Table of Contents
Leaps Trader Commentary
The December contract for crude expired for trading on Friday at $56. In the stalemate between oil prices and temperatures, oil lost. The decline in oil prices is nearly three months old and Friday's close was five month low. We have been patiently waiting for cold weather to appear to provide support for oil and gas prices and it has been a long wait. Maybe too long. I had expectations of a rebound for one more run into December but the three week delay in normal November weather has killed that concept. Inventory levels for natural gas have posted health builds for six consecutive weeks and levels now stand at 3,282 bcf. This is 179 bcf over the five-year average for this time of year. It would take a colder than normal winter to produce shortages with this level of inventory. While forecasters are still predicting that for this year it has failed to appear on schedule.
Oil inventory levels finally took a break from their weekly post hurricane build cycle and fell -2.2 mb in Wednesday's report. This provided a temporary bounce in prices to $58.50 but it was short lived and lackluster. There could have been some expiration week sellers but whatever the reason the drop was depressing. I believe we may not see a material bounce even if the northeast froze solid over the weekend. We are too far along in the cycle to expect a material bounce without some external event.
The U.S. Energy Secretary visited four OPEC countries this week and they assured him they could cover any shortfall in global production. Saudi gave him the dog and camel show and assured him they could produce 12.5 mbpd by 2009. While the secretary was impressed he should have been in serious fear. Depletion from existing global sources could be as much as 15mbpd at 5% or 7mbpd at a 2% depletion rate. If Saudi is going to cover production shortfalls they need to be adding a minimum of 2mbpd per year and it is not going to happen. Saudi and OPEC in general just want us to believe that they can cover growing demand until Hubbert's Peak has passed we can do nothing about the problem. Then prices will go out of sight and Saudi can claim some internal disaster at the Ghwar field as the reason they can't produce as much as they promised. They will be laughing all the way to the bank as prices double and triple before 2010. But, that is still in our future and we need to deal with prices into the close of 2005 rather than speculate about the dollar signs ahead. Our time as energy investors will come and we will all be able to buy hybrids for cash with the profits. Meanwhile enjoy the drop in gas prices as you or your relatives travel for Thanksgiving.
Conoco Phillips was the recipient of a valuation downgrade this week by JP Morgan but they were far from the only one. After nearly three months of a decline in oil prices the brokers have finally awakened and have been targeting the high flyers for a couple weeks now. We should not complain for in the long run they are helping to push stocks lower and hastening the next buying opportunity. It is still frustrating to see COP decline sharply because it has the most aggressive exploration program in place of any major oil. They are increasing their reserves far faster than the other majors but are painted with the same broad brush as the rest. Prudential started coverage of oils with a safe overweight on XOM and BP. Neutral ratings were given to CVX and COP and an underweight on MRO and Shell. I am going to take advantage of the overweight on BP and the low price of oil to add BP to the portfolio this weekend. BP is running a strong advertising program in TV and print and should find some buyers in the Santa Claus rally.
I am going to keep new picks light until we see if oil is going to rebound at $55 as some expect. Hugo Chavez, called on OPEC to slow production to firm up prices on Friday. I mentioned several times that the ideal entry point would be $51 but under $55 I believe OPEC will limit production and we may not see that $51 number. With crude closing at $56 on Friday we are right at that magic $55 number and cold weather is going to blanket the nation over the next week. Heck it was 9 degrees at my house in Colorado this week. With that front spreading east we should get a strong draw in natural gas this weekend and that would be the last chance for an uptick into year-end. If the normal winter demand trend does not start next week we will have to step aside and wait for the next cycle in the spring. Q4 is normally the highest demand of the year but this years cycle has been broken. Until "normal" demand returns we are going to be passive investors.
Natural Gas Chart - Daily
Crude Oil futures Chart - Daily
Changes in Portfolio
Portfolio Listing & Top Picks
BP - $66.43 - BP Plc. ** No Stop **
BP has bounced twice off its 200-day average over the last month. Their aggressive advertising on TV and in print has added to awareness of the brand in the U.S. BP is a very strong U.S. producer although many people have never heard of them. Prudential started them at overweight and they are rending up off their lows. Options are cheap relative to some of the highly volatile favorites.
BP p.l.c. is an oil company trying to remake itself into an energy company. The operating business segments were Exploration and Production; Refining and Marketing; Petrochemicals, and Gas, Power and Renewables. Exploration and Production's activities include oil and natural gas exploration and field development and production, together with pipeline transportation and natural gas processing. The activities of Refining and Marketing include oil supply and trading, as well as refining and marketing. The Petrochemicals segment ceased to operate separately as of January 1, 2005. Gas, Power and Renewables activities include marketing and trading of natural gas, natural gas liquids , new market development and liquefied natural gas (LNG), and solar and renewables. The Company formed the TNK-BP joint venture between the Company and the Alfa Group and Access-Renova (ARR). In addition, it plans to incorporate AAR's 50% interest in OAO Slavneft, a Russian oil company, into TNK-BP.
Buy 2007 $70 LEAP Call VAO-AN currently $5.20
Put Insurance: April $60 Put BP-PL currently $1.30
Entry $66.43 (11/20)
VLO - $98.19 Valero ** Stop loss $91 **
Exit target $108
Valero held up rather well considering the beating some stocks took. Also, the passage of the tax bill failed to dent the stock price. I believe Valero is just passing time like the rest of the sector while waiting for the winter demand to appear. It continues to honor the 100-day average and October support.
Valero will split 2:1 on Dec-16th. We will want to exit before the split.
Valero Energy Corporation (Valero) owns and operates 15 refineries having a combined throughput capacity, including crude oil and other feedstocks, of approximately 2.5 million barrels per day. Valero produces environmentally clean refined products, such as reformulated gasoline (RFG), gasoline meeting the specifications of the California Air Resources Board (CARB), CARB diesel fuel, low-sulfur diesel fuel and oxygenates (liquid hydrocarbon compounds containing oxygen). It also produces conventional gasolines, distillates, jet fuel, asphalt and petrochemicals. Valero markets branded and unbranded refined products on a wholesale basis in the United States and Canada through a bulk and rack marketing network. It sells refined products through a network of more than 4,700 retail and wholesale branded outlets in the United States, Canada and Aruba. Valero's retail operations include approximately 1,500 company-operated sites that sell transportation fuels and convenience store merchandise.
January $110 Call VLO-AB @ $5.50
LEAPS are far too expensive and I would expect to be out of the trade by Christmas at the latest.
Exit target $108
Entry $100 (11/09)
CHK - $28.72 Chesapeake Energy ** No Stop **
CHK rebounded from last weeks drumming and set a new two-week high on Thursday. Friday's crude drop dragged it down slightly but the strength held. With gas prices holding in the $11 range CHK is also holding while we wait for winter demand to appear. I think the next move over $30 will stick.
Chesapeake Energy Corporation is an oil and natural gas exploration and production company engaged in the acquisition, exploration and development of properties for the production of crude oil and natural gas from underground reservoirs and the marketing of natural gas and oil for other working interest owners in properties that it operates. The Company's properties are located in Oklahoma, Texas, Arkansas, Louisiana, Kansas, Montana, Colorado, North Dakota and New Mexico. The proved oil and natural gas reserves as of December 31, 2004 were approximately 4.9 trillion cubic feet of gas equivalent (tcfe). At December 31, 2004, approximately 89% of the Company's proved reserves (by volume) were natural gas, and approximately 70% of its proved oil and natural gas reserves were located in the primary operating area, the Mid-Continent region of the United States, which includes Oklahoma, western Arkansas, southwestern Kansas and the Texas Panhandle.
2007 $35 LEAP VEC-AG @ $4.00
Entry $29 (11/04)
UPL - $52.11 Ultra Petroleum ** Stop loss $45 **
UPL moved up steadily all week and is nearing resistance at $55 once again. UPL is mostly a natural gas play and as such we should get a pop once winter gas demand begins.
Headlines from their earnings on Oct-26th:
Ultra Petroleum Corp. is an oil and gas company engaged in the development, production, operation, exploration and acquisition of oil and gas properties. The Company's operations are focused in the Green River Basin of southwest Wyoming and Bohai Bay, offshore China. During the year ended December 31, 2004, it owns interests in approximately 166,974 gross (92,997 net) acres in Wyoming covering approximately 260 square miles. The Company owns working interests in approximately 241 gross productive wells in this area and is operator of 41.5% of the 241 gross wells. Through Pendaries Petroleum Ltd., it is active in oil and gas exploration and development in Bohai Bay, China. The Company also owns interests in 15,518 gross (14,652 net) acres in Pennsylvania, as well as interest in approximately 720 gross (320 net) acres and interests in three productive wells in Texas.
MARCH $60 Call UPL-CL @ $5.20
Insurance Put: Dec $45 Put UPL-XI
Entry $55 (11/02)
STR - $76.13 Questar Corp ** Stop Loss $70 **
Questar continues to hold over its 100-day average and like CHK and UPL any gains will depend on natural gas demand. On Monday Questar was approved for additional drilling on its Pinedale Anticline property. This additional drilling is expected to add 8 bcf of production in 2006 alone. That is enough gas to heat 96,000 average American homes for one year. Questar got permission for the extra drilling from 2005 to 2014.
STR has not traded below $75 so we are still naked on the Put insurance. We are not going to buy the put unless we are hit with a decline. I would rather not stop, reenter, stop, reenter and therefore the wide stop and the potential for put insurance instead of a tight stop.
Questar Corporation (Questar) is a natural gas focused energy company with three principal lines of business gas and oil exploration and production, interstate gas transmission, and retail gas distribution. Questar conducts most of its operations through its subsidiaries Questar Market Resources (Market Resources), Questar Pipeline Company and Questar Gas Company (Questar Gas). Market Resources is a sub-holding company that owns Questar Exploration and Production Company (Questar E&P), Wexpro Company (Wexpro), Questar Gas Management Company (Gas Management) and Questar Energy Trading Company (Energy Trading). Questar Pipeline provides interstate natural gas transmission, storage and gas processing and treating services. Questar Gas conducts retail natural gas distribution.
April $85 Call STR-DQ @ $5.60
Entry $78.76 (10/31)
COP - $62.18 Conoco Phillips ** Stop Loss $57 **
Conoco moved higher after its analyst meeting on Wednesday but was knocked backwards by a valuation downgrade by JP Morgan. COP closed at the low for the week on Friday. I believe COP will shake off this negativity and respect the 200-day average at $58.85. I am changing the stop from $59 to $57.
COP is the most aggressive big oil in attempting to acquire reserves. Their exploration budget for 2006 increased by +127%.
Earnings were Oct-27th
ConocoPhillips is an integrated energy company. The Company's business is organized into six operating segments. The Exploration and Production segment primarily explores for, produces and markets crude oil, natural gas, and natural gas liquids on a worldwide basis. The Midstream segment gathers and processes natural gas produced by ConocoPhillips and others, and fractionates and markets natural gas liquids. The Refining and Marketing segment purchases, refines, markets and transports crude oil and petroleum products. The LUKOIL Investment segment consists of the Company's equity investment in LUKOIL, an international, integrated oil and gas company. The Chemicals segment manufactures and markets petrochemicals and plastics on a worldwide basis. The Emerging Businesses segment encompasses the development of new businesses, including new technologies related to natural gas conversion into clean fuels and related products, technology solutions, power generation and emerging technologies.
2007 $70 LEAP Call OJP-AN @ $6.40
Insurance Put: Cancelled - no entry
Entry $63.25 (10/31)
MO - $71.22 Altria Group ** Stopped $71.00 **
MO was knocked back into levels not seen since early October after it was downgraded on worries over a current suit in progress. It was feared that the suit could stall the breakup another two years and the stock imploded on the news. We were not successful in the put insurance. The rapid drop after holding at $74.50 for three weeks did not allow enough time for decline expectation to grow in the put premium. The loss including the put was $1.25. Cheap, but still a loss.
Yes, MO, not an energy stock but one with special events in its future. The tobacco suits and legislation appear to be winding down but MO is taking no chances. Altria is taking steps to distance itself from the eventual decline of the tobacco business and will be spinning off the tobacco side sometime in 2006. Altria I working to upgrade its non-tobacco image and will be divesting itself of other non-core assets. Barron's expects Altria to split into three separate companies in 2006 and release lots of pent up shareholder value. As long as Altria is hampered by the tobacco image and all the claims it can never receive a true valuation on the rest of its very profitable businesses. An insurance put is a must given the unpredictability of the legal cases.
Altria Group, Inc. (ALG), through its subsidiaries, Philip Morris USA Inc. (PM USA), Philip Morris International Inc. (PMI) and Kraft Foods Inc. (Kraft), is engaged in the manufacture and sale of cigarettes, tobacco products, branded foods and beverages. PM USA and PMI are engaged in the manufacture and sale of cigarettes in the United States and internationally, respectively. Kraft is engaged in the manufacture and sale of branded foods and beverages in the United States, Canada, Europe, the Middle East and Africa, Latin America and Asia Pacific. Kraft manages two units, Kraft North America Commercial (KNAC) and Kraft International Commercial (KIC). The Company operates in five business segments, such as Domestic tobacco, International tobacco, North American food, International food and Financial services, which accounted for 27.7%, 41.2%, 24.3%, 5.9% and 0.9%, respectively, of the Company's income during the year ended December 31, 2004.
2007 $80 LEAP Call VPM-AP @ $5.50, exit $4.00 (11/18) -1.50
Buy the put now instead of on a trigger since legal announcements tend to appear suddenly.
Entry $75.00 (10/31)
UNH - $61.03 Unitedhealth Group ** Stop Loss $57 **
UNH finally broke over resistance at $60 and set a new high on Friday. The play is progressing so well I cancelled the put insurance and raised the stop to $57. PacifiCare shareholders approved the $8 billion acquisition by UNH with 99% voting for it. The acquisition is expected to receive approval from regulators for a Q1-2006 close. Shareholders will receive 1.1 UNH shares and $21.50 in cash.
UnitedHealth is the leader in the managed heathcare sector. Earnings are soaring, +31% in Q3 to $2.43 billion and the outlook is only up. With health care costs rising more and more companies will turn to UNH to lessen their benefit expenses. We are also expecting a seasonal bounce now that October is behind us. There were two strong sell cycles in October as funds took profits from a long period of gains. Historically health care companies have done very well over the next three months as funds look for safe havens for year-end cash. UNH gained +37% from the October lows for the same period in 2004. Buyers appear on every dip to the 100-day average currently at $53.
UnitedHealth Group Incorporated is a diversified health and well-being company, serving approximately 55 million Americans. The Company provides individuals with access to healthcare services and resources through more than 460,000 physicians and other care providers, and 4,200 hospitals across the United States. It manages approximately $60 billion in aggregate annual healthcare spending on behalf of more than 250,000 employer-customers and the consumers it serves. The Company conducts its business primarily through four operating divisions: Uniprise, Health Care Services, Specialized Care Services and Ingenix. On July 29, 2004, the Health Care Services business segment acquired Oxford Health Plans, Inc. (Oxford). Oxford provides healthcare and benefit services for individuals and employers, principally in New York City, northern New Jersey and southern Connecticut.
2007 $60 LEAP Call VUH-AL @ $6.40
Insurance put: CANCELLED NO ENTRY
Entry $56.75 (10/31)
Leaps Trader Watch List
Current Watch List
SUN - $75.95 Sunoco
Sunoco, Inc. operates through its subsidiaries as a petroleum refiner and marketer, and chemicals manufacturer with interests in logistics and cokemaking. Sunoco's petroleum refining and marketing operations include the manufacturing and marketing of a range of petroleum products, including fuels, lubricants and some petrochemicals. Sunoco's chemical operations consist of the manufacturing, distribution and marketing of commodity and intermediate petrochemicals. The Company's operations are organized into five business segments: refining and supply, retail marketing, chemicals, logistics and coke.
Breakdown Target $72
Breakout Target: NONE
HW - $34.57 - Headwaters
Headwaters Incorporated is a diversified company providing products, technologies and services to the energy, construction and home improvement industries. Headwaters conduct its business primarily through four business units, including Headwaters Resources, Headwaters Technology Innovation Group (HTI), Headwaters Construction Materials and Headwaters Technology Innovation Group. In September 2004, the Company acquired Tapco Holdings Inc., a manufacturer of building products and professional tools used in residential remodeling and construction. In June 2004, the Company acquired Eldorado Stone, LLC, a manufacturer of architectural manufactured stone based in San Marcos, California. Eldorado Stone is being purchased from Graham Partners, a middle-market private equity firm. Eldorado Stone will be integrated into Headwaters' coal-based construction materials operations.
Breakdown Target: $32
Breakout Target: $35.50
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