Option Investor


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The rebound has been simply amazing with oil prices rising +18% since the January lows of $49.90. I doubt anybody, especially me, would have thought oil would rebound this quickly. I expected to slog it out in the trenches for 4-6 weeks while the excess inventory was burned off ahead of the summer driving season. Now, with February normally a weak month for oil prices, we are nearing $60 once again. I suggest celebrating while we can and expect some profit taking very soon.

The stair step rebound has created some decent support points at $54 and $57 so that gives us some buy targets on any dip. $60 may be on everyone's mind but that is really only a psychological resistance level. The true resistance is $65 and baring any new wars in OPEC countries or a meteor strike on a Saudi oil field it could be very difficult to cross that $65 barrier.

In Nigeria the country's two main oil workers unions threatened a strike next week to protest the rising violence and lack of security in the southern oil-producing region. Dozens of workers both foreign and Nigerian have been seized in attacks on oil facilities. The unions said they would protest with a work stoppage beginning on Monday. Nigeria is Africa's largest oil producer and a producer of high demand light sweet crude.

OPEC is said to have actually cut additional production on Feb-1st as planned but we will need to see if outside oil production trackers confirm lower shipments over the next couple of weeks. It is easy to say we are going to cut but difficult to actually close the valves on the flow of black gold into the country treasury.

The cold weather is continuing with a forecast of cold for the next two weeks. At this point in the winter with only 4-6 weeks of potential cold remaining it is not likely we will see any more price hikes due to increased demand. Heating oil inventories are very high and consumers are likely to hold off filling the tanks if they can in hopes of lower prices later in the year.

Energy earnings are surprising nearly everyone but not in a positive way. Coming into the quarter estimates for Q1 earnings growth were +13%. Based on guidance from early reporters those expectations have fallen to a decline of -2%. Lower prices for oil and natural gas are limiting the upside while rising expenses are reducing margins. Nobody is crying for the big oil companies because they still posted record profits in Q4.

Chevron said 2007 production would fall below 2006 due to depletion rates at existing fields and the loss of 90,000 bpd in Venezuela when the country cancelled prior agreements. Chevron also said they only replaced 70% of conventional oil reserves in 2006. If you add the oil sands properties they claim 101% reserve replacement. What they are not saying is the majority of those new reserves came from the Unocal acquisition NOT from new discoveries. For Chevron it show on the ledger as 101% reserve replacement but for those tracking global reserves the numbers just moved from one column to another with little net gain. You have to be careful when you listen to companies brag about reserve replacement. Did they find new oil or buy it from somebody else. There will be a lot of companies bragging about increasing their reserves in 2007 but much of that came from a sell off of those reserves from Anadarko Petroleum. Buyers are circling like hungry sharks around Anadarko as it continues to prune non-core assets and sell them to the highest bidder. Anadarko said this week they had sold $9 billion in assets in the six months since closing the acquisitions of Kerr McGee and Western Gas Resources.

Chevron and Talisman both said they would be drilling new wells in Alaska. Chevron acquired some leases in the Unocal acquisition and initially planned on selling them off. After further review they decided to keep the properties and drill some exploration wells. Talisman is going to drill three wells off Federal leases in the National Petroleum Reserve. They said the wells were expensive and there was a long lead-time to convert into production. They estimated ten years from drilling to production. That is an amazing statistic. That is a very long time to invest money without any return. Talisman has 1.5 million acres under lease on the North Slope.

Congratulations to holders of the TSO position. Tesoro reported outstanding earnings and an acquisition of a refinery and 250 service stations in California. The resulting upgrades pushed TSO higher by +10.16 for the week! We are up +$17.60 in that LEAP or +229%.

Nabors spiked again this week on takeover talk with call option volume on Friday over 60,000 contracts. No analyst really expects Nabors to be acquired but GE and DO have been rumored as potential suitors.

For next week I would expect some profit taking in oil prices but nothing is ever guaranteed. I would look to add to positions on dips back to $57 and $54. The next cycle is probably a short decline as refineries shift from heating oil and back to gasoline for the summer driving season. In March the prices should rise again in anticipation of summer demand. In May/June prices should get another boost as we approach hurricane season. So far we have heard nothing about a 2007 forecast but since they missed it completely in 2006 I doubt they will get much credibility for a 2007 prediction.

Jim Brown

March Crude Chart - 60 min

March Gas Futures Chart - Daily


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