $1 billion in new royalty payments for alleged violations of their contracts. He has vowed not to renew any contracts until companies agree to the new royalty schedule. It is not surprising that Venezuela is one of the countries falling behind in their OPEC production quotas. Why should the major bother to produce oil for Venezuela if all their profits will be seized by "new" taxes after the fact. Currently Kuwait, Saudi and Iran are tasked with making up the production shortfalls.

The director of the U.S. Energy Information Association, John Cook, said on Friday that new record prices are ahead and our average price for the year could be over $60. He claimed we will quickly burn through current inventory and new production is not coming online as quickly as hoped. He said the lows for the year are already behind us.

Russia said production for 2005-2006 would only increase by +3% compared to +11% over the last two years. Problems include declining fields, failing equipment and the lack of capital to explore and produce from new fields. Putin is feeling the results from the Yukos debacle. Western oil companies with the exception of COP do not want to play in his backyard. They are afraid their expensive toys will be confiscated like those belonging to Yukos.

The University of Colorado weather research staff predicted a much stronger than normal hurricane season with 8-15 hurricanes in the gulf and Caribbean. Last year hurricanes removed 40 million bbls from production and damaged numerous facilities. A stronger season this year could impact fragile inventories heading into heating oil season in the fall.

China halted exports of diesel due to rising internal demand. China's oil imports were said to be rising after several months of decline over last years record rate of increase.

On Sunday there will be a movie on TV called Oil Storm. This is a docudrama suggesting what would happen given several very plausible events. Oil prices could rise to $150 a bbl according to the film if a hurricane hit Port Fourchon LA crippling production in the gulf. The nation turns to Saudi for help but terrorists chose that time to cripple output given the emergency demand. (check out Fox for times in your area)

I took the extra time and space to bring everyone current on the oil outlook since most of our current portfolio is oil stocks. If we do see the markets move higher our oil stocks should move with them. It the markets begin to retrace into the summer on a failing economy then oil stocks should gain even more favor as investors look for more of a sure thing. Most oil stocks are still valued based on $28-$30 oil and there is little or no chance we will ever return to that level.

Given the rise in the markets to strong resistance at 10550/2100/1205 I am seriously against adding any new long plays. I am comfortable not adding any new positions unless something spectacular pops up. I know from past experience that the summer months produce many of the worst trades because traders are scrambling to find something worth trading when there is not a clearly defined trend. Given the dead stop at 10550 on the Dow I am going to dabble in the DJX puts once again. It will give us something to do while we wait for the Intel update and Greenspan testimony on Thursday.

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