Oil Set To Fall While Gas Continues To Hang On With The Cold

Oil needs to hit $60 before I take further action. The March contract had another strong performance making considerable progress in its march towards $60 last week. The contract closed up $3.50 on the week to $59.02 despite continued large builds in crude and gasoline stocks reported Wednesday. True, there was a draw in heating oil stocks that was either in line or slightly bigger than expected depending on which survey you pay attention to (Dow Jones or Bloomberg) but this is the first pull from storage in 7 weeks in the dead of winter and inventories are still well above average so it’s hard to see the bull case based simply on that (though CNBC tried).

The last minute rally on Friday was inspired by a rumor that there would be an oil workers strike today in Nigeria. This strike has been called off at least temporarily. In other Nigerian news, nine Chinese workers kidnapped 12 days ago were released over the weekend. These two events could provide the impetus for a small selloff in crude beginning today but it’ll take warmer forecasts to really send crude into a tailspin.

Heating oil weighted degree days show a slight decline to 282 versus the prior week’s 287 which should yield a slightly smaller pull from heating oil inventories unless the refiners decided to continue to reign in utilization.

No New Picks Until Oil Hits $60

I’d much rather miss out on the first 10% of a change in direction than try to pick a top or bottom. Phil of Philstockworld reminded me of my comments from January 17th: “Watch out for a potentially large bounce off $50.00.!!! If we don’t knife through it the bounce could be very painful so watch your puts.” I should have listened to myself more closely because I only added a few calls at the time. Man what a ride it’s been since then:

The divergence between oil the energy stocks has started to crumble. Until the last couple of weeks oil had vastly underperformed the oily stocks of the XOI as depicted in the first graph below. The out-performance of the stocks can large be explained by:

Wall Street’s belief that any weakness in oil and gas prices was temporary at best.

Record buybacks led by Exxon Mobil (XOM).

A generally rising equities market.

Recently, as oil took it’s almost mandatory bounce off $50 to its present level of $59 (up 14% in two weeks), the stocks managed to gain “only” 6% (see second graph below). This “divergence from the divergence” is not attributable to underperformance from natural gas, which also scored double digit gains since the mid January commodity bottom, but is instead I believe, attributable to rising forward multiples and an increasingly pervasive sense that commodities have rallied too far too fast so oil and gas prices will head lower when this recent blast of cold weather abates.

The Organisation for Economic Co-operation and Development [OECD] Country oil inventories have been on an inexorable march higher. This list represents 30, primarily western, countries with large economies and trackable oil inventories. Demand may be rising at 1.3% annually but these countries seem willing to put more and more oil into salt caverns and tankyards at higher and higher prices instead of actually consuming it.

Winter weather hangs on in the East, Heartland. HDDs came in at 258 for last week, up from the early read of 238 HDDs on a gas weighted basis. That means that last week was by far the coldest of the season for the gas heated regions of the country. I really don’t see how we avoid a 200+ Bcf pull this Thursday unless something on the industrial side of demand is truly broken. The CPC’s forecast for this week is another quite blustery 254 HDDs. These are just the sort of forecasts to make one run out and buy calls on Chesapeake Energy Corporation (CHK), Southwestern Energy Company (SWN) and Quicksilver Resources (KWK) for a one to two week pop and I am considering it.

These temperature forecast maps depict a slight change from ones over the last several weeks (there’s actually a splotch of red on them).

While colder than normal weather continues to grip the eastern 2/3rds of the country a warming trending is stalled in the west. Could this be the end of Winter? Probably not but it will serve to limit gas withdrawals from the western region, a maybe slightly from the producing region in coming weeks. Texas is expecting a return to 70 degree highs which is actually a return to normal for our little slice of heaven.

Since the western and producing regions have shown the biggest acceleration in withdrawals of late it would be better to see a return to more normal temperatures pushing further into the south before heading back for more puts on the energy group.

Disclosure: Author has no position in the above-mentioned securities.

Comments

[Quaker:]

I'm not quite sure what point you're trying to make here. US oil inventories were very low when oil was plentiful and cheap. This is the way inventories work. Do shoe stores buy 3X more shoes than they can sell and then watch as their profitability collapses? Even shoe salesman aren't that dumb.

US oil production has fallen almost 50mm barrels per month since 2000. Refined products imports have exploded. OBVIOUSLY inventory is going up. The stuff comes in on tankers, it doesn't flow in from West Texas in pipes. At 668mm barrels, the US strategic reserve amounts to about 37 days of what comes through the strait of Hormuz. Whippy dinkle.

Since 1/1/06, Saudi Oil production has fallen almost 1mm barrels. At the same time they've doubled the number of rigs drilling Safaniyah field. Since Safaniyah was COMPLETED in 1985, having 15 rigs drilling and one in work over is a curious happenstance. Since, at it's "mecca" Shedgum had 270 wells and now there are plans to drill 420 this year, all while SA orders new rigs from Rowan and Ensco and cuts production 1mm bpd, we're stuck with another bizarre canundrum.

Meanwhile, Pemex has 42 jackups!!!!!! drilling Canterell and production dropped 500,000 bpd in one year!!! All this as jackups scoot out of the GOM faster than you'd leave an Ashley Simpson concert because they can make 3X the moolah in the persian Gulf.

Hmmmm. What's an investor to do.

2007 Feb 05 03:05 PM

[Greg Pinelli:]

The problem with too much information..is well..it's too much information. Especially when it focuses on irrelevant micro while missing virtually every macro. There are 3 VERY frightening scenarios concerning oil/oil alternatives...
1. It's appearing Mexico will be the next Peak dominoe to fall...and it's falling very fast. Cantarell is shot..and the Mexicans haven't budgeted anything for development...NADA..wh... leads to the next point...
2. Budgets are going to have be increased exponentially to develop any fuel source..and the time frames involved becoming longer. It's either deeper, dirtier, more dangerous or ....
3. Has side effects and unforeseen consequences few want to discuss....ethanol (soil and food issues)...tar sands (an incredible water and gas hog)...conventional oil (a PERMANENT political risk premium and unpleasant coming attractions on the supply side).....
So...someones worried about the price of oil next week???

2007 Feb 05 09:37 PM

[Quaker:]

I don't disagree but keep in mind, price is a powerful motivator. I try to stay focused on the ball. I never was a big believer in peak oil. Actually, I'm at a loss as to what's actually peaking. Oil is a catch all term for sludge of varying viscosities. For every barrel of light sweet there are three barrels of crap waiting for a price rise.

When I worked in SA, I personally shut in hundreds og thousands of bpd of heavy crude. It was heavy, but it flowed. I ran flowmeters on it. But at $24 nobody wanted it.

Oil supply is, and always will be, an engineering problem. Unfortunately most US petroleum engineers are either working for greenpeace, dead or in retirement communities.

2007 Feb 05 09:46 PM

[Saul Sterman:]

Agree with you on the type and supply issue.

See energy.seekingalpha.co...

See comment:
"Agree with conclusion, pertaining to specific crude types. Currently, oversupply relates to heavy & high sulfur content only, due to lack of refining capacity for this specific type."

2007 Feb 06 02:54 AM