Oil Biz

Posted by on Jun 17, 2014

After rallying 11 times in 13 days, the S&P 500 pulled back for three days in a row last week before rallying on Friday. Overall, the index was off just about one percent for the week so not anything to get too excited about. The market seemed ready for some sort of pullback. We do have a number of economic reports out next week that, together with how the traders interpret what Miz Yellen says after the Fed meeting on Wednesday, could give those short-term flippers something to focus on.

The slippery slope

Ever since we lived in Alaska and I had the opportunity to get an extended up close look at the oil industry around the state, to include visiting BP’s facilities all along the North Slope, I’ve had an active interest in the industry. I’ve seen the price go from about $8 a barrel in the mid-eighties (the story was that a single red salmon, based on its price per pound at the time, was worth more) up past the $130 level around six years ago.  And now, with the unrest in Ukraine and Iraq, the global oil markets have responded in their usual frenetic way. The price for US crude moved up by around $4 during the week to end at a nine month high on Friday of over $106 a barrel.

I thought I’d offer a quick comment on the potential investment effect of this move.

Current events

AS this is written, Sunni rebels have taken control of several areas in Iraq, including the second largest city. Issues with Iraqi oil production and export could crop up soon.

In a report last week, Oppenheimer senior energy analyst Fadel Gheit had this to say. “Iraq is now responsible for 3 million barrels a day of (global) crude oil supply. So, if Iraq stops exporting oil… and you add that to the disruption in Libya, the situation in Nigeria, you’ll have a total of more than 4 million barrels of lower supply worldwide. And that could push oil prices to a much higher level—maybe 10 – 15 dollars higher from here.”

Based on Friday’s closing price, the high estimate would then mean crude oil back at $120. He went on to add that “oil prices are already a third higher than they otherwise would be without any disruptions. If it were not for the global tension, oil prices should be closer to $80, not $105, where we have them right now.”

So, if the issues can be resolved, we could see prices lower but they’d still be high enough for continued share price growth in the better companies. There’s an old trading adage that says that the cure for high prices is…high prices.

Where are we now

I believe investing in the many components of the energy sector can prove profitable going forward as the US and global economies all continue to recover. As stated, improving demand alone could help share prices. Oil demand does appear to be picking up again after a long period of below-par global economic growth. Let’s consider what’s going on.

The US is leading the way in the fracking revolution. Canada is tops in tar sands and there’s an increasingly liberalized energy sector in Mexico. North American oil market cooperation (NOPEC, according to CNBC’s Ron Insana) could rival and even potentially exceed OPEC’s production of crude oil, natural gas and related petrochemical products.

If you study on it, you’ll see that the outline of a new world oil map is emerging. It’s not on focused on the Middle East but here, on the Western Hemisphere. The new energy axis currently runs from Alberta down through North Dakota and into South Texas.

Where to consider investing

In previous issues of this letter, I’ve talked about MLPs – Master Limited Partnerships – as a way to benefit from energy sector growth. I continue to believe that the space looks attractive, though not across the board. Those companies with assets and/or projects in hand will likely do better than those requiring high capital outlays to get up to speed. In addition, those in the midstream sector continue to enjoy investor favor. The tax-advantaged distributions, especially in non-retirement accounts, remain a big plus as well.

Additionally, those companies involved in the building out of infrastructure to support the growth in development and transport could also be long-term beneficiaries. And don’t forget the support type firms in the oil service area – those that are the primary suppliers of the goods and services needed to get the product from the ground. Without them – the energy simply remains as the potential kind…

If you wish to have a relatively more direct involvement with energy, companies in the E&P field – exploration and production – will help to provide that.

Even though the price of oil is getting a lot of attention right now, the medium to longer-term trend for the energy sector continues to be positive due to the recovery of the global markets and the ongoing growth in emerging markets. Most companies in the sector pay nice dividends and, should inflation show up over the next so many years, energy assets tend to provide positive returns. The reason is that the assets in the ground are known as “wasting assets” since the fields of whatever type or location will, in fact, go dry at some point. As a result, the value of what remains in the ground tends to rise.

You can also look at an investment in the sector as a way to help minimize the, forgive me, trickle-down effect of the higher crude prices on that at the gas pump.

Should you like to talk about how to incorporate appropriate energy sector investments into your strategy, please email or call me to set up a time to talk about how it can benefit you.




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Past performance is not indicative of future returns.  Investing in securities of any type involves certain risks, including potential loss of principal. Investment return and principal value in a bond and/or securities portfolio will fluctuate so that investments, when sold or redeemed, may be worth more, or less, than the original investment.  Investing in sectors may involve a greater degree of risk than investments with broader diversification. International investments are subject to additional risks such as currency fluctuations, political instability and the potential for illiquid markets. Investing in emerging markets can accentuate these risks.