ConocoPhillips (NYSE: COP), like its competitors, is struggling with dropping prices. I believe this oil company is one of the strongest and offers one of the best long term invest opportunities right now as well as a short term income play. Here's a way to take advantage of the continuing drop in oil prices and make some money.
It Has been Strong but Contraction will Take Place
Because of the higher oil prices last year, net operating cash flow increased by 114.79% to $4.18 million when compared to the same quarter last year. This significantly surpassed the industry average cash flow growth rate of 12.39%. Although not as good as the industry as a whole its ROE has improved and we can look on this as a strengthening in the organization. The return on equity has improved slightly when compared to the same quarter one year prior. With earnings improving I am not sure if this can continue even with the promise from the CEO. Because of the lower oil prices, the market is expecting a contraction of 28.6% in earnings ($6.40 versus $8.97). It will be hard to maintain.
Oil Inventories are Still too High
The Energy Information Administration recently reported that oil supplies grew by 2.9 million barrels to 387.3 million for the week ending June 15 while they were predicted to drop by 1.3 million barrels according to the median of 11 analyst estimates in the Bloomberg survey. Oil supplies were predicted to drop by 1.3 million barrels according to the median of 11 analyst estimates in the Bloomberg survey. Independent analyst and trader Stephen Schork said.
"The U.S. is flush with oil right now. And if you factor in the economic mess in Europe, slower economic growth in China, and probably overproduction from the Saudis in preparation for the Iranian oil embargo, the world has a comfortable supply."
The Options Trade
The stock is presently trading about 54.37. Looking at the chart it looks like ConocoPhillips has formed a nice ascending triangular base. This is often seen as a reversal pattern. In the short term, I am not convinced the stock has made a long term turn around. There are just too many headwinds it is has to face right now. I am looking at buying (in the money) on a bearish credit spread play.
- Buy a November put with a strike of '55.00' (priced at $4.05)
- Sell a November put with a strike of '52.50' priced at $2.78)
- Net Debit to Start: $1.27
- Maximum Profit: $1.23
- Maximum Risk: net debit
- Maximum Length of Trade: 5 months
Reasoning behind the Trade
- Dropping oil prices do not abode well short term for the industry.
- Oversupply shows no short term catalyst to raise the price of oil.
- November gives us plenty of time decay protection if it moves up before moving back down.