Energy Stocks On The Cheap

Differences of opinion make markets.

We know a few people who still think, probably hope, that crude prices can (will) drop by $35 to $40. The big, well-informed, experienced, sophisticated, everyday traders in crude oil think quite differently, as shown in the picture below.

The vertical black bars in the picture are the range of possible prices they hold likely enough to happen to make buying insurance protection worthwhile in case it does. The black crossbars are the current settlement prices that everyone can see. It is the ranges that you have the advantage of seeing, and others don't. Their forecasts can't be found anywhere else but here.


Since our last letter the upper ends of their forecast ranges have held above $90 in all of the coming year's futures contract expirations, and are now mostly between $95 and $100. The lower ends have been raised similarly. In the coming year the lowest forecasts are above where they were on Nov. 9, at $75.

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The worst these professionals can see (and have their hedge money covering) is a $15 to $20 drop by the end of 2010. So if you see oil stocks selling like $60 oil is likely, buy all of them you can afford. But don't hang by your thumbs waiting for it to happen.

There will be inevitable short-term fluctuations in crude prices, having their impact on the stocks. But the trend will likely continue upward, perhaps interrupted by short oversupply panics as well as the usual refinery fires, pipeline breaks, political posturing in producing nations, natural disasters, field depletions, dry-hole exploratory disappointments, shipping interruptions and the like. All against the backdrop of continued increases in energy demand from emerging nations of the world.

Still, the fastest part of the energy ride in stocks is probably behind us. The times when handfuls of names offer probability-weighted gains in excess of +10% in the next three months (annualized rates above +45% to +50%) are diminishing, and will become rarer.

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To make money in energy stocks, we need to watch for the inevitable pricing opportunities in the stocks that may from time to time be driven by short-term weakness in crude prices or other temporary setbacks. The pro oil traders know what is likely for crude, and the pro volume stock market-makers know what is likely for stocks.

Right now, there are still good short-term profit situations. They continue to be more in the Exploration & Production (E&P) companies and the Service & Transportation issues. Lesser, but still quite competitive, opportunities are to be had among the non-U.S. Big Oils.

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There are a few names with potentials above our hurdle rate of +5% in the next three months (+22% annually), but not much above. They are the Canadians: Canadian Natural Resources, Petro-Canada, Suncor and Imperial Oil; the Chinese: PetroChina and China Petroleum & Chemical, and Petroleo Brasileiro of Brazil. The lone U.S. company is Apache.

Among E&P companies the best ones are Comstock Resources, Berry Petroleum, Denbury Resources and Carrizo Oil & Gas.

The Oil Services and Transportation stocks have a few strong contenders for investment interest. After a substantial retrenchment, Dry Ships appears poised for a substantial recovery. Similarly, World Fuel Services, National Oilwell Varco, Oceaneering International and W-H Energy look to have reached price bottoms with advancing expectations and should achieve satisfying performance. It may still be a bit early for Tenaris, despite its strong history.