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How to Play
the Texas Tea Momentum
In May 2008 a call from a major brokerage was heard round the world. It
was the “super spike” in the price of oil which called for prices to
dramatically increase from the $115 level to an unthinkable $150-$200 a
barrel. This call came from the same analyst that three years earlier
saw $100 barrel crude when sweet Texas tea was hovering close to $60.
The earlier call was also a somewhat unthinkable prospect.
Recently, we got another call from the same brokerage… just
a different analyst this time. The call isn’t quite the same,
but the idea is. Oil prices are expected to move higher. We will leave
the details of Iran or supply and demand out of this discussion and
focus on how we can best position our portfolio based on this move.
Of course you'll need to agree with the basic thesis that oil
will be moving higher and have some faith in Goldman Sach's and thier
The immediate thought of who benefits rests with the largest players in
the oil patch. Chevron (CVX - Analyst Report),
Exxon Mobil (XOM - Analyst Report)
and ConocoPhillips (COP - Analyst Report)
come to mind. The services like Halliburton Company (HAL - Analyst Report)
and Schlumberger (SLB - Analyst Report)
could also see some benefit as a result.
One area that could see exaggerated benefit would be the
drillers. As oil prices continue to increase, the willingness of
speculators to search new sources of oil should lead to gains for the
drillers. Those that are succesfull at new holes in proven reserves are
even more attractive. Diamond Offshore Drilling (DO - Analyst Report) at
$9 billion carries a small multiple of 9x trailing earnings and is one
of the largest drillers. As one of the biggest drillers, the stock is
protected from large price swings via diversification.
Nabors Industries (NBR - Analyst Report)
is another driller that is a little smaller Diamond Offshore Drilling
at $6 billion in market capitalization. A 10 year chart of NBR points
out just how the drillers of smaller size can be affected by a super
spike in oil. From early January of 2008 through late June 2008, NBR
Drilling deeper into the segment we reach Rowan Companies (RDC - Analyst Report)
with a market capitalization of $4.8 billion. This stock did not see
the same spike that NBR saw in the 2008 time frame, mostly because it
is diversified into forestry and steel products. Again, it's
all a matter of preference and exactly how much pure exposure you want
For the most speculative out there, the small (wildcat)
drilling companies can offer the some great potential returns, but also
carry significant risks. Pioneer Drilling (PDC)
is about $600 million in market capitalization and already trades at a
lofty 50x trailing earnings. Its small size make it a potential
M&A play as well, but this stock does not come without its
inherent risks. As the price of oil returned from its super spike, PDC
saw its stock react like a gusher – a gusher that lost all of its
pressure. The stock slid from a high of $20 in June 2008 to $6.75 in
October of the same year and that wasn’t the bottom. Mid-March of 2009
saw the stock reach rock bottom around the $3.50 level, a move that
underscores “what spikes up, is likely to spike down.”
Who has the most
When oil spikes, the cost of fuel soars. Airlines generally feel the
effect of higher fuel costs more than other transportation stocks as
they have no other alternative fuel sources and in a tough economic
envirnment not much room to raise prices on consumers. Many will view
this as yet another reason to not own an airline stock, as most
airlines end up losing money and or going bankrupt.
Another segment of the economy that gets hit during oil super
spikes is the automotive segment. Car makers saw sales of SUV’s and
other gas guzzlers plummeted in 2008 as consumers looked for better gas
mileage. Higher energy costs in general will hurt major
manufacturing companies like the auto-makers as well because of
increased production costs which equate to higher margins.
Ford (F - Analyst Report)
saw its stock crumble during the super spike. There were other factors
that lead to the debacle that was the US auto industry, but 2008 saw F
move from a high of $8 to $1.50. Don’t think that the US auto industry
was alone, Toyota
also saw a “super spike” of its own. Shares of the Japanese car maker
slid throughout all of 2008, but saw a sizeable spike downward late in
the year losing one third its value.
Higher oil prices pump a crimp on all spending in the US economy, but
some sectors feel the pain more than others. Airlines and automakers
bear the brunt of it, but higher fuel costs send prices higher on just
about everything from food to computer parts. That does not mean we
cannot find a few areas of strength to take advantage of big moves in
the price of oil. Alternitives like wind, solar and nat gas
should also see a rise in prices. Look for the "best in
breed" in each alternitives sector to be rewarded if oil prices
continue to rise.