Option Investor

Weekly Newsletter, Saturday, 06/16/2007

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Table of Contents

  1. Commentary
  2. Changes in Portfolio
  3. Portfolio Listing
  4. New Plays
  5. Existing Plays
  6. Watch List

Leaps Trader Commentary

The Fuse Is Lit

Crude oil prices rose to close at a 9-month high on rising geopolitical tensions and continued refinery problems. The conflict in Israel and Iran's vow to never give up its nuclear ambitions fueled price concerns on both sides of the globe. An unexpected drop in refinery utilization in the U.S. produced a sharp spike in crude prices at home. Apparently the refiners cannot keep them running this year with multiple outages each week and some lasting for weeks.

News that China was arming the insurgents in Iraq and the Taliban in Afghanistan with new anti-aircraft missiles, components for roadside bombs and other munitions caused another shock in Washington. While this does not directly impact oil production it does bring up the issue of what to do about it and what potential military conflicts could arise on a much larger scale. China is also arming Iran with modern anti-ship missile systems for use in the Persian Gulf. Investors have to ask themselves where this is headed. To others and myself it is clear that a conflict with China is inevitable although still years away. That conflict will impact oil production and delivery on a global scale even if the oil fields are not specifically targeted. China is preparing to fight to control the seas on its side of the globe and challenge our current undisputed rule. Presentations to congress over the last month showed that China was spending $125 billion on modernizing and improving its weapons systems with state of the art offensive capability. They have even created a cyber warfare division with the intent to break into, compromise, disrupt and jam communication systems both Internet based and satellite based. I am starting to rant here so I will end this topic but make no mistake this is going to be a major problem early next decade if not sooner.

On the current energy front the depletion monster continues to feed on existing oil fields. Norway announced that crude-oil production fell -7.4% in May from only a month earlier. They also announced that gas production was slowing. However they are developing new gas fields and will eventually become the world's second largest gas exporter.

The IEA and EIA continue to project massive new demand numbers for decades out into the future. To match this demand they project new production coming online for the next 3-5 years. Rarely does new production actually produce a material increase to overall global production. For instance they projected large amounts of new production from the Canadian oil sands. Over an 8 year period where they were projecting and tracking new expected oil sands production that production rose +500,000 bpd. Over the same period production from the North Sea alone declined -1.6 mbpd for a net loss of 1.1 mbpd despite the optimistic projections for an overall gain. Outside experts claim we have to find and produce more than 3 mbpd of new oil each year just to make up for depletion rates from existing fields. To actually increase production materially you would have to add 5 mbpd for multiple years since the depletion rate grows at a faster rate each year due to aging fields. We know how this story will end. We have only been discovering oil at the rate of 5 billion barrels per year. (7gb (gb=billion barrels) in 2004, 5gb in 2005 and 3.6gb in 2006) We are using oil at the rate of 27 gb per year. Do the math.

Uranium prices are expected to hit $200 a pound within the next two years. This is up from $35 a pound just a couple years ago. Increasing numbers of nuclear plants and shrinking supplies cannot peacefully coexist. Something must give and that means frantic exploration by the major producers. Thorium is being explored as a substitute for uranium in future plants.

Iranian drivers can only buy gasoline starting last week if they have a government electronic ration card. The plan is supposed to curb soaring gasoline use. An easier method might have been to just let the prices rise to market levels. Iranians currently pay about 11 U.S. cents per liter and that is after a recent 25% price hike. Just let the price float to global levels and demand will drop drastically. Since Iran subsidizes the price of gas at that level it would also halt a serious drain on the Iranian government's finances. Let's don't tell them about this option and let them continue to pour money into consumer gas tanks.

According to the IEA demand for OPEC crude will rise by 7.8 mbpd to 38.8 mbpd by 2015. That is the equivalent of adding the complete production of another Saudi Arabia. Unfortunately nobody in OPEC can tell us where that oil will come from. Current expansion programs are targeting an increase of roughly 3 mbpd by 2011. Also unfortunate is the fact that it takes nearly 10 years to bring new fields online from discovery to material production amounts. Any additional oil to be produced by 2015 would have to have already been discovered, infrastructure planned and production wells scheduled to be drilled. Since nobody in OPEC has any projects on the board for completion after 2011 it appears we can project Peak Oil for sometime in that range if not before.

In 2004 the Venezuelan national oil company PDVSA said they planned to produce over 5 mbpd by 2009. They were going to spend $37 billion to accomplish this feat. About half that time has passed and production should have passed 4 mbpd on its way to the 5 mbpd target in 2009. Unfortunately production has fallen instead to less than 3 mbpd and still dropping. Chavez has no capital to invest in exploration and he has nationalized all the fields and production facilities. No outside company will invest a dime at this point. Last week Chavez said, "an unnamed U.S. oil company has abandoned its oil wells in Venezuela and left the country." There is no official word on who it was but several firms are close to pulling up stakes and fleeing the disaster in progress. Chavez has 12-18 months left in power according to several political think tanks, which are projecting the downfall of his regime when he can no longer fulfill his expensive promises by nationalizing foreign assets. Political unrest is growing and the clock is ticking.

It was a banner week for our positions with several gaining multiple dollars to new highs. Definitely no complaints and the arrival of a Gulf storm will only send oil prices and stocks higher.

We had a nice entry on McDermott last week and are already up nicely on that new play. With nearly all the decent oil stocks at new highs this week I will not be adding any new plays. We want to plan our exit in existing positions for late August and that does not allow for many profits from entering at new highs today.

Jim Brown

July Crude Futures Chart - Daily

July Gas Futures Chart - Daily

July Gasoline Chart - RBOB Daily


Changes in Portfolio

New Energy Plays


New Non-Energy Plays


Dropped Plays


New Watch List Plays Triggered
BRS $51.27 Bristow Group
MDR $83.50 - +6.52 McDermott Intl

Portfolio Listing & Top Picks

New Plays

Most Recent Plays

BRS - $51.27 - Bristow Group

Bristow finally broke out of its consolidation phase and triggered our entry on Thursday at $50.50.

Bristow recently reported earnings that rose +36% on increased flight hours and better pricing. They provide flight services to offshore platforms around the world. Since offshore drilling is rapidly expanding and the distance from shore is increasing I expect Bristow to continue to grow earnings.

Company info:

Bristow Group Inc., formerly Offshore Logistics, Inc., is a provider of helicopter transportation services to the worldwide offshore oil and gas industry with operations in the United States Gulf of Mexico and the North Sea. The Company also has operations, both directly and indirectly, in offshore oil and gas producing regions of the world, including Australia, Brazil, China, Mexico, Nigeria, Russia and Trinidad. The Company also provides production management services for oil and gas production facilities in the United States Gulf of Mexico. As of March 31, 2006, the Company operated 331 aircraft, and its unconsolidated affiliates operated an additional 146 aircraft worldwide. The Company operates business in two segments: Helicopter Services and Production Management Services. Bristow Group Inc. conducted Helicopter Services through six business units: North American, South and Central American, Europe, West Africa, Southeast Asia, and Other International Operations.

Bristow has no LEAPS

Breakout trigger: $50.50 hit 6/14

Position: Dec $50 Calls BRS-LJ @ $4.40

[Image 1]


MDR - $83.50 - +6.52 - McDermott Intl

McDermott consolidated for about a week and then blasted off to new highs and we were triggered at the break at $78 just as the consolidation ended.

Company info:

McDermott International, Inc. (MII) is an engineering and construction company with specialty manufacturing and service capabilities. MII is the parent company of the McDermott group of companies, which includes J. Ray McDermott, S.A. (JRMSA) and its consolidated subsidiaries; McDermott Holdings, Inc. (MHI) and its consolidated subsidiaries; McDermott Incorporated (MI), a subsidiary of MHI, and its consolidated subsidiaries; The Babcock & Wilcox Companies (B&WC), a subsidiary of MI; BWX Technologies, Inc. (BWXT), a subsidiary of B&WC, and its consolidated subsidiaries, and The Babcock & Wilcox Company (B&W), a subsidiary of B&WC, and its consolidated subsidiaries. MII is a worldwide energy services company operating in three business segments: Offshore Oil and Gas Construction, Government Operations and Power Generation Systems.

Breakout trigger: $78.00 Hit 6/11

Position: 2009 $80 LEAP Call OYZ-AP @ $9.80

[Image 2]


Play Updates

Existing Plays

HOS - $41.05 +1.46 - Hornbeck Offshore Services

Breakout to a new high on Friday and nice rebound off the oil dip lows on Tuesday. There was no news for the week.

For initial commentary see June 10th newsletter

Breakdown trigger: $39.00 hit 6/08

Position: 2009 $40 LEAP Call ZIG-AH @ $8.00


HDY - $3.00 - +0.01 Hyperdynamics Corp

Hyperdynamics continues to consolidate after the prior week's gains. HDY met with the Prime Minister of Guinea in Washington to discuss continued investment in Guinea by HDY. The Prime Minister also met with Condoleezza Rice to seek U.S. financial aid for Guinea. A film crew filmed the meetings and they were shown on Guinea TV. The National Assembly is going to ratify the HDY contract for revenue sharing before the current special session closes. This contract when ratified will become a "Project of Law" or super contract that cannot in normal circumstances be broken. Once the contract is ratified HDY will begin a rapid development phase on its 31,000 square mile lease.

Once the contract is ratified I doubt we will see $3 again. Last chance!

For initial commentary see June 3rd newsletter.

Position: HDY stock @ $2.44


TSO - $62.76 +3.56 - Tesoro

TSO rebounded nicely to close near its all time high on Friday. TSO senior VP Lynn Westfall, said the problems with refiners in 2007 stems from low emission rules that went into effect in 2006 as well as the switch over from MTBE to ethanol. Massive changes were needed to accomplish these changes in 2006 and routine maintenance was delayed. Now they are paying the price in lack of downtime for maintenance, aging parts and a shortage of skilled labor. Don't expect any large improvement in output any time soon.

No change in play.

For initial commentary see April 29th newsletter.

Earnings: May 3rd, $1.67 vs 61 cents in comparison qtr

Breakout target: $55 hit 10:AM on 4/23/07

Position: 2009 $120 LEAP Call ZGC-AD @ $16.68
Post split: (2) 2009 $60 LEAP Calls ZGC-AL @ $8.34


ATW $67.78 +3.40 - Atwood Oceanics

Atwood broke out to a new high on Friday on no news. No change in play.

Interesting article in Investors Business Daily regarding Atwood.

For initial commentary see April 29th newsletter.

Earnings: May 8th est $1.08, actual $1.01

Breakout trigger $60.50 hit 4/23/07
Position: 2009 $70 LEAP Call ZFJ-AN @ $6.50


BHP - $57.87 +2.09 - BHP Billiton

BHP is going vertical on strength in metals, uranium and oil, all of which BHP produces. The China speculation mentioned below is not hurting either. There was no additional news.

Prior commentary:

BHP continues to rise on speculation that China could be eying a takeout of BHP to help fuel their metal needs. China recently formed a $237 billion investment company and BHP is thought to be a target of that investment. China has a history of buying commodity assets to prevent other countries from having access. China is consuming large amounts of metals and ores and taking BHP's assets off the market would be a major achievment for China and a serious problem for the rest of the world. BHP has mining assets in everything from coal, uranium, various metals and oil. With a marker cap of $163 billion it would be a big bite for China but entirely doable.

No earnings date announced.

For initial commentary see March 17th newsletter.

Earnings schedule: No date announced.

Breakout target $43.50 hit March 12th

Position: JAN-09 $50 LEAP Call ZPK-AJ @ $6.00


CCJ - $55.60 +3.60 - Cameco

CCJ spiked to a new high after French owned Areva announced it was buying uranium miner UraMin for $2.5 billion to give Areva another 700 tons of production per year and access to exploration projects in South Africa, Namibia and the Central African Republic. Uranium prices are expected to hit $200 a pound by 2010. They are currently $135 per pound. Current UraMin production is worth about $300 million a year but the deposits in the ground are worth far more than that.

In April Cameco projected sales would be 50% higher in 2007.

Worldwide there are 24 new reactors being built, 41 on the drawing boards and 113 in the proposal stages. If all were built it would be a 50% increase from the 435 reactors now in operation. In 2006 the world consumed 180 million pounds of uranium but produced only 103 million pounds. The rest came from Russian nuclear warheads being decommissioned. The supply from those warheads is dwindling and will be completely gone by 2015.

For initial commentary see March 10th newsletter.

Earnings: Apr-27th, -47% due to revenue timing

Breakout trigger: $37.50 Hit March 7th

Position: JAN-09 $40 LEAP Call ZBK-AH @ $7.80


PTR - $139.65 +4.99 - Petrochina

PTR is rocking and showing zero weakness. The news that Berkshie Hathaway shareholders voted 53:1 against a proposal to sell Berkshire's $3.3 billion investment in PTR was the get out of jail free card. PTR has rocketed off now that it is free of a pending multibillion sale. Announcing multiple oil discoveries over the last month did not hurt either. No change in play.

For initial commentary see March 10th newsletter.

Breakdown target:
$110 1/2 position - hit Mar-5th

Position: JAN-09 $120 LEAP Call ZJK-AD @ $10.70
Cost reduction 4/19 $10.70 -2.25 = $8.45

Cost reduction play:
Position: stopped @ $114 4/19
Short June $105 Put PTR-RA @ $3.40, exit $1.15. +2.25


CHK $37.32 +1.74 - Chesapeake Energy ** Stop loss $33.50 **

CHK rocketed to a new high after a peaceful shareholder meeting where it outlined plans to grow its net asset value by 25% per year. CHK is now the nations 6th largest gas producer and 96th in profit generation of the Fortune 500. No change in play.

For initial commentary see Dec-9th newsletter.

Earnings: May 4th, 87 cents vs est of 78 cents

Current recommendation: Hold

Position: 2009 $35 LEAP VEC-AG @ $5.30

Insurance put:
Oct $30 Put CHK-VF @ 90 cents. Profit stop $28


MRO $132.51 +7.06 - Marathon Oil

Consolidation, what consolidation? MRO blasted off to a +7 point gain for the week and another new high after announcing its profits were up +72.6% from the prior year placing it 23rd on the Fortune 500. No other news.

Don't forget the 2:1 split coming Monday.

No change in play.

For initial commentary see Nov-18th newsletter.

Earnings: May 1st, $2.04 vs est $1.93

2:1 Stock Split June 18th, record date May 23rd

Current recommendation: Hold

Position 2009 $100 LEAP Call VXM-AT @ $12.60
Cost update: Expired March put +65 cents to $13.25

Insurance put: 2/18/07
Position: March $85 PUT MRO-OQ @ 65 cents. expired


HES - $61.00 +1.93 - Hess Corporation *** Stop Loss $57 ***
(Formerly (AHC))

Finally a rebound for Hess. After slipping dangerously close to the stop at $57 the late week rebound pushed it back to $61 and only about 50 cents away from its historic high. No news.

Maintain the stop at $57 just in case.

For initial commentary see Nov-4th newsletter.

Earnings: Apr-25th, $1.17 vs $2.22

Current recommendation: Hold

11/05/06 2009 $50 LEAP Call VHS-AJ @ $6.80
Cost adjustment put exit +1.60, cost = $8.40
Cost adjustment May puts +2.15, cost = $10.55

Insurance Put: Triggered Jan-3rd @ $49
01/03/07 May $45 put HES-QI @ $2.60, exit 1/26 $1.00

Insurance Put: 2/26/07
MAY $50 PUT IGG-QJ @ $1.35 expired
May $55 Put IGG-QK @ $.80 expired


BTU - $52.29 +.81 - Peabody Energy

BTU is struggling after recent energy hearings repeated the claim almost daily that coal-to-liquids technology produces twice the greenhouse gases as regular gasoline/diesel refining and consumption. We already knew it was a lot and emissions controls were the reason this technology is not more popular. Evidently mainstream America was unaware. No change in play.

For initial commentary see Oct-22nd newsletter.

Earnings schedule: April 19th, -32% on special items

Current recommendation: Buy at $46.50

10/22/06 Jan-2009 $50 LEAP Call ZZT-AJ @ $8.70
02/05/07 March put stopped -$1.00, cost = $9.70

Insurance put: Triggered with drop through $39
01/03/07 March $35 Put BTU-OG at $1.15, stopped @ $42.50


SLB $84.60 +5.84 Schlumberger *** Stop Loss $77 ***

SLB spiked higher on news it was going to be added to the Russell 3000 index. SLB is incorporated overseas and as such not eligible for inclusion into the indexes. Russell has changed the rules and 84 previously ineligible companies are being added. I will take the gains regardless of the reason. No change in play.

For initial commentary see Oct-14th newsletter

Earnings: April 20th, 96 cents vs est of 91 cents

Current recommendation: Buy at $60, stop at $55

LEAP Position:
1/2 9/11/06 @ $8.60
1/2 9/12/06 @ $8.00
Position: 2009 $70 LEAP Call VWY-AN @ $8.30
Cost update for expired Jan put +2.00 = $10.30
Cost update for expired June put +1.15 = $11.45

Insurance Put: 9/18
Position: Jan $50 Put SLB-MJ @ $2.00, expired

Insurance put:
Position: June $70 PUT SLB-RN @ $1.15, expired


SUN $84.92 +5.30 - Sunoco *** Stop Loss $76 ***

Sunoco powered to a new high on Friday erasing completely the -$7 drop from the prior week. No news just strong refining margins.
Maintain the stop at $76.

For initial commentary see Oct-14th newsletter

Earnings: May 3rd, 70 cents vs 59 cents in comparison qtr

Current recommendation: Buy at $60, stop at $54

LEAP Position:
9/12/06 Position: 2009 $70 LEAP Call VUN-AN @ $13.50
Cost update expired Jan put +2.40 = $15.90
Cost update expired June put +0.85 = $16.75

Insurance Put:
Position: Jan $55 Put SUN-MK @ $2.40, expired

Insurance put:
Position: June $70 PUT SUN-RN @ 85 cents, expired.

Non-Energy Positions

TEX - $84.90 +2.73 Terex Corp *** Stop Loss $80.00 ***

TEX rose out of danger after missing our stop by a mere 11 cents the prior week. Goldman and Merrill lifted estimates and reiterated buys on several stocks in the sector. No other news.

For initial commentary see May-13th newsletter

Breakout target $81.00 Hit 5/07

Position: Jan-09 $90 LEAP Call VXQ-AR @ $16.40


ATI - $110.20 -1.46 - Allegheny Tech

ATI was crushed when Nucor warned that profits could fall. The entire sector fell despite strong titanium orders and backlogs at ATI.

Fortunately this is a long-term directional spread and our short call will decline faster than the long call. No change in play.

For initial commentary see May-5th newsletter

Breakdown target $110.00 hit 04/30

Call spread:
LONG JAN-09 $110 LEAP Call OYG-AX @ $21.50 (now 26.50)
SHORT JAN-09 $140 LEAP Call ZKG-AH @ $9.50 (now 12.10)


BZH - $31.78 -0.71 - Beazer Homes *** STOP LOSS $36.50 ***

Two weekly declines in a row, maybe our luck is changing. The next hurdle will be the new residential construction numbers on Tuesday.

Beazer has several suits pending, some seeking class action status on charges it practiced predatory lending, filed illegal loan documents and manipulated its stock price.

For initial commentary see March-31st newsletter

Earnings: April 26th, -1.12 vs +2.35 in the comparison quarter.

Position: Jan-08 $25 PUT WZF-ME @ $3.10

Leaps Trader Watch List

Dropped Entries


New Watch List Entries
NOK Nokia
RIMM Research in Motion

Current Watch List

NOK - Nokia

Nokia has been rising on news of a new phone the N95, which will compete with the iPhone on a global basis. I would like to buy it a little cheaper if possible but we don't want it to get away from us either.

Company info:

Nokia Corporation (Nokia) is a manufacturer of mobile devices. Nokia offers consumers a range of mobile devices. The Company also provides equipment, solutions and services for network operators, service providers and corporations. Nokia operates through four business groups: Mobile Phones, Multimedia, Enterprise Solutions and Networks. On February 10, 2006, Nokia acquired Intellisync Corporation (Intellisync). On June 30, 2006, Nokia acquired additional 22% ownership interest in Nokia Telecommunications Ltd. The Company acquired Loudeye Corporation on October 16, 2006. It acquired gate5 AG on October 15, 2006.

Breakout trigger: $30.50
Buy 2009 $30 LEAP Calls WIK-AF

Breakdown trigger: $28.00
Buy 2009 $30 LEAP Calls WIK-AF


RIMM - Research in Motion

RIMM should capture a lot of cell phone customers frustrated at not being able to buy the iPhone for months after its release due to lack of supply. Other customers may decide the iPhone is not focused enough towards business customers and opt for the Blackberry instead.

Company info:

Research In Motion Limited (RIM) is a designer, manufacturer and marketer of wireless solutions for the worldwide mobile communications market. Through the development of integrated hardware, software and services that support wireless network standards, the Company provides platforms and solutions for seamless access to time-sensitive information, including e-mail, phone, short message service (SMS), Internet and intranet-based applications. RIM technology also enables an array of third-party developers and manufacturers to enhance their products and services with wireless connectivity to data. RIM's primary revenue stream is generated by the BlackBerry wireless solution, comprised of wireless devices, software and service. Other revenue includes accessories, non-warranty repairs, and non-recurring engineering development contracts (NRE).

Breakdown trigger: $168.00

Buy 2009 $180 LEAP Call VHO-AP
Sell 2009 $230 LEAP Call VHO-AF

Profits will be capped at $30-$40 but cost is cheaper.


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