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Edge of the Peak MoneyNews
Dear MoneyNews Reader, Take a look at the price of gas at your local filling station this President's Day weekend. You should find that the cost of a gallon has dropped since the start of February, from $2.55 to $2.49 per gallon - and probably lower. It's only a small move, but it's going in the right direction. Two weekends ago I signed off this column by saying that I felt "an oil slick coming this way." At the time, crude oil had just come off a surge to $69 per barrel.
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I was referring to the price of crude and wondering whether the oil boom was over. As always, that observation was fairly timely. And unless you have been on a different planet during these last two weeks, you cannot possibly have missed the numerous headlines pointing to the very event I was predicting: A slide in the price of oil. Oh how I wish I'd taken my own advice! This week I'm pleased to announce that the price of a barrel of crude oil on the New York Mercantile Exchange traded as low as $57.60. That marks a 16.5% decline since the start of February. As ever, the culprit was a rise in the amount of both crude oil and distillate inventories, as reported by the U.S. Energy Department. Jason Schenker at Wachovia Corporation in Charlotte, N.C., said of the surge: "Supplies are pretty lush. Once this report is digested we should see a big decline in prices. The geopolitical concern and economic growth are still there in the background supporting prices." Once again the fundamental supply-and-demand situation has fallen back into line - precisely as I had predicted. Traders spent the first 30 days of the year pursuing the simple view that Iran would cause a nuclear standoff that would restrict global oil supplies. Speaking on Bloomberg television, legendary oil investor T. Boone Pickens predicted that he'd never see the price of oil at $50 again during his lifetime. But he agrees that it will still head down to within a dollar or two of that level. And I agree. Regarding the Iranian situation, Mr. Pickens casually admitted that the whole nuclear debate was outside his field of expertise but that the news seemed to be "in the market," meaning that the current price of oil accurately discounted the news. Mr. Pickens also predicted that, in the event of an actual nuclear conflagration involving Iran during the next two years, it wouldn't be difficult for the price of oil to reach between $80 and $100 per barrel. This week, I noted some interesting commentary from Frenchman Thierry Desmarest, CEO at Total SA. He referred to "peak oil," which describes the point in time when the amount of crude oil remaining in the ground is LESS than that which has already been pumped out by exploration companies. Clearly, by consuming less, the oil industry will be able to lengthen the overall lifespan of oil as an energy resource while simultaneously developing ways to deal with alternative fuel solutions for the future. Demerest noted that: "It might seem paradoxical for an oil industry executive, but it's in our interest to see oil demand grow by less than 1% a year. We can't continue to allow oil demand to increase to a level where peak oil occurs too early before other resources can come into play."
In 1949, geophysicist M. King Hubbert of Royal Dutch Shell Plc predicted that U.S. domestic onshore oil output would plateau in 1970 - and his forecast proved correct. But in global terms, analysts believe that at the current level of demand, proven conventional reserves will last 40 years before we run out of oil. According to estimates, the earth's probable reserves (supplies currently thought to exist but situated in remote areas and harsh conditions) will likely last the globe 60 years. But before you panic that the world is running dry, listen to what the International Energy Agency (IEA) said last September. The organization reckons that as much as $3 trillion in investment by the oil and gas industries will advance technology far enough that the world will stop worrying about "peak oil" theories. And as the IEA pointed out in Paris this week, considering the availability of many non-traditional oil sources (such as tar sands, deep offshore reserves and methods of turning coal into oil), peak oil is still many years away. Merrill Lynch Investor Survey Of course to a certain extent, the price of oil does govern our level of discretionary spending, thanks to heating and energy bills as well as the price of gas at the pump. In the news this week, I noticed a closely monitored survey of portfolio managers from Merrill Lynch. (I always like to take note of where money is flowing.) But this week's survey coincided with robust retail sales data, which gave the strongest year-over-year growth in same-store sales since June of last year. Of course, the warm weather helped consumers go out in force in January to shop until they dropped. In my weekly commentary to clients of my Triple Edge Alert equity options service on Tuesday evening, I couldn't help but conclude that the timing of the Merrill survey release was quite poor. Don't get me wrong - I'm not disrespecting America's top securities house. Merrill releases a great informative survey each month - one that yields pretty sound results. But this survey, taken throughout the first week of the month, had money managers more bearish on American securities. As many as 40% of managers wanted to be underweight North American equities, due more or less to rising interest rates and high energy costs. By the way, as a result of more expensive energy, survey respondents wanted to be underweight the consumer discretionary sector (including in there retail stocks) and long energy stocks. Thanks to the retail sales data and coincidental tumble in the price of crude, the survey results looked a little strange. On Tuesday investors immediately jumped back on the equity train and snapped up bargains. Clearly these were not the same people who were asked to participate in the Merrill Lynch survey. Commodities Corner Commodities guru Jim Rogers told investors to stay away from raw material companies but says that despite the recent commodity price slide he's still bullish. Rogers points to rising energy costs and speculation about potential takeovers as reasons to steer clear of basic-materials stocks. In his opinion, that's left those stocks overvalued.
Note: Claim your FREE copy of best-selling author and commodities investor Jim Rogers' new hardcover book "Hot Commodities," a special limited-time offer from the editors of MoneyNews and Financial Intelligence Report. Go here now. Rogers, who co-founded the famous Quantum Hedge Fund with billionaire colleague George Soros, also points to the challenges facing materials providers. "Costs are going through the roof. Don't buy the stocks. Buy the stuff itself," Rogers recently said during an interview in New York. I thought that this week I wouldn't focus on a single commodity. After all, you've possibly had your fill of oil from earlier in this letter. Instead I wanted to point out February's 8.2% slide in the Commodity Research Bureau's index of raw-materials prices.
The lower green line in the chart shows the change in the CRB index during the last three years. The upper blue line shows the iShares Basic Materials exchange-traded fund (Ticker:IYM). It specializes in companies that derive their core business from a direct connection to chemical, mining, pulp and raw material processes. There is an 88% correlation between the two data series. That's pretty high, illustrating their interdependency. Despite that, the clear winner over this three-year period has been the basic-materials sector, which, according to the chart, had gained 69% while the commodity index was up 40% at the end of January. There are SIX different commodity areas included in the CRB index. As the index has declined 8.2%, the real drag on the overall number comes from a 15.7% slide in energy this month, while precious metals have fallen 6.4%. The index of industrial materials has gone down 0.5%, and the softs index (that's cocoa, coffee and sugar to you and me) has dropped just 1.5%. Both grains and livestock are each up over 1% for February. Because of the weightings assigned to each category, the relative importance of energy assures that the broad CRB index has seen a major slump. In reality, the average loss of each category is 3.7%. While we know what has driven down the energy sector, precious metals on the other hand have dropped thanks to declines in gold (-5.6%), silver (-6.6%) and platinum (-7.9%) throughout February. Industrial metal prices also slid, with aluminum falling 6.9%, while copper and nickel both lost more than 2%. We have to confess to being schizophrenic here at NewsMax.com when it comes to commodity prices. You already know that we have been deriding the speculative energy market frenzy for the last three months. But we are certainly big believers in the broad commodity bull market. So if the trend toward lower energy prices remains intact, we could see that component restrain the CRB index, yet we could still witness rising commodity prices. But what about the outlook for basic-materials companies? Are they a good buy right now? I'm not so sure. First, they have outperformed commodities as demonstrated by the chart. Second, as yet they have reacted very little to this recent shakeout in either energy or metal prices. During the last 30 days, earnings forecasts for a number of oil-refining companies have been cut at several investment houses thanks to the plunging prices of oil and gas. You see, as the prices of energy products fall, so too does the profitability of "cracking open" a barrel of oil and turning it into distillates. Those are the useful products that we use as a result of converting sticky black oil. In the last six months, producers' profit margin has shrunk from $32 per barrel to LESS THAN ZERO!!
The so-called "crack spread" has completely disappeared from the energy markets, reducing the urgency with which refiners do their job.
Andrew Wilkinson P.S. Multiply your profits and cut risk down to size with my Triple Edge Alert options trading strategy. We just closed out a monster quarter capturing big trading profits in Toro (TTC) +63%, Gamestop (GME) +56%, Molson Coors (TAP) +47% and MDC Holdings (MDC) +19%. Join us for an even bigger 2006 starting with our next trade. Just last week I sent my subscribers an urgent Trading Alert to buy calls on a medical instrument manufacturer that the Triple Edge Alert System identified as having strong momentum. That trade was up 31% in its first day. The great news is that it is not too late to get in on the next one. I want you to be there with us. Go here now.
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Wilkinson's Edge
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