Rising Oil Prices Series: Part V

Posted by Patrick O'Connor on 6/18/08 8:58 am

This post contains Navellier top-ten energy stock holdings.

This article is the fifth installment of a multi-part series about rising oil prices. In this column, we’ll discuss how a weak U.S. dollar and speculation may be contributing to rising oil prices.  Read parts I, II, III, and IV.

Are speculators artificially manipulating oil prices?

Many industry experts believe the traditional forces of supply and demand cannot fully explain recent oil prices increases—and point the finger at a relatively new phenomenon, the impact of the speculator on the global commodities markets.

Global demand for oil has clearly been increasing, as we explained in Part III of this series. And the world’s crude oil supply is certainly limited, as we explained in Part IV.

That said, there are still considerable global inventories of crude oil. According to an April 2008 report from the Energy Information Agency (EIA), Organization for Economic Cooperation and Development (OECD) countries had 2.54 billion barrels at the end of the first quarter of 2008—22 million barrels more than the previous five-year average. And, the EIA projects that inventories likely will remain near average levels for the rest of the year.

Thus, say critics of the supply and demand theory of rising global oil prices, other factors must be examined—and one of those factors is speculation by institutional investors such as large financial institutions, pension funds, hedge funds, and sovereign wealth funds.

Speculation is investment in a commodity by an entity that does not “produce or use the commodity, but risks his or her own capital trading futures in that commodity in hopes of making a profit on price changes,” according to the Commodity Futures Trading Commission (CFTC). In other words, speculators don’t buy oil; they buy futures contracts on oil, and as the delivery date approaches, they sell the contract to someone who actually uses the oil.

What’s driving speculation? First, many institutional investors are awash in cash due to lower interest rates and the virtual shutdown of the U.S. asset-backed commercial paper market, and they have to park that cash somewhere. In addition to letting speculators profit on rising prices and hedge against inflation, speculation on oil has a unique advantage over speculation on some other commodities: it hedges against the weak U.S. dollar. Crude oil is priced in dollars, meaning that the more the dollar slumps, the more attractive dollar-denominated oil contracts are to foreign investors. As a result, speculators have been pouring billions of dollars into futures contracts on crude oil.

How much? The Energy Hedge Fund Center says 600 hedge funds were trading oil in late 2007, up from just 180 in 2004. And oil futures contracts on London’s Intercontinental Exchange rose from $1.7 trillion in 2005 to $8 trillion in 2007, according to the U.S. Securities & Exchange Commission. (Data from the New York Mercantile Exchange, NYMEX, was not available).

So, how much is speculation driving up oil prices? It’s virtually impossible to say. But, in June 2006, when oil traded in futures markets at around $60 a barrel, a U.S. Senate investigation reportedly estimated that $25 of that $60 was the result of speculation—putting the “real” price of oil at around $35 a barrel, about 58% of the trading price. Extrapolating that to today’s market, where oil is trading at around $130 a barrel, it should be closer to $75.

So why not ban speculation? First, it serves a purpose: it reduces the risk to the producer. To understand how, it may be easier to consider an agricultural commodity, such as wheat. Without speculation, farmers might have a hard time finding someone to buy their crop in advance—what if there’s a drought or a flood? With speculation, they can transfer the risk to another party, the speculator. Sometimes the speculator makes money—but sometimes s/he doesn’t. The point is the risk is transferred to a party who is able to accept it, and that makes the markets more efficient.

Additionally, banning or limiting speculation would be difficult given that the oil market is global. If you ban trading on the NYMEX, speculators could still trade on the London exchange, or the newer Dubai exchange. If you shut down all exchanges, traders would create an ad hoc market. And that would make the situation even worse, because with a unified market like the one we have today, everyone can see what oil is trading for. On a closed market, there would be little transparency and major price swings would likely result.  Go to Part VI.

Navellier Top-Ten Energy Stock Holdings

Vantage Portfolio
Petroleo Brasileiro (PBR); 1-yr Chart; Profile
Sasol Ltd. (SSL); 1-yr Chart; Profile
Encana Corp. (ECA); 1-yr Chart; Profile
Cameron Intl (CAM); 1-yr Chart; Profile

Power Dividend Portfolio
Noble Energy Inc. (NBL); 1-yr Chart; Profile
Devon Energy Corp. (DVN); 1-yr Chart; Profile
XTO Energy Inc. (XTO); 1-yr Chart; Profile

All Cap Core Portfolio
Occidental Petroleum Corp. (OXY); 1-yr Chart; Profile

We want to hear your thoughts!  Comment to this post by clicking the ‘comments’ link below.

Investment in equity strategies involves substantial risk and has the potential for partial or complete loss of funds invested. It should not be assumed that any securities recommendations made by Navellier & Associates, Inc. in the future will be profitable or equal the performance of securities made in this report. For a list of recommendations made by Navellier & Associates, Inc., for the preceding twelve months, please contact Tim Hope at (775) 785-9416.

To receive email updates from Navellier All Cap Blog, click here.

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Rising Oil Prices Series: Part III

Posted by Patrick O'Connor on 6/12/08 11:08 am

This post contains Navellier top-ten energy stock holdings.

This article is the third installment of a multi-part series about rising oil prices. In this column, we’ll review how increasing demand is helping drive up prices. Read parts I and II.

Increasing demand drives crude oil prices higher

Traditionally, in a free market, the law of supply and demand has kept the price of any good at a state of “equilibrium,” where producers are selling everything they make and buyers are getting everything they want. Why then, in the case of crude oil, have prices been rising so consistently—for so long?

First, let’s review how the law of supply and demand works. When there’s a state of disequilibrium, the market tends to correct itself. When supply exceeds demand, producers try to sell their excess supply, often by reducing prices. But when demand exceeds supply, consumers compete with each other for limited resources, bidding up the price of the goods and encouraging producers to create more. Eventually, this takes prices back to equilibrium.

Today, we are clearly experiencing a state of disequilibrium, with demand exceeding supply and prices increasing in response. At root, however, could be rising demand or declining supply. Which is it?

Many experts argue that the problem is clearly continuously rising demand. We’re an oil-dependent world. According to the Energy Information Administration (EIA), if current energy laws and policies remain unchanged, from 2004 to 2030 total world energy consumption will grow by 57 percent. And most of that energy will come from oil. World oil consumption is projected to grow by 1.2 million barrels per day in 2008, from around 86 million barrels per day today to more than 87 million barrels per day by the end of the year. Moreover, that pattern should continue, taking us to 97 million barrels per day in 2015 and 118 million barrels per day in 2030.

So, who’s using all that crude oil? It’s not whom you might think. In its April 2008 outlook, the EIA estimated that U.S. crude oil consumption will decline in 2008 by about 190,000 barrels per day as a result of the economic slowdown and high prices. After accounting for increased ethanol use, the agency says U.S. crude oil consumption will fall even more, by 330,000 barrels per day. While that’s a small decline—around 1% of the 20.7 million barrels per day the country used in 2007—it’s not causing world demand to increase.

What many industry experts believe is causing world demand to increase is usage in emerging markets, such as China and India. In mid-2007, China and India were the world’s most populous countries, with 1.318 billion and 1.132 billion people, respectively, according to the non-profit Population Reference Bureau. By 2050, they’re expected to have 1.437 billion and 1.747 billion people, respectively. In order to support these skyrocketing populations, the countries are becoming more industrialized, meaning they’re using more technology and thus more crude oil. China is also said to be stockpiling crude oil and oil-based products in anticipation of additional transportation and power needs during the 2008 Summer Olympics.

As a result, almost all of the projected world oil consumption growth in 2008 is expected to come from countries that are not part of the Organization for Economic Cooperation and Development (OECD), primarily China, the Middle Eastern oil-producing countries, and Russia, as well as Brazil and India. And that’s a trend that should continue: As noted in Part II of this series, the EIA has said that total energy demand from 2004 to 2030 is expected to increase by 24 percent in OECD countries—but 95 percent for non-OECD countries.

So, if crude oil prices are rising because demand is increasing, why aren’t producers increasing supplies—which, as explained earlier, would take the market back to equilibrium? Partly because the law of supply and demand doesn’t work flawlessly in a market that isn’t totally free—which you could argue is the case today due to the influence of the Organization of Petroleum Exporting Countries (OPEC), a group of 12 countries formed to maintain the price of oil at a level that is beneficial to its members.

In 2006, OPEC—which produced 35.6% of the world’s oil as of March 2008—started to reduce production to stem a fall in prices. Less OPEC oil in the market helped fuel a rally in prices. But today, despite the clear rise in demand, OPEC is declining to increase production, at least not enough to bring down prices. While many nations led by the International Energy Agency have urged the group to pump more oil, it says there is enough in the market, and has declined to do so. Indeed, recent statements by OPEC suggest the group has no plans to review its output until its next scheduled meeting in September 2008.

So, is OPEC right, in which case other factors—perhaps a weak U.S. dollar and speculation—must be driving up prices? Or, is OPEC guilty of price-gouging? In the next installment of this series, we’ll discuss this issue in more detail by examining how limited supply is influencing oil prices.

Navellier Top-Ten Energy Stock Holdings

Vantage Portfolio
Petroleo Brasileiro (PBR); 1-yr Chart; Profile
Sasol Ltd. (SSL); 1-yr Chart; Profile

Power Dividend Portfolio
Noble Energy Inc. (NBL); 1-yr Chart; Profile
Devon Energy Corp. (DVN); 1-yr Chart; Profile
XTO Energy Inc. (XTO); 1-yr Chart; Profile

All Cap Core Portfolio
Occidental Petroleum Corp. (OXY); 1-yr Chart; Profile

We want to hear your thoughts!  Comment to this post by clicking the ‘comments’ link below.

Investment in equity strategies involves substantial risk and has the potential for partial or complete loss of funds invested. It should not be assumed that any securities recommendations made by Navellier & Associates, Inc. in the future will be profitable or equal the performance of securities made in this report. For a list of recommendations made by Navellier & Associates, Inc., for the preceding twelve months, please contact Tim Hope at (775) 785-9416.

To receive email updates from Navellier All Cap Blog, click here.

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Rising Oil Prices Series: Part IV

Posted by Patrick O'Connor on 6/12/08 10:58 am

This post contains Navellier top-ten energy stock holdings.

This article is the fourth installment of a multi-part series about rising oil prices. In this column, we’ll discuss why supplies might be dwindling. Read parts I, II, and III.

Are crude oil supplies dwindling—and why?

Many industry experts believe that today’s rising oil prices are the result of sharply rising demand—but others argue that demand is not increasing enough to drive prices to the levels we’re currently seeing, meaning that supply must be the issue.

Is it demand—or supply?

As we explained in Part III of this series, we’re currently experiencing a state of disequilibrium in oil prices—and the problem could be supply or demand. But which is it?

In Part III, we talked about demand, however many industry experts argue that supply limitations are the problem. If demand were the problem, they say, higher prices would encourage oil companies to produce more crude oil. In the past few years, global output of crude oil has hovered around 85 million barrels per day despite skyrocketing prices. Something is clearly different—and the most likely culprit is supply.

There are a number of reasons that crude oil supplies could be limited, some geological and some economic. In this column, we’ll examine them.

Crude oil may be peaking, geologically speaking

For decades, geologists have speculated that when half of the world’s original crude oil has been extracted, getting the other half out of the ground will become increasingly difficult or even impossible—a state often referred to as “peak oil.”

In the past, industry experts have argued that the turning point is decades away, since much of the world’s conventional crude oil supplies are untapped; unconventional supplies, such as tar-sand pits, have yet to be fully explored; and constantly improving technologies are allowing us to dig deeper and extract more than ever before.

But now, many of these once-optimistic experts are seeing the glass as half empty. As noted in Part I of this series, in 2000, Sadad I. Al Husseini, former head of exploration and production for Saudi Aramco, the Saudi Arabian state-owned oil company, tallied up some numbers he’d been gathering since the mid-1990s and determined that crude oil output would level off around 2004, plateau for a maximum of 15 years, then begin a gradual but irreversible decline.

We may already be in this period of decline. According to National Geographic, world output from existing fields is falling by as much as 8% a year. That means oil companies must add seven million barrels a day of capacity just to keep pace with current demand—and even more if they’re going to meet growing demand.

Whether you believe we’ve reached peak oil or not, it’s clear that some geological limitations are emerging. The volume of new deposits has fallen each year since the 1960s despite technological advances, such as seismic imaging, which allows an oil company to see deposits deep below the Earth’s surface.

That may be because the world’s largest crude oil fields have already been discovered. Until the 1970s, eight fields producing between 500,000 and one million barrels a day were discovered, according to Matthew Simmons, a veteran oil industry banker. During the 1970s and 1980s, only two were found. Since then, only one has been found: the Kashagan field in Kazakhstan.

At the same time, crude oil output from the world’s largest deposits is declining. Two decades ago, around 12 fields produced more than one million barrels a day. Now only four fields do, including Saudi Arabia’s Gharwa deposit, Mexico’s Cantarell deposit, and Kuwait’s Burgan deposit. And the latter two are already showing signs of declining production. In November 2005, Kuwait Oil Company lowered its estimate of Burgan production from 1.9 million barrels a day to 1.7 million. And from January 2006 though February 2007, Cantarell—the second largest deposit in the world, which reportedly produces one of every 50 barrels of crude oil on the world market—lost one-fifth of its production, with daily output falling from two million barrels to 1.6 million.

That’s a problem, because nearly a quarter of the world’s daily crude oil output comes from the world’s 20 largest fields, according to Wood Mackenzie, a Scotland-based consulting firm. As a result, oil companies are being forced to seek out smaller deposits. But, smaller fields are, well, smaller—and it’s harder to extract crude oil from them. To illustrate, last year’s celebrated discovery of the Tupi deposit—located in the Santos Basin off of Brazil—was called the biggest find in seven years. At an estimated five to eight billion barrels of crude oil, it’s about twice the size of the Roncador deposit, previously Brazil’s largest. But, to put that in perspective, it’s about one-fifteenth of the original estimated size of the Ghawar deposit, which was reported to hold about 120 billion barrels at its discovery in 1948.

As a result, James Mulva, CEO of ConocoPhilips, has said that by 2010 nearly 40 percent of the world’s oil supply will have to come from fields that have not yet been tapped—which are likely to be small. As a result, he and Christophe de Marger, head of French oil giant Total, have predicted that crude oil production will stall at 100 million barrels a day.

Political tensions limit access

Edward Morse, an oil expert who was formerly with the U.S. Department of State and now analyzes the industry for Lehman Brothers, says political obstacles may be more significant than geological issues in dwindling oil supplies. That’s because many of the world’s largest crude oil reserves are located in countries which do not allow foreign investors to find and develop deposits.

For example, Iran, Iraq, and Saudi Arabia are off limits to foreign oil firms. Other countries, such as Mexico, Russia, and Venezuela, will not allow foreign investors access to new fields or the freedom to further develop existing ones. In many cases, that’s hurting their production. According to the International Energy Agency, in the first quarter of 2008 Russian output fell for the first time in a decade. Production averaged about 10 million barrels a day, a 1 percent drop from the first quarter of 2007.

In other cases, political unrest temporarily disrupts supply. For example, crude oil from Nigeria, the world’s tenth largest reserve holder and producer, according to the 2006 Oil and Gas Journal, has declined since February 2006 because of rebel attacks on the country’s oil industry.

OPEC manipulates supply

The Organization of the Petroleum Exporting Countries (OPEC) was founded in 1960 to maintain the price of oil at a level that is beneficial to its members. Today, it consists of 12 countries (plus Indonesia, which is only scheduled to be a member through 2008).

Although OPEC’s ability to control the price of oil has diminished somewhat as oil reserves have been discovered in other countries, OPEC nations still account for around two-thirds of the world’s oil reserves, and 35.6% of the world’s oil production as of March 2008. Moreover, the group reportedly monitors production from other countries, and when these countries increase output, OPEC decreases output accordingly. This undoubtedly gives the organization considerable control over the global oil market—and global economy. During the 1973 oil crisis, for example, the group’s use of oil embargoes allegedly triggered high inflation across the world.

In 2006, OPEC started to reduce crude oil production to stem a fall in oil prices. Less OPEC oil in the market helped fuel a rally in prices, which, according to the law of supply and demand, should have encouraged more production. But it didn’t—in part, say OPEC critics, because the organization is intentionally limiting production to keep prices artificially elevated.

Today, despite a clear rise in demand, as noted in Part III of this series, OPEC has repeatedly refused to increase production. While many nations led by the International Energy Agency have urged the group to pump more oil, it says there is enough in the market, and has declined to do so. Indeed, recent statements by OPEC suggest the group has no plans to review its output until its next scheduled meeting in September 2008.

OPEC claims it is not guilty of price-gouging, and other factors—including a weak U.S. dollar and speculation—are driving up prices. In the next installment of this series, we’ll discuss these issues in more detail.

Navellier Top-Ten Energy Stock Holdings

Vantage Portfolio
Petroleo Brasileiro (PBR); 1-yr Chart; Profile
Sasol Ltd. (SSL); 1-yr Chart; Profile

Power Dividend Portfolio
Noble Energy Inc. (NBL); 1-yr Chart; Profile
Devon Energy Corp. (DVN); 1-yr Chart; Profile
XTO Energy Inc. (XTO); 1-yr Chart; Profile

All Cap Core Portfolio
Occidental Petroleum Corp. (OXY); 1-yr Chart; Profile

We want to hear your thoughts!  Comment to this post by clicking the ‘comments’ link below.

Investment in equity strategies involves substantial risk and has the potential for partial or complete loss of funds invested. It should not be assumed that any securities recommendations made by Navellier & Associates, Inc. in the future will be profitable or equal the performance of securities made in this report. For a list of recommendations made by Navellier & Associates, Inc., for the preceding twelve months, please contact Tim Hope at (775) 785-9416.

To receive email updates from Navellier All Cap Blog, click here.

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Rising Oil Prices Series: Part I

Posted by Patrick O'Connor on 6/4/08 1:53 pm

This post contains top-ten energy stock holdings from Navellier & Associates’ all-cap portfolios.

This article is the first installment of a six-part series about rising oil prices. In this column, we’ll explain why rising oil prices are of so much interest. In Part II, we’ll explain how the oil market works. In Parts III and IV, we’ll address the two main reasons for rising oil prices: increasing demand and limited supply. In Part V, we’ll delve into some peripheral issues: the weak U.S. dollar and the role of speculation. Finally, in Part VI, we’ll end with an outlook for the oil market.

Looking behind rising oil prices

Robust demand for oil has pushed prices from below $50 per barrel of crude at the start of 2007 to approximately $120 a barrel in 2008—above the inflation-adjusted $101.70 peak hit in April 1980, a year after the Iranian revolution.

To some, the price of oil comes as no surprise. In 2000, Sadad I. Al Husseini—head of exploration and production for Saudi Aramco, the Saudi Arabian state-owned oil company—tallied up some numbers he had been gathering since the mid-1990s and determined that oil output would level off around 2004, plateau for a maximum of 15 years, then begin a gradual but irreversible decline.

That’s hardly the kind of forecast we’ve been hearing from oil companies, especially Saudi Aramco, which sits atop some of the world’s largest proven oil reserves (including the Ghawar field), which altogether hold around 260 billion barrels of oil, around a fifth of the world’s known supply, according to National Geographic. And true to form, Saudi Aramco and Saudi Arabia’s oil minister downplayed the data.

Now, as in the past, when oil pessimists contended that a peak in oil supply was imminent, many naysayers, including oil companies, point out that much of the world’s conventional oil supplies are untapped; unconventional oil supplies, such as tar-sand pits, are yet to be fully explored; and constantly improving technologies are allowing us to dig deeper and extract more oil than we ever expected we could. These naysayers argue that today’s rising prices cannot be the result of dwindling supply, but instead are the result of sharply rising demand (especially from Asia). To illustrate their point, they recall past doomsayers who have predicted an oil shortage that never occurred.

While all of that may be true, today’s oil situation is a far cry from what we have seen in the past. Ordinarily, for example, higher prices encourage oil companies to produce more by investing in new technology and pursuing harder-to-reach deposits. This happened during the Iran-Iraq war in the 1980s, leading to a glut of oil. In the past few years, however, global output of conventional oil has hovered around 85 million barrels per day despite skyrocketing prices. Something is clearly different.

Some industry experts argue that oil companies are intentionally withholding supplies to keep prices artificially elevated. The Organization of Petroleum Exporting Countries (OPEC)—a group of 12 countries formed to maintain the price of oil at a level that is beneficial to its members—is the most widely cited culprit because it is often considered a cartel. Although OPEC’s ability to control the price of oil has diminished somewhat as oil reserves have been discovered in other countries, including Russia, OPEC nations still account for around two-thirds of the world’s oil reserves, and 35.6% of the world’s oil production as of March 2008. This undoubtedly gives the organization considerable control over the global oil market.

But other industry experts have suggested that there just isn’t enough oil, and in a few years, demand will outpace supply. Last fall, the International Energy Agency forecast that global demand would rise to 116 million barrels a day by 2030. But Cristophe de Margerie, head of French oil company Total, has said the world can produce at most 100 million barrels a day. And Royal Dutch Shell CEO Jeroen van der Veer has said demand will outpace supply as soon as 2015.

Asking how we got here results in a number of convoluted answers, perhaps none that are “right.” But, we know this: world demand is increasing as oil supplies dwindle - and why supplies are dwindling is an issue in and of itself.

Certainly, there are physical limitations: no one would argue that the world’s oil supply will last forever. Indeed, the volume of oil discovered has fallen each year since the 1960s despite technological advances such as seismic imaging that allows an oil company to see oil deep below the Earth’s surface.

But there are political issues as well. War-torn countries such as Iraq, for example, cannot access their full production potential due to security problems. Other countries, including Russia and Venezuela, cannot access their full potential because of restrictive laws prohibiting foreign involvement. Edward Morse, an oil expert who was formerly with the U.S. Department of State and now analyzes the industry for Lehman Brothers, says political obstacles may be larger than production issues. Many oil company CEOs, including van der Veer, have echoed that thought.

There is also the perhaps peripheral issue of speculation and the weak U.S. dollar. Earlier this year, Michael Masters, a portfolio manager for Masters Capital Management LLC, told a U.S. Senate committee on homeland security and governmental affairs that the real culprits behind rising oil prices are institutional investors such as hedge funds and sovereign wealth funds. The credit crunch has brought some markets, such as the U.S. asset-backed commercial paper market, to a virtual standstill. At the same time, the lowering of interest rates has created a supply of money for institutional investors. They, say Masters and others, are pouring billions of dollars into commodities such as precious metals and oil, which are a hedge against the declining U.S. dollar. The more the dollar slumps, the more attractive U.S. dollar-denominated oil is to foreign investors. This, in turn, is distorting markets and driving prices to unprecedented levels. Indeed, Masters says institutional investment in commodities indices has risen from $13 billion at the end of 2003 to $260 billion at the end of March 2008.

In this series, we’ll review these issues. But first, let’s take a look at the world oil market—how it has evolved and where it is today.  Go to Part II.

Navellier energy stocks that are top-10 holdings

Vantage Portfolio
Petroleo Brasileiro (PBR); 1-yr Chart; Profile
Sasol Ltd. (SSL); 1-yr Chart; Profile

Power Dividend Portfolio
Noble Energy Inc. (NBL); 1-yr Chart; Profile
Devon Energy Corp. (DVN); 1-yr Chart; Profile
XTO Energy Inc. (XTO); 1-yr Chart; Profile

All Cap Core Portfolio
Occidental Petroleum Corp. (OXY); 1-yr Chart; Profile

We want to hear your thoughts!  Comment to this post by clicking the ‘comments’ link below.

Investment in equity strategies involves substantial risk and has the potential for partial or complete loss of funds invested. It should not be assumed that any securities recommendations made by Navellier & Associates, Inc. in the future will be profitable or equal the performance of securities made in this report. For a list of recommendations made by Navellier & Associates, Inc., for the preceding twelve months, please contact Tim Hope at (775) 785-9416.

To receive email updates from Navellier All Cap Blog, click here.

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Rising Oil Prices Series: Part II

Posted by Patrick O'Connor on 6/4/08 1:39 pm

This post contains top-ten energy stock holdings from Navellier & Associates’ all-cap portfolios.

This article is the second installment (Read Part I) of a multi-part series about rising oil prices. In this column, we’ll review how the global oil market works—which is essential for understanding the economic analysis in the installments to follow.

A primer on the world oil market

In the mid-1980s, the price for a barrel of crude oil, adjusted for inflation to 2007 dollars, was under $25—and there it stayed until September 2003, when it began a gradual ascent that would take it to a peak of $135.09 in May 2008. That far exceeds the inflation-adjusted $101.70 peak oil hit in April 1980, a year after the Iranian revolution—so what gives? What’s driving up prices, and will they ever decline? We’ll get to that, but first, it’s important to understand the factors that influence the global oil market, including the role of the producers and refiners who impact not just oil prices, but the prices consumers pay for gasoline, heating fuel, and other oil-based products.

What is “oil”?

There are many varieties of oil, which is also known as crude oil or petroleum, but all are naturally occurring, flammable liquids found in the Earth’s rock formations. Because there are so many varieties, buyers and sellers refer to a limited number of “benchmark” oils. In North America, for example, the most widely used benchmark is West Texas Intermediate (WTI) oil, which is a light, low-sulphur crude. Varieties other than the benchmark are typically priced at a discount or premium to the benchmark, depending on how their quality compares to that of the benchmark.

Who produces oil?

A number of countries worldwide have crude oil deposits, and many are active producers. There is a great deal of concentration in the global oil industry; however, just 10 companies control 68 percent of the world’s proven crude oil reserves (and nine of these 10 companies are state-owned), according to Natural Resources Canada.

Since 1960, the global oil market has been significantly influenced by the Organization of the Petroleum Exporting Countries (OPEC), a consortium of 12 countries—Algeria, Angola, Ecuador, Iran, Iraq, Kuwait, Libya, Nigeria, Qatar, Saudi Arabia, the United Arab Emirates, and Venezuela (plus Indonesia, which will quit after 2008)—formed to maintain the price of crude oil at a level that is beneficial to its members. Together, OPEC nations hold around two-thirds of the world’s crude oil reserves and produce 35.6% of the world’s supply as of March 2008, according to the Energy Information Administration (EIA), part of the U.S. Department of Energy.

TOP 10 OIL RESERVE HOLDERS
1. Saudi Arabia
2. Canada
3. Iran
4. Iraq
5. Kuwait
6. United Arab Emirates
7. Venezuela
8. Russia
9. Libya
10. Nigeria
Source: Oil and Gas Journal, 2006

TOP 10 OIL PRODUCERS
1. Russia
2. Saudi Arabia
3. United States
4. Iran
5. China
6. Mexico
7. Norway
8. Canada
9. United Arab Emirates
10. Nigeria
Source: Oil and Gas Journal, 2006

Who prices crude oil?

Traditionally, the law of supply and demand has determined the price of crude oil. When supply exceeds demand, producers try to sell excess inventory, and prices decrease. But when demand exceeds supply, consumers compete with each other for limited resources, bidding up the price.

Moreover, crude oil prices tend to be the same worldwide because the market is global. If there’s a shortage of crude oil in one part of the world, prices will rise in that market, attracting producers until supply and demand are in balance. Similarly, if there’s a surplus of crude oil in one part of the world, prices will fall in that market, attracting buyers who will bid up prices until they reach “equilibrium.” As a result, the only variation in world crude oil prices tends to reflect the cost of transportation.

That said, the crude oil market isn’t totally free because of the involvement of OPEC, which many people consider a cartel. To a great extent, OPEC sets the price of world crude oil, because when it wants to raise the price, it simply reduces production. How can this happen when many other countries also produce crude oil? - Because OPEC reportedly tracks the production of these nations and then adjusts its own production to maintain its desired price. (We say “reportedly” because OPEC has often denied this.)

Another factor influencing the price of crude oil is speculation. Crude oil is a commodity, and like other commodities, such as soybeans, it is widely traded by investors who see an opportunity to make money. These traders—called speculators because they’re not involved in the actual production or use of crude oil, but instead buy and sell paper contracts—can often influence market prices significantly. The two key markets where crude oil contracts are traded are the New York Mercantile Exchange (NYMEX) and the International Petroleum Exchange (IPE) in London. These are “futures” markets, meaning contracts are bought and sold based on expected market conditions in the coming months or even years. When the media quotes a price for crude oil, it typically quotes the futures market price in the most recent month.

Ultimately, crude oil ends up with refiners who convert it into gasoline and home heating oil, and marketers who sell it to consumers. Although refiners and marketers don’t directly influence the price of crude oil—except by demanding more or less of it based on consumer demand—they can influence the price of crude-based products. In March 2001, for example, the U.S. Federal Trade Commission (FTC) concluded that a spike in Midwestern gasoline prices was caused by one firm not selling its excess supply because doing so would have pushed down prices and thereby reduced the profitability of its existing sales.

Who uses crude oil?

According to the EIA, as of 2006 the United States used the most crude oil (20,687,000 barrels per day), followed by China, Japan, Russia, Germany, India, Canada, Brazil, South Korea, and Saudia Arabia.

As you may have noticed, many of these countries are developed. Indeed, the countries that make up the Organization for Economic Cooperation and Development (OECD)—a group of 30 countries that accept the principles of a representative democracy and free market economy—use the bulk of the world’s crude oil. Together, the United States, Europe, and Japan consume about half of the world’s annual oil output, according to Natural Resources Canada.

However, consumption in other countries, especially China, is expanding as these markets grow rapidly. According to the EIA, total energy demand in non-OECD countries is expected to increase by 95 percent from 2004 to 2030, while total energy demand in OECD is expected to increase by just 24 percent.

The transportation sector accounts for about two-thirds of the crude oil used in the world, and for about half of it used in the United States, according to Natural Resources Canada.

That’s important, because in our next installment, we’ll talk about demand—which many industry analysts say is the key factor in today’s skyrocketing oil prices.

Navellier energy stocks that are top-10 holdings

Vantage Portfolio
Petroleo Brasileiro (PBR); 1-yr Chart; Profile
Sasol Ltd. (SSL); 1-yr Chart; Profile

Power Dividend Portfolio
Noble Energy Inc. (NBL); 1-yr Chart; Profile
Devon Energy Corp. (DVN); 1-yr Chart; Profile
XTO Energy Inc. (XTO); 1-yr Chart; Profile

All Cap Core Portfolio
Occidental Petroleum Corp. (OXY); 1-yr Chart; Profile

We want to hear your thoughts!  Comment to this post by clicking the ‘comments’ link below.

Investment in equity strategies involves substantial risk and has the potential for partial or complete loss of funds invested. It should not be assumed that any securities recommendations made by Navellier & Associates, Inc. in the future will be profitable or equal the performance of securities made in this report. For a list of recommendations made by Navellier & Associates, Inc., for the preceding twelve months, please contact Tim Hope at (775) 785-9416.

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Oil Prices Will Likely Remain High This Summer

Posted by Louis Navellier on 5/21/08 10:09 am

This post contains energy stocks that are in our top-ten holdings.

We are now entering the peak season for worldwide oil demand.  As such, you will not likely see any significant relief, if any, at the gas pump until after Labor Day, when the summer driving season ends.  However, you might be able to limit some of the pain at the pump by investing in companies that are well positioned for this energy-inflation environment.  At the end of this post, I’ll share with you some of our top-ten holdings that are in this space.

If you are wondering why diesel prices are so high, it is because the U.S. is now making “clean diesel” that is in high demand in Europe and the rest of the world, so U.S. diesel is now being exported.  In turn, the U.S. continues to import gasoline from other countries to meet demand requirements. 

These gasoline imports must then be blended with ethanol before they are transported to the pump.  If Barack Obama is elected our next president, it is widely assumed that the ethanol mandates and federal subsidies will likely continue, since Southern Illinois is a major corn-growing region, and Obama will probably protect his home state’s subsidies.  If John McCain is elected, it is expected that the federal ethanol subsidies will be cut off and cheaper Brazilian ethanol will likely be increasingly utilized.

Goldman Sachs recently rattled markets with its dire prediction that $150 to $200 per barrel oil is now possible within the next 6 to 24 months.  Yikes!  However, Goldman Sachs admitted that predicting the “ultimate peak” in oil prices and the duration of the current updraft “remains a major uncertainty.” Since Goldman Sachs correctly predicted $100 per barrel oil more than two years ago, its newer warning carries credibility.  I suspect that Goldman Sachs is also long crude oil and is profiting from its meteoric rise. 

One of the big problems emerging is that Mexico, Norway, Russia, and Venezuela are now experiencing declining crude oil production.  As a result, the world has become increasingly dependent on the Organization of Petroleum Exporting Countries (OPEC) for any production increases.  Recently, President Bush visited Saudi Arabia for the second time this year (Vice President Cheney also visited Saudi Arabia in between President Bush’s trips) in an attempt to coax the oil-rich nation to produce more oil.  When President Bush met with King Abdullah back in mid-January, he asked Saudi Arabia to increase production, but received a chilly response. 

Officially, President Bush’s most recent visit was to celebrate 75 years of formal U.S.-Saudi Arabia relations, and to agree on several matters, such as cooperation on nuclear energy, the protection of Saudi Arabia’s vast oil infrastructure, and nonproliferation.  Complicating matters, the Senate Democrats introduced a resolution that would block $1.4 billion in arms sales to Saudi Arabia unless Riyadh agrees to increase its oil production by one million barrels per day.  The Democrats said they introduced the measure to coincide with President Bush’s trip in order to send a message to Saudi Arabia that it should pump more oil to reduce the cost of gas for Americans.

Interestingly, Saudi Arabia has been exceeding its OPEC quotas for the past six months.  Specifically, in April, OPEC said Saudi Arabia produced 9 million barrels a day, which was down slightly from March, but 100,000 barrels per day over its quota.  However, more importantly, Saudi Arabia’s output consistently topped its 8.9 million barrel-quota for the past six months, which is indicative that the country is trying to make sure there is sufficient global supply.  After increasing its oil production above the OPEC quota, Saudi Arabia still holds excess capacity of about 1.9 million barrels a day, which represent virtually all of OPEC’s surplus capacity.

After President Bush’s visit, Saudi Arabia pledged to increase its crude oil production by approximately 300,000 extra barrels per day.  Ali Naimi, Saudi Arabia’s oil minister, said after the meeting with President Bush that the kingdom’s crude oil output would hit 9.45 million barrels per day by June, just in time for peak demand during the summer.  It will be very interesting to see whether crude oil prices will stabilize with the increased Saudi Arabian production.

In the interim, the search for more crude oil around the globe is relentless.  But the normal link between high crude oil prices and increasing production has been disrupted since most of the new sources of crude oil are much more expensive to find or extract.  It can also take several years to bring new oil fields online.  Russia is expected to provide new incentives to coax Western oil companies to help it find new crude oil and natural gas deposits. 

The biggest news in the energy business is that Brazil recently announced a second major oil find off the east coast of Brazil.  The head of Brazil’s National Petroleum Agency, Haroldo Lima, said the oil find could be one of the world’s biggest discoveries in decades, containing as much as 33 billion barrels in oil equivalent, which would make it the third largest oil field in the world.  Additionally, in 2006 Brazil’s Petrobras discovered the Tupi oil field, which the company says has an estimated eight billion barrels.  That was the biggest strike anywhere in the world since 2000.

Even though these new oil discoveries could be very large, the oil would not hit the market anytime soon.  Petrobras’ discovery is in an area known as the “presalt area,” which lies at a water depth of more than 6,500 feet, an additional 9,800 feet of sand and rock, and another 6,500 feet of salt.  This makes crude oil production very challenging and expensive, similar to new deep-water finds in the Gulf of Mexico that have not yet been brought online.

After Petrobras’ discovery, the oil service industry went straight to West Africa, since the East Coast of Brazil and the West Coast of Africa were connected in the Pangaea era, when the earth had one giant super-continent.  This was before the Mid Ocean Ridge and the Atlantic Ocean were formed over 200 million years ago.  As a result, both Brazil and West Africa are now the hot spots for oil exploration. 

Below is a list of Navellier energy companies that are top-ten holdings in our all-cap portfolios.

Vantage Portfolio:
Sasol Ltd. (SSL); 1-yr Chart; Profile
Petroleo Brasileiro (PBR); 1-yr Chart; Profile
EnCana Corp. (ECA); 1-yr Chart; Profile
Cameron International Corp. (CAM); 1-yr Chart; Profile

All Cap Core Portfolio:
Occidental Petroleum Corp. (OXY); 1-yr Chart; Profile

Power Dividend Portfolio:
Noble Energy, Inc. (NBL); 1-yr Chart; Profile
Devon Energy Corp. (DVN); 1-yr Chart; Profile
XTO Energy, Inc. (XTO); 1-yr Chart; Profile

We want to hear your thoughts!  Comment to this post by clicking the ‘comments’ link below.

Investment in equity strategies involves substantial risk and has the potential for partial or complete loss of funds invested.  It should not be assumed that any securities recommendations made by Navellier & Associates, Inc. in the future will be profitable or equal the performance of securities made in this report. For a list of recommendations made by Navellier & Associates, Inc., for the preceding twelve months, please contact Tim Hope at (775) 785-9416.

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T. Boone Pickens Thinks Oil will Hit $150 this Year

Posted by Patrick O'Connor on 5/20/08 1:45 pm

T. Boone Pickens says the high price of oil has nothing to do with speculators or a weak dollar driving prices higher and everything to do with supply and demand.  Simply put, he says the world can produce 85 million barrels per day, but the market needs 87 million.  Watch both CNBC video clips.

Oil prices topped $129 today, another new all-time high.

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Oil Prices Coming Down?

Posted by Patrick O'Connor on 5/15/08 2:33 pm

Oil prices have almost doubled in the last year, but most energy industry executives believe that what goes up, must come down.

In a 2008 KPMG survey of 372 energy industry decision-makers, most believe that the current spike in oil prices is only temporary. 91% of survey respondents say that oil prices will drop from their current levels (at about $127 per barrel in mid-May). 55% say that prices will fall to less than $100 per barrel. Most say domestic drilling is the U.S.’s best chance at keeping prices down, but most also agree the chances of oil companies drilling domestically, especially in Alaska’s oil-rich ANWR region, are mote, given the current political climate.

Read More about what petroleum industry chiefs have to say about oil prices.

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Another Perspective on Oil Prices

Posted by Tim Hope on 5/12/08 10:56 am

With the price of oil making new historical records, some are making the case for continued price increases.  However, some analysts believe that Saudi Arabia may increase its oil production next year in an effort to gain favor with the new U.S. president.  It can be argued that such a production increase would help drive prices lower.  Consider that three new Saudi oil fields are expected to produce roughly 1.3 million barrels per day which would more than offset forecasted global demand growth of 900,000 barrels a day.  While it has long been said that “trees can’t grow to the sky,” it will be interesting to see if current oil price trends are sustainable.

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Oil Prices Could Hit $225 per Barrel by 2012

Posted by Patrick O'Connor on 4/24/08 10:42 am

No, that’s not a typo.  CIBC analyst Jeff Rubin is predicting oil prices to gush to $225 per barrel by 2012.  Note that oil prices are down significantly today on dollar strength and more weak housing data.  On the surface, $225 oil sounds like an economy killer, but in terms of growth that’s not any worse than seeing oil go from $50 to $100.  Oil price appreciation is most damaging to consumers when it occurs rapidly, like it did in the 1970s after the oil embargo catapulted prices shockingly higher overnight.  However, if prices climb somewhat gradually, consumers have time to adjust by purchasing automobiles with better gas mileage, driving less, or switching to hybrids and alternative fuels. Watch Video

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