Option Investor

Not Bad Considering

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The rebound in oil prices built a fire under some energy stocks but the list of those with decent rebounds was limited. There was just too much carnage in the prior week. Traders are still hurting from the beating and are reluctant to jump back into the battle.

We saw oil rebound from $68.50 as the old contract expired. Resistance is holding at $72.50 as we await the demand numbers from the holiday weekend. Demand over the next two weeks will be critical for oil prices.

Hurricane season begins officially next week but there are no storms on the horizon tonight. Prices firmed slightly as the various weather forecasters got their 15 min of fame predicting a strong hurricane season. Once the first storm is sighted we should see another spike in prices even if the storm is well away from the Gulf. It is all about awareness and planning ahead.

Saudi Arabia finally grew tired of sitting on that excess heavy crude production and contracted with Conoco Phillips and Total to build a new 400,000 bpd refinery each. The cost of each is expected to be $5 billion and take five years to build. Once completed it will allow Saudi to market its cheaper crude as high dollar low sulphur fuel thereby increasing its income and its utilization of the less desirable crude.

Natural gas in storage rose again last week by +83 BCF to 2,163 BCF and +50.2% above the five-year average. This is also +471 BCF above last year's levels. Unless we have an extremely hot summer requiring massive amounts of gas to generate electricity we could go into winter with a record amount of gas in storage. This will eventually pressure prices even further below the $6 range where it has hovered all week. Gas producers like UPL, CHK, ECA, EOG and COP have been crushed since early May. This is not likely to change until summer gas demand arrives. I would also remind everyone that the record high storage levels of 3,327 BCF set in 2004 was depleted in only a few months and we nearly ran out of gas shortly thereafter. Once Mother Nature goes on an ugly streak we can burn huge amounts in a short period of time. Currently the December gas futures are selling for $9.68 compared to $6.15 for the current June contract. This premium will evaporate very quickly if summer weather fails to appear. A quick check of a weather map on Friday night showed 90% of the nation with elevated temperatures. Let the electricity flow!

This should be a tame week in the oil patch unless a hurricane appears or some new geopolitical event occurs. All eyes will be focused on the dual oil/gas inventory levels due out on Thursday. The oil inventory levels will be delayed one day due to the holiday. In this weeks numbers we should see the initial impact from the Valero fire and from fuel draw downs ahead of the holiday weekend. Expectations are for declines in every number.

We should be encouraged by the strong support hold at $68.50 last week. This should be our line in the sand and a level where oil will use as a base until the first hurricane is reported. It is also a level where oil company earnings will continue to grow and therefore prices of energy stocks. Nothing has changed materially in the outlook for energy and we will continue to get this volatility in prices but maintain the constant long-term upward bias. Recent price estimates for later this year seem to be centered in the $78-$80 range and that works for me.

Monday was black Monday for me. With the overseas markets imploding all the energy/commodity stocks went into free fall. I had instituted insurance puts on most of the positions last Sunday. Several of those were triggered at the gap down open for a substantial increase in premium. The good news is we have insurance. The bad news is that we paid a premium for several positions.

After being blown out of so many positions during the May dip I hesitated to jump back in so quickly. Now that the smoke has cleared I am going to target $69 oil as our next entry point for some 2008 LEAPS. Stay tuned. I am not going to produce a long list of candidates but instead select stocks based on market action and outlook as it occurs. I will send out an update during the week if I feel an opportunity has presented itself. This way we have a better chance of a good entry rather than being at the mercy of the market for a week between newsletters. Late summer is not normally a time to add to energy positions. There could be a soft patch ahead and we want to wait until the timing is right. We already have enough positions to capitalize on the early summer bounce. This does not mean there will not be any entries, just that they will be more targeted until a new trend develops.

Oil Service Index - Daily

July Crude Futures - Daily

December Crude Oil Futures Chart - Daily

June Natural Gas Futures Chart - Daily

December Natural Gas Futures Chart - Daily


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