Option Investor
Commentary

Logic Does Not Apply To Energy

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I hate to seem like a broken record but the insane movement in the price of oil given an off the chart gain in inventory shows there is no logic at work in the oil sector. On Wednesday the EIA showed a gain of 7.3 million barrels of oil for the week. This was the largest inventory build since the week of Dec-14th and should have been bearish for prices. Instead prices rebounded from the Tuesday low of $99.55 to close at $106.16 for the week. Nearly a $7 gain on a 7 million barrel build.

Some analysts blamed it on gasoline, which has seen three consecutive weeks of losses totaling 11.2 million barrels. Gasoline inventories are falling so oil has to move higher or so the sentiment goes. Why? Gasoline levels were at 15-year highs. They needed to decline. Oil inventories are rising because refiners are putting capacity on hold rather than refine gasoline at a loss. Capacity for last week was 82.45 rather than the 90-95% we normally see. The shift in inventories for gas/oil was normal and reasonable. The gain in price was not. The falling dollar also got the blame as did temporary refinery outages on the West Coast.

Weekly Inventory Table

Further evidence of an impending oil glut came from the Persian Gulf. Oil from the various OPEC countries in the Persian Gulf comes to the U.S. on Very Large Crude Carriers (VLCC) tankers. These lease by the day and are normally in very short supply when oil is tight. Over just the last week the daily rental rate on a VLCC fell from $56,000 to $35,000. This indicates a sudden decrease in the number of bookings and by inference to a slowdown of shipments to the U.S. shores. Wednesday's EIA report showed the lowest import rate since Jan-2007. All of these facts support the case for lower oil prices at least in the short-term. Nobody is listening.

Last week I reported that 61-year Aloha Airlines went out of business. On Thursday ATA filed for bankruptcy, laid off all 2200 employees and ceased operations. On Saturday budget airline Skybus ceased operations and said it would file bankruptcy next week. The problem was high oil prices, tough competition and the inability to raise ticket prices to cover rising costs. Northwest said they were embarking on an immediate cost cutting program to combat the tough times facing the airline industry. On Saturday American Airlines said it was imposing a hiring freeze in an attempt to further cut costs. American spent $9.3 billion in fuel in 2007, more than triple the amount they spent in 2000. This story is far from over and not everyone believed me last week. I wrote about the tough times ahead for the airlines before all this news broke. Now there are three less carriers and that will help ticket prices but only slightly. There needs to be a lot more pain before those remaining will begin hiking prices enough to save themselves from the same fate.

India announced to the world this weekend that they are going to be a force to be reckoned with as a global competitor in exploration and development of the world's remaining reserves. India said it will spend $300 billion over the next 5-7 years on exploration and production. India is Asia's third biggest oil consumer with a population of more than one billion. Spending more than $45 billion a year would put them well ahead of Exxon's $25 billion budget. They said they would be investing $450 million in exploration in Venezuela and will sign an agreement with PDVSA next week. They will be exploring in the San Cristobal area. The sudden emergence of India from relative obscurity in the energy sector suggests they will be going head to head with China on the global exploration stage.

We had a great week in the portfolio and that means several positions are due for some profit taking. I cut the top picks list to only four and a couple of those need to pull back to get an entry.

Jim Brown


May Crude Futures Chart - Daily

May Natural Gas Futures Chart - Daily

April Gasoline Futures Chart - RBOB Daily

 

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