Three Reasons to Own Oil E&P Stocks

Three back of the envelope fundamental reasons to be long oil E&P stocks.

1. OPEC cuts are more than enough to offset declining demand by the most bearish estimates (and that is assuming less than full compliance).

The International Energy Agency (IEA) forecasts global crude oil demand to decline approximately 2.56 million barrels per day to 83.2 million barrels of crude oil per day. This happens to be the most bearish of the estimates between the major demand forecasters.

Obviously at first glance this is bearish news since reductions in demand are not typically bullish for price action. However, OPEC has taken action to effectively offset this reduced demand via production cuts. OPEC has a quota cut of 4.2 MMB/D. Of course, not all members of OPEC are 100% compliant with this production quota. In fact as of last month there was really only 76% compliance among OPEC members.

While it may appear that 24% is a significant amount of cheating, at a near record OPEC compliance of 76% or 3.2 MMB/D of production cuts, the production cuts more than offset the most bearish forecast for demand decline at 2.56 million barrels per day. This obviously doesn’t mean that supply will run short overnight. What it means is that over time the world will begin to draw inventories down and before you know it we will be in a supply crunch again.

2. The weak dollar doctrine will fuel commodity inflation in the United States

Well, it is official the U.S. is taking a 60% stake in General Motors (GM). It is all over the news headlines and will likely remain there for the next several weeks. It seems clear the Obama administration will do whatever it takes to promote their set of ideals which includes destroying the fiat currency of the world.

Interestingly enough, it is perfectly logical for Obama to follow a weak dollar policy doctrine. Why would I suggest that? The vast majority of politicians currently in power in this country are absolutely terrible people. They won’t stop at anything to gain votes and Obama is certainly not above that. Hence, the UAW gets a substantially larger stake in GM than the bondholders.

But back on point…if you are an extremely liberal President who seems to legitimately prescribe to socialism as an economic system…and you want to change the system in the United States to support your particular ideology…what would you do?

Beyond directly taking over the means of production, he is actually doing that…you destroy the value of your currency! Why would you do that? Because as the USD collapses goods produced in the United States appear more attractive, in terms of cost, for export.

Thus, by destroying the value of the U.S. dollar, Obama will effectively help promote blue collar unionized workers which effectively will keep the far left wing liberal members of the Democratic Party in office. The weak dollar doctrine will have unintended consequences…

So, for the last couple of years the USD and commodities (namely crude oil) have had a rather strong negative correlation such that when the USD falls in value relative to a basket of currencies, crude oil and commodities tend to rise in value. Effectively, with Obama’s weak dollar doctrine he is pursing policy that will directly lead to commodity price inflation.

Oil prices have been on a tear recently-some of the appreciation can be attributed to the deteriorating U.S. dollar and I believe this will be a multi year trend until the policy of the U.S. government changes.

3. Demand is stabilizing for some consumer fuels. Global demand growth will set in.

Economic data in certain areas of the globe are showing signs of a rebound. China is of course a huge driver of this and will likely continue to be a huge driver. The ripples of Chinese growth will be felt in many other places.

Of most interest to me are countries within South America such as Chile or Brazil. As China applies their stimulus money efficiently, they will begin meaningful expansion or at the very least they will meet their estimated required growth rate to maintain civil order. This will most definitely support surrounding Asian nations such as Taiwan and Malaysia (namely Singapore).

All of this leads to higher commodity consumption via bunker fuel and other petroleum products.

Disclosure: Long PCU, VALE, NUE, HERO, PSEC and ETV

Comments

[jamookey:]

The author's article was on point until he began his Obama tirade.I would remind him that Bush jr. began this mess Jr. began bailing out companies in his last year.Jr. had ruined the dollar within two years of being elected in '00.I remember treasury sec.Snow being grilled on the dollar's decline constantly repeating"...the president believes in a strong U.S. dollar.."yet he knew he was making a fool of himself.If anyone is to blame,let's put it on the the right jackass.Without the useless war in Iraq we would not have seen oil climb to record highs.But I suppose that was Obama's fault also.If the author doesn't like the way the country is being run,he can always move.

Jun 02 06:32 AM

[Daniel Moser:]

You might be on point with who started the systematic destruction of the dollar. However, that point is moot. The fact is the USD is being systematically devalued, and I would argue the current administration has no intentions of altering its path via good policy. There are implications of this policy and as such, investors should aim to profit from trends that they predict will play out because of this policy. Hence, the weak dollar doctrine is merely one point among at least 3 as to why oil exploration and production companies represent a compelling opportunity for investors.

Jun 02 08:38 AM

[Andy1234:]

I think every president since the 70's has basically devalued the dollar..the way our system is set up...you have to just to cover the interest on the debt.

My question is this.....if you cut spending substantially....how would you cover all the debt? Since interest is tied to it? You would need to give all dollars in the system back...plus the interest? So where does the money come from for the interest? what do you pay with? Bread? gold?

Jun 02 08:40 AM

[john s. gordon:]

jamookey -

secretary snow & bush43 reminded me of charley mccarthy & edgar bergen.

paul o'neill was bush43's first secretary of treasury & said the whitehouse's policy was a crock. they promptly threw him out for criticizing whitehouse doctrine.
> jack

Jun 02 09:05 AM

[jayminho:]

its tempting, but i see my major stock wishlist, PBR (petrobras) wil retrace to mid 30s so, thats not the entry point yet.

still, a tip for the author is, since he is a long at VALE (vale do rio doce) and well, since I am brazilian, and I had recently opportunity to talk to people really close to the civil construction industry here, they all say, SID (siderurgica nacional) and the presidential election of 2010, will have great impact (positive impact) into the civil construction area, dont matter who wins(current president allies or the opposition), they wanna boost home and infrastructure by leaps and bounds, thats where SID comes in, as a huge company with its tentacles all over the governament, and souces say, their new "ciment base" under development will be used to construct, basically, everything the governament wants.

good pick, isnt it ?

lets wait and see.

Jun 02 11:19 AM

[john s. gordon:]

interesting interview with paul o'neill located at:
nytimes.com/2008/03/30...
> jack

Jun 02 11:49 AM

[john s. gordon:]

interesting interview with paul o'nell located at:
nytimes.com/2008/03/30...
> jack

Jun 02 11:54 AM

[KyBec:]

does anyone here own PSEC? I would love to hear your thoughts on this one.

Jun 02 05:38 PM

[jamookey:]

KyBEC I have owned PSEC for about 2.5 years.I have about 1k shares at an average price of 9.$.Most of their holding are in the energy sector.Unlike other BDS companies their income should be more reliable since energy is still doing faily well even in this down turn.That was what attracted me to this stock.And they have not disappointed me.I own 5 different MLP's.I'm in it strickly for the dividends as a supplement to my retirement income.The management has been buying agressively,so it might be an indication of confidence in their business model.I hope this helps a little,good luck,MOOK

Jun 03 12:04 PM

[buyforeclos...:]

Exactly..Bush kept the dollar in the cellar so exports would take off and maybe that is not a bad thing. I bought oil related stocks WH and NE and am doing very well , that is going with the flow. HOWEVER, I know that the BEST chance we had of getting out of the recession was a stronger dollar and LOW gas prices. I sure had more money to spend when oil was at 35! Consumer spending is 2/3 of GDP and that is what counts...deon't Obama and his cronies realize this?


I know I am not spending anything and saving .... as are everybody I know. I need to use it for gas! wake up Obama...stop the printing presses and strengthen the dollar to at least 130 to the Euro and that is still a lot weaker than the 165 it used to be.

Jun 10 11:07 AM

[bassmaster17:]

I'm sure atleast someone on this post would be happy to know that I talked to someone yesterday who IS leaving the country...or atleast that's what he said. In summary his reasoning basically aligns with the assumption of the US morphing into the former Soviet Union while China is moving in the direction where the US was way back in the day. Their industrial prod number was up 8.9% from last year (pretty impressive). My worse case scenario depicts further nationalization of industry and ultimately economic fascism coupled with domestic programs fostering socialism. As a result people with money and businesses will leave...the printing presses will go into overdrive to keep these programs intact and the US will collapse and go bankrupt like the Soviet Union. Most likely people will wise up before everybody has to rely on the government and elect officials whose policies are more inline with Reagan's. The country has been through trying times before and has emerged stronger, wiser and more innovative as a result. That said, I like Vale, it seems all the analysts who upgraded it at its highs are now downgrading it at less than half price. It should have never gone to $10 in the first place.

Jun 12 04:05 PM