Option Investor

Weekly Newsletter, Saturday, 01/05/2008

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Table of Contents

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

Leaps Trader Commentary

Still Counting

The sting of inventory declines in crude stretched into a seventh consecutive week with a drop of -4.1 million barrels. Inventories are now 8.1% below last year's levels. Imports rose for the week to more than 10.0 mbpd but it did not help. Fog has hampered coastal deliveries for several weeks with and last week was no exception despite the higher imports. Mexico shutdown all exporting ports on Tuesday due to weather and some were still shut as of Friday morning.

Refinery utilization rose slightly to 89.4% due in part to the rise in the crack spread to $7 per barrel. It was as low as $2 in late October and spiked sharply last week. This is completely contrary to what you may have heard on CNBC late in the week. A noted option trader was bragging about being short refiners due to the shrinking crack spread. Maybe somebody was talking down his position because spreads went up, not down.

Oil prices touched $100 twice last week with the first touch on Wednesday in the pit and the second on Globex on Thursday with a trade to $100.09 before settling back on profit taking. Conoco helped push prices lower on the refiners by pre-announcing their Q4 operations. They said production was 60,000 boe per day higher than Q3 but refining revenues were expected to be lower due to the narrow spreads early in the quarter. They also warned that higher tax rates in Canada and Alaska would narrow profits. The refining portion of the announcement is what captured traders attention and refiners sold off not because margins were slim now but because they had been back in October.

OPEC members have been taking turns at the microphone to claim $100 oil is not their fault. At the same time others in OPEC warn that oil could head higher to something in the $110 level if demand does not slow. OPEC claims and rightly so that the high price of oil is due to a lack of refining capacity for lesser grades of plentiful crude. The majority of refining capacity around the world is for light sweet crude.

The Oil & Gas Journal did a survey in 2006 of the amount and type of crude reserves remaining around the world. The chart below is what they found. Only 20% of our remaining reserves are LS crude and the overwhelming majority a type of crude that most refiners cannot use in large quantities. Most refiners have some sour capability but only a small portion of their existing capacity. This means the majority of refiners are bidding against each other for the dwindling supplies of light crude.

OPEC will meet again on Feb-1st and discuss quotas and possible production hikes but by February the heavy winter demand will already be over. OPEC oil must be produced about 45 days before it is needed to allow time for transportation and refining. Oil produced after Feb-1st would not be available for use in the U.S. until April. They may decide to raise production by a token amount just to avoid the blame of $100 oil. A new report out by OPEC itself suggests OPEC will have a harder time filling the demand for oil in the years ahead. Under different scenarios the OPEC paper suggested OPEC would not be able to keep up with demand as soon as 2024. Of course that is a completely impossible date in itself but it does show they are beginning to let the world see there may be a problem ahead. They can continue to edge the date closer as time passes until suddenly we are there. OPEC immediately tried to distance itself from the report in the December issue of the OPEC Review published by the organizations Vienna-based Secretariat. OPEC's PR Director said, "We don't muzzle the opinions of others" but that publication "doesn't necessarily reflect the opinions of OPEC."

Several OPEC nations suggested the group would discuss another 500,000 bpd increase on Feb-1st but another member said, "OPEC is already pumping a near capacity" and can do nothing to curb prices" with additional production. Ah, yes, the voice of truth slipping out from the chairman of the Libyan Oil Corporation.

Indonesia said it will propose a 500,000 bpd increase to offset the declines by violence in Nigeria. Meanwhile Saudi Arabia delayed the start of production from the 500,000 bpd Khursaniyah field and said it will meet market demand with existing capacity. That is an interesting statement. The production from that field is supposed to be light sweet crude while the rest of their excess production is sour crude. Since putting more sweet crude on the market would lower prices I think it is a telling statement that they are going to withhold it. Of course since this was new production that had been promised for a couple years now it is entirely possible the field did not perform as expected, it was harder to complete or fizzled altogether. Until eventual production actually appears in some form we will not know the true reason for the announcement.

In another news release from Reuters the total OPEC 10 production for December was 410,000 bpd over November at 27.39 mbpd. When compared to the quotas that went into effect on Nov-1st calling for production of 27.25 mbpd it is obvious that they are still having trouble just making the quota. The +140,000 bpd over production in December will take a long time to make up the -270,000 bpd shortfall we saw in November. Two months to be exact. The report did not say where the additional oil was coming from.

Iraq said production from the northern fields had stopped because storage tanks were full at the Turkish port of Ceyhan. The tanks hold 6.8 million barrels. They are not selling the oil until it arrives on the coast in order to prevent penalties for failure to deliver due to sabotage. With the tanks full they have to sell the oil and schedule offloading before restarting production. Not exactly an efficient way to run an oil company but I understand the reasoning.

According to the director of the IEA oil prices could hit $150 due to booming demand from China and India. If the high growth scenario continued prices could rise sharply. The IEA said it would not release oil from stockpiles to relieve the price and the U.S. administration said the same thing this week. Oil in the Strategic Petroleum Reserve is not for price controls but for backup in the case of an emergency. The catch to the headline grabbing statement was a qualification that we could see $150 by 2030. We could see $1000 by 2030 but that would not be politically correct for an IEA official to utter those words in public.

The Movement for the Emancipation of the Niger Delta (MEND) vowed to cripple oil exports from the Niger Delta region by providing anti-aircraft gunships to the movement. It is no wonder Shell is looking to sell its assets in the area.

An editorial in the Financial Times called "Peak No Evil" attempted to debunk the coming of peak oil with a bunch of tired excuses like "there is plenty of oil left to find in Saudi Arabia." The author was laughed out of circulation by a barrage of facts to the editor. One fact came from a former Vice President of Saudi Aramco, Edward Price, "the idea that there are "large unexplored areas" in Saudi Arabia or anywhere else in OPEC - is simply not true. Other facts came from PFC Energy, "In OPEC as a whole there have been over 1000 discoveries since 1980, of which only 10% were larger than 130 million barrels (two days global consumption), and 50% were smaller than 8mb. The size distribution tells you that major new finds are unlikely, regardless of what the Saudis would like you to believe."

Venezuela said oil revenues fell -5.3% in 2007 despite a +16% rise in the price it received for crude. The average price of VZ crude was $65.13 per barrel compared to 56.35 in 2006. VZ crude is mostly very heavy oil and not desirable in the open market. The decline in revenues came from falling production as a result of the Chavez nationalism of the oil fields.

South Korea said it expected crude imports to increase 7.8% in 2008. South Korea is the worlds 5th largest buyer of crude. At the same time they cut their GDP forecast for 2008 to the upper 4% rate from over 5% due to the higher price of crude and the impact on growth.

Canada said the industry drilled 6,000 fewer gas wells in 2007 and they expected that number to fall by another 2,560 (38%) within the next two years. The reason given was the higher tax rate after Canada boosted rates in 2007. Oil drillers are expected to see drilling fall by 17% in 2008 in Canada.

Mexican oil company Pemex said oil output could fall by 33% in 2008 from the 3.1 mbpd average in 2007. Cantarell has fallen to 1.46 mbpd in 2007 from more than 2 mbpd and is expected to decline to only 1 mbpd by the end of 2008. By operating Pemex more like an ATM than a business the government extracted $54 billion in taxes on revenues around $100 billion. That was 35% more than the $36 billion Chavez extracted from PDVSA to pay for his social revolution and PDVSA has the same $100 billion in revenues. Mexican law prohibits outside investment in all aspects of oil production and that prevents companies like Petrobras from helping develop known reserves for a piece of the action. Pemex has $52 billion in debt and more than any other oil company and revenues are dropping like a rock. Reserves fell 30% from 2001-2006.

Gasoline could rise to average $3.75 in the U.S. by summer with prices on the west coast well over $4. Analysts think increased demand, lack of refining capacity and lack of inventory will push prices to new highs by summer.

Russia is increasing the tax on oil exports by 18% on Feb 1st. Higher gasoline prices coming to a station near you somewhere in Europe.

It was not a fun week in the markets but overall the touch of $100 by oil managed to insulate our portfolio pretty well from the declines. We saw some selling but it was not as serious as some we saw in tech stocks. FWLT lost -10 on Friday but still ended the week +3. RIMM was the biggest loser at -13 but it is still above our entry point with the Computer Electronics Show next week. I think we should be proud of the performance of our portfolio. I expected more tax selling than we got and I suspect more money is going to move into energy than out of it in the weeks ahead.

I strongly recommend you get this video and pass it around to all your friends. View trailer here.

Jim Brown

February Crude Futures Chart - Daily

February Natural Gas Futures Chart - Daily

February Gasoline Futures Chart - RBOB Daily


Changes in Portfolio

New Energy Plays


New Non-Energy Plays


Dropped Plays
PTR PetroChina ** Stopped $170 **
CSR China Security *** Closed ***

New Watch List Plays Triggered
MTW $44.40 Manitowoc

Portfolio Listing & Top Picks

Top Ten List

If you are looking to add another position this is my top ten list for this week. The target prices listed would be the ideal entry points for these stocks today. There is no assurance any stock will ever return to these support levels and you will need to make your own decision about an entry point above these levels. I believe these stocks have the best potential this week. The list will change from week to week based on technicals, fundamentals, crude prices and market action. The list is not sorted in any particular order.


I removed PTR and replaced it with CNQ.

The yellow means they are very close to those entry levels and green means they are at the target level.


New Plays

Most Recent Plays

MTW $44.40 - Manitowoc

We got a nice -$7 pullback in MTW to trigger our entry at $45. let's hope the selling stops here.

Company info:

The Manitowoc Company, Inc. is a diversified industrial manufacturer in three principal markets: Cranes and Related Products, Foodservice Equipment and Marine. The Crane business designs, manufactures and markets a line of crawler cranes, mobile telescopic cranes, tower cranes and boom trucks. Foodservice business is a manufacturer of cold side commercial foodservice products. It designs, manufactures and markets product lines of ice making machines, walk-in and reach-in refrigerators and freezers, fountain beverage delivery systems and other foodservice refrigeration products. Marine segment provides new construction, shiprepair and maintenance services for freshwater and saltwater vessels from four shipyards. On January 3, 2006, The Manitowoc Company, Inc. acquired ExacTech, Inc. On May 26, 2006, it acquired McCanns Engineering & Mfg. Co. and McCanns de Mexico, S.A. de C.V. In July 2007, it acquired Shirke Construction Equipments Pvt. Ltd.

Breakdown trigger: $45 Hit 01/04

Position: 2009 $50 LEAP Call VMT-AJ @ $7.45


Play Updates

Existing Plays

BHI $79.61 -2.99 - Baker Hughes

Back to support at $80 on no news.

01/04 North American active rig count rose +51 to 2,093

Earnings schedule: Jan 30th

Breakdown target: $80 Hit 12/17

Position: 2009 $90 LEAP Call VBH-AR @ $8.40


DNR $31.16 +1.05 - Denbury Resources

Positive moves to another new high. Minor dip on Friday still left us with a gain. Still no complaints here.

Breakdown trigger: $53, post split $26.50 hit 12/17

Position: June $30 Call DNR-FF @ $2.25


VLO $64.14 -6.41 - Valero Energy

Valero was knocked for a major loss after Conoco complained about lower margins in Q4. Valero also said it was going to sell two refineries, one in Memphis and the other in Louisiana. The combined capacity of the two plants is 260,000 bpd. Analyst Fadel Gheit said there would be no shortage of buyers and whoever bought them would spend and equal amount of money fixing them up. Valero bought a dozen refineries at bargain basement prices over the last ten years and is now pruning the ones with the most expensive maintenance and getting huge prices in return. Gheit said the refinery Valero sold in Lima Ohio in May went for $13,000 per barrel of capacity. Using the same metric Valero could expect to receive about $3.4 billion for the pair.

Position: $70 LEAP Call VHB-AN @ $9.20


FLR $147.26 +1.00 - Fluor Corp

Little of no tax selling on FLR and they announced on Friday a $1.6 billion deal with Marathon to expand a refinery. Early Saturday morning Kuwait Oil signed a new deal for $334 million to manage several unidentified projects over the next five years. No selling and positive news is a trend I can enjoy.

Breakdown trigger: $145 Hit 12/13

Position: 2009 $160 LEAP Call XOB-AL @ $22.30


RIG $142.46 -3.56 - Transocean Inc

Minor decline after a strong $10 gain the prior week. No news and the trend is intact with minimal tax selling.

Breakdown trigger: Hit 12/4 @ $130

Position: 2009 $140 LEAP Call VOI-AH @ $15.80


JEC $96.61 -1.47 Jacobs Engineering Group

Rock solid! JEC announced on Friday that a company it owned 40% of in Finland, Neste Jacobs, was buying Rintekno, a local engineering company in Espoo. This makes Neste Jacobs the regions leading provider of engineering services in the chemical and biotechnology industries. Normally an acquirer sinks on the news but the -$5 JEC gave back was only what it gained the day before.


Breakdown target: $80.00 Hit 11/12

Position: APR 2008 $90 Call JEC-DR @ $6.50


COP $85.56 -3.57 Conoco Phillips *** Stop Loss $81.00 ***

Conoco's preview of their Q4 operations knocked -$2.50 off the stock price but the +60,000 bpd of new production should help keep the price firm. Support is $82, stop $81.

Breakdown target: $80 hit 11/12

Position: 2009 $90 LEAP Call OJP-AR @ $8.60


CNQ $74.24 +.18 Canadian Natural Resources

No news but another 4-week high. No complaints.

Entry 11/29: $66

Position 11/29: 2009 $90 LEAP Call OKR-AR @ $6.50


CLB $125.09 +1.14 Core Labs

No news, holding at two-month highs.

Breakdown Trigger: $130 11/12

Position: 2009 $140 LEAP Call ZYM-AH @ $21.30


PBR $109.89 -7.73 Petrobras *** Stop Loss $97 ***

Petrobras was knocked for a 5% loss on the back of a -3% loss in the Brazilian stock market. Brazil was hit hard by the U.S. economic reports on Friday but you can bet Petrobras will bounce back. Sell stops were hit in the decline but this is a buying opportunity for new investors.

LEAPs Alert Entry 11/12 @ $95

Position: 2009 $90 LEAP Call VDW-AR @ $17.10

Position: 2009 $110 LEAP Call XVQ-AB @ $10.00

Alert on 11/2 recommending an immediate entry into the $110 LEAP. The prior recommendation had been calling for an entry into the $90 LEAP on a dip to $80. The correct LEAP for the current position is the $110 LEAP.


FWLT $159.69 +3.42 - Foster Wheeler

Foster hit another new high on Thursday and then declined -$10 on Friday. That left it with "only" a +3.42 gain for the week. It does not get any better than this. The split is supposed to be approved by shareholders next week and we should get a split date soon.

The board approved a 2:1 split subject to shareholder approval around January 8th.

Breakdown trigger: $135 hit 11/06

Position: 2009 $150 LEAP Call ZHF-AW @ $29.10


PTR $176.00 +0.10 - PetroChina *** Stopped $170 ***

The dip on Thursday took us out of the play when PTR traded at $170 on the gap down open. Friday's rebound of +$5.36 was no help since it came too late.

Breakdown trigger $194.32 Entered on rebound from $190 on 11/08

Position: 2009 $220 LEAP Call ZJK-AZ @ $32.20, exit $11.10, Ouch!


XOM - $92.08 -2.92 Exxon Mobil

Tax selling finally appeared on Exxon or was it Conoco sympathy that knocked a couple bucks off the giant? Probably a combination of both but we are still way ahead of the game on Exxon.

Breakdown trigger: $88 Hit 11/01

Position: 2009 $100 LEAP Call ODU-AT @ $7.90


CAM - $50.37 +1.20 Cameron International *** Stop Loss $44 ***

Stock split 2:1 after the close last Friday. After settling at $48 CAM rebounded to $52.75 on Thursday but declined on profit taking for only a small gain for the week. Our $100 LEAP became (2) $50 LEAPS.

2:1 Stock split 12/28 to holders of record on 12/17

Earnings schedule: Jan-31st

Breakdown target: $95 Hit 10/30 (47.50 post split)

Position: Post split (2) 2009 $50 LEAP Call OKA-AJ @ $9


SLB $98.00 -.80 - Schlumberger *** Stop Loss $87 ***

No specific news but SLB held its gains.

Earnings schedule: Jan-18th

Breakdown target: $95.00 hit Oct-22nd

Position: 2009 $100 LEAP Call VWY-AT @ $15.60


CVX $93.35 -1.51 - Chevron

Chevron saw a $4 decline from the week's highs after Atwood announced it won a contract to build and lease a semisubmersible offshore drilling rig to Chevron for at least 3-years. The contract price is $470,000 per day and Chevron has a week after the rig is delivered to bump the contract to 6-years at $450,000 per day. That would pay out to $985,500,000 to Atwood. Atwood has contracted with Jurong Shipyard in Singapore to build the vessel for an estimated cost of $580 million. It will be delivered in 2011. That seems like a very good deal for Atwood since even after costs they can pay out the cost of the rig in 6-7 years and be highly profitable thereafter. This should solidify prospects for RIG, HP and NOV in the rig market. I suspect Chevron dropped on the high price as well as the Conoco refinery warnings.

Breakdown trigger: $87 hit Oct-22nd

Position: 2009 $100 LEAP Call VCH-AT @ $6.40


NOV $74.31 -.06 - National Oilwell Varco

Same story as the first dozen positions. No material decline and no news.

Earnings schedule: Feb 6th

Breakout Trigger: $80, hit 10/11/07

Position: 2008 May $90 Call NON-ER @ $7.20


MDR - $58.00 -1.44 McDermott Intl *** Stop Loss $45 ***

No news for McDermott but it continues to hold at support at $58.

Earnings: Nov 8th, +37%

Breakout trigger: $53, hit 9/20

Position: 2009 $60 LEAP Call OYZ-AL @ $9.00


CHK $39.32 -.21 Chesapeake Energy

A new two-month high on news they sold some non-core gas assets for $1.1 billion. The CEO said it was part of a plan to reduce debt by selling assets and reinvesting part of the proceeds into their low risk drilling plays. CHK expects 30% annual return on the invested cash.

Earnings: Nov 7th -34%, beat by 3 cents.

Position: 2010 $35 LEAP Call WZY-AG @ $6.60
10/28 Price update: Expired Oct Put +90 cents, $7.50

Insurance put:
Oct $30 Put CHK-VF @ 90 cents. Expired


HP $40.11 -.17 Helmerich & Payne *** Stop Loss $29.50 ***

Very low volatility despite a +$2 move intraweek. Still holding the high ground on no news and no tax selling. I am surprised.

Earnings: Nov-15th, +18%, beat by +6 cents at 93 cents

Position: Jan 2009 $35 LEAP Call ZQA-AG @ $4.50

Insurance put:
Position: Nov $30 HP-WF. @ .50, Stop $28.50


BHP - $69.29 -2.07 BHP Billiton ** Stop Loss $65.00 **

The drop in markets related to the U.S. recession woes took BHP back to just over support at $68. No news on Rio Tinto.

Breakdown target: $55 hit 8/15/07

Position: 2010 $70 LEAP Call LPH-AN @ $9.00

Non-Energy Positions

CSR $19.81 -2.68 - China Security *** closed ***

That was painful! CSR broke down after they posted notice of a shareholders meeting to authorize increasing the stock by 200% and authorizing the board to grant up to 10 million shares of preferred stock in any one transaction. Run, don't walk to the exit.

Breakdown trigger: $21.00 hit 12/20

Position: Jun-08 $25.00 Call CSR-FE @ $3.00, exit $2.10, -.90

Covered LEAP Calls

RIMM $103.35 -13.59 Research in Motion *** Covered Call ***

I said last week I expected some selling as tax holdouts change positions in 2008 but this was serious! Right back to support at $100 ahead of CES next week. I am still a believer over support at $98-100.

Alert entry 11/12 @ $102.60

Covered LEAP Call:

LONG RIMM @ $102.60
SHORT 2009 $150 LEAP Call XTB-AJ @ $18.50


ETFC $3.23 -0.31 E*Trade Financial *** Covered Call ***

E*Trade said the CEO, Mitchell Caplan, who resigned when E*Trade had to admit they were writing down massive subprime loans and taking a $2.55 billion cash investment from Citadel, will get $10.9 million in severance. Not a big deal in today's CEO world but a nice round number for helping crater the largest Internet broker.

LONG: ETFC @ $4.13
SHORT: Jan-2009 $5 LEAP Call OYN-AA @ $1.45

Profit if called: Premium 1.45 + appreciation .87 = $2.32
Cost of entry: $4.13 - 1.45 or $2.68
Profit = $2.32 / $2.68 or 86%

Leaps Trader Watch List

Dropped Entries


New Watch List Entries


Current Watch List

MOS - Mosiac Co

Strong rally and I am hoping we see some tax selling once 2008 arrives. Not an energy company but a fertilizer company that could reap a major boost in profits from the new Energy bill and the rise in ethanol production.

Company Info:

The Mosaic Company (Mosaic) is a producer of phosphate and potash combined, as well as nitrogen and animal feed ingredients. The Company operates its business through four business segments: phosphates, potash, offshore and nitrogen. The Phosphates segment operates mines and concentrates plants in Florida that produce phosphate fertilizer and feed phosphate, and concentrates plants in Louisiana that produce phosphate fertilizer. The Potash segment mines ad processes potash in Canada and the United States and sells potash in North America and internationally. The Offshore segment produces and markets fertilizer products and provides other ancillary services to wholesalers, cooperatives, independent retailers, and farmers in South America and the Asia-Pacific regions. The Nitrogen segment consists of its equity investment in Saskferco and Mosaics nitrogen sales and distribution activities.

Breakdown trigger: $85 *** New trigger 01/06 ***

Buy 2010 $100 LEAP Call LXW-AT *** New strike 01/06 ***


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