Harvest Energy: East vs. West in Terms of Oil

Thursday’s buyout of Harvest Energy Trust (HTE) by the Korean National Oil Company (KNOC) typifies the difference on how the East and West are looking at oil.

And it’s as simple as supply versus demand.

Big investors in the East are concerned about their supply of oil. Investors in the West are more concerned about the lack of demand.

In an October 18 research note, Goldman Sachs echoed this theme, explaining that China cannot produce enough oil to meet its domestic needs and will need to constantly acquire foreign reserves.

The Goldman analysts who authored the report also said that, in their opinion, China’s growth and infrastructure build out will continue for many years. And so nervous investors in Europe and North America who are fretting about a collapse in China and oil prices will be miss the boat on oil stocks.

The report stated: ”China-based investors focused on supply side of our bullish view as opposed to demand in sharp contrast to most investors in US and Europe we meet with that are focused on demand uncertainty as opposed to oil supply…Given that China is emerging as an economic super power at a time of limited oil supply growth, we think it is likely to lead to the country adding to its SPR (Strategic Petroleum Reserve) continuously for many decades to come.”

Oil bulls are quick to point out that China only used 2.2 barrels of oil per person in 2008, versus the 23.3 barrels used in the USA.

Supply versus demand. East versus West. And with oil at US$80, it looks like the Eastern philosophy is winning out.

There is another huge benefit to national oil companies ((NOCs)) buying oil assets: they get to spend their large currency reserves in US dollars into an asset that basically hedges against the greenback’s decline.

Asian countries like China and South Korea run a large trade surplus with the US. They then use those excess dollars and buy US Treasuries, the largest, the most liquid, and the most transparent investment vehicle in the world.

But the US dollar is moving steadily down, eroding value for Treasury buyers. So instead, they diversify and buy hard assets like Canadian oil companies such as Harvest Energy Trust.

Harvest’s stock was a huge laggard compared to its peers, because of the high debt levels in the company. But KNOC didn’t care about that; not with South Korea running a trade surplus of $5 billion in September alone.

KNOC’s $4.1 billion bid values Harvest at $77,700 per flowing barrel of production, which is almost exactly the average for the energy trust valuations in BMO Nesbitt Burns coverage universe this week. (Peters & Co. out of Calgary called it $63,000 after removing value for Harvest’s downstream assets.)

Regardless, it was a 47% premium over what western investors thought it was worth.

How typical.

Disclosure: I own zero shares in Harvest Energy

Comments

[longoil:]

HTE is worst of the worst of Canadian income trusts. The inept management of CEO John Zahary et al. Acquired Viking and Calpine trusts and then managed to take HTE from $40 /share down to $6 /share pre-acquisition price in the short period of a couple of years. Zahary also made the "brilliant" move of acquiring a low margin refining business in eastern Canadian. The refining business is tough enough for companies like Valero and Tesoro with good management who know what they are doing.. I think KNOC overpaid for HTE considering there were no other takers in the picture.

Not everything is rosy for the Chinese and Koreans. The Iraq government has blacklisted Sinpoec and two Korean oil companies for dealing with Iraqi Kurdistan. The Iraqis were irked when they found out the Chinese and Koreans were dealing with the Kurds directly instead through the central Iraq government.

Oct 23 05:28 PM

[Alan von Al...:]

In my experience, Far East oil & gas companies are eager to acquire assets, will pay a hefty premium, and are naive about valuation. They tend to believe whatever they're told about reserves, prospects, leads, growth scenarios. We advised on a few deals, told them don't do it. They bought anyway, paid billions for bullshit. Good racket for sellers.

Oct 24 07:59 AM

[Jimbo:]

I was an investor in Viking, a fine company, HTE flew all of us into the ground. Lost a chunk of money on those clowns.

Oct 24 09:14 AM

[jerrydd:]

There is not decades of oil for China to put in their SPR's as oil will rise in cost fast. This also has the seeds of oil's markets destruction in about 10 yrs as all other energy sources will be far cheaper. Crossover is about $100/bbl but will take 6-10 yrs to switch over to other energy sources.

China knows this and forcing car companies to build EV's to get ready for it.

So while oil is a good investment now, it won't be for long, peaking in about 6-8 yrs at about $400/bbl in todays $, dropping after that. Late next yr oil will hit $150/bbl will trigger this changeover to get moving.

Investing in Nissan and Ford is a good way to profit from this trend besides oil, oil production companies. Nissan has 100k EV orders now and Ford is set up to rapidly ramp up EV production as oil hits $5/gal next yr with their Focus EV as on the Jay Leno show and their small EV van both coming out next yr.. Nissan will work with A Better Place to rent/lease batteries/mile so their EV's can be sold for less than ICE's in 2 yrs after the newness is off.

Oil refineries are not as demand will drop leaving them with a glut of capacity as we already have hit peak world demand.

I drive my EV's every day at1/4 the cost of an ICE though had to build my own. Fuel is under $.01/mile or 270mpg cost equivalent. The tech has been here for 40+ yrs and new battery tech just makes it better.

The world changed last yr and you'd better be ready or it will bite you.

Oct 24 10:01 AM

[a. palmer jr.:]

I wonder how high oil would have to get for HTE to actually make the shareholders some money...possibly $1000 a barrel?

Oct 24 10:16 AM

[yblarrr:]

Once again the EAST

Oct 24 12:32 PM

[bindlepete:]

Our Authore says :"US Treasuries, the largest, the most liquid, and the most transparent investment vehicle in the world."

What a joke. In effect the Federal Reserve is buying all of the extra ( read unsold Treasuries) from the primary dealers and I also hear paying thse dealers a comsission just a vigorish to keep them quiet about the switcheroo from the ever generous taxpayer.

Further, there is a suspicion that the Trerasury is either discounting their paper to foreign banks or having the Fed lend these banks money at a lower rate to buy the Treasuries which can be used to repay the Fed.

Both techniques are a good way to keep the market thinking that our Treasuries continue to sell in an open market at an open price.

Transparency ? Baloney!

Oct 24 12:58 PM

[robdoc:]

I really liked the thesis behind the article. It was well formulated and in line with what I have surmised.
It is interesting how xenophobic many assessments can be...it is always best to consider others approach to issues.

Oct 25 01:54 AM

[einstein p ...:]

I owned HTE at around US$5 a share and was happy to get out at US$9.30. There are simply better stocks to own in the space.

As this article points out, the problem of demand destruction vs. supply destruction is viewed differently by the East and the West. We tend to think short term, while the East tends to view the long term picture. With the energy markets, a longer term point of view is the correct one. Demand will eventually overwhelm supply in the long run or any type of major geo-political event would create a short term spike and economic chaos.

There is a possibility that, good or bad, the Canadians may not want to sell a strategic natural resource to a foreign company. Thus, I took the profits.

That said, I took the profits and added to my positions in PWE, BTE, and PGH. Still love the CONROYS for the dividends and as a hedge against a declining dollar.

Oct 25 10:44 AM

[Alan von Al...:]

This article and comments have persuaded me to start an oil company and flip it to the Koreans or Chinese. I'm tired of being honest, diligent, allergic to puff.

Oct 25 05:42 PM

[silver-bug:]

Only time will tell. I believe that the short-sightedness of the west will deal a killing blow to the western economy, especially the US, with it's rapidly inflationary monetary policy. I will wait and see as all these dollars go chasing for the oil that the Koreans and Chinese bought at cheap undervalued prices. China is a Dragon that is waking up, and it's rapidly increasing middle class will drive it's domestic economy forward, as well as consume more and more oil as they buy more and more cars. China will gobble up all the 'extra' oil that the US doesn't consume and then some. Just wait and see, my short-sighted friends. Just wait and see.

Nov 10 05:49 PM