There are moments – very very few moments – when a trader feels he’s got the markets pretty well sussed, has his positions all in the right places and believes that all roads lead to a very rosy endpoint. It’s not only rare, it’s also a little spooky when it happens; as the natural tendency for good traders is to always be suspicious about their positions and ready to rethink, retool and reallocate at a moment’s notice.
But with all that in my mind - I believe we’re at one of those rare moments today.
Oil prices are not only responding to our two year old thesis of decimated capex, OPEC restraint and falling surpluses, they are showing no signs of stopping their upwards climb. The increases in oil prices has forced many of the most doubting analysts to reassess their views of the oil market and begin to see things the way that we have for the past year. In the last week alone, for example, the EIA raised their short-term forecast more than seven dollars a barrel (!!). And many of the big oil analysts at the major banks have begun to see the light as well – Morgan Stanley is now looking for a $90 target oil price, where they before saw little above $55 dollars for 2018 and 2019.
Enough of the self – congratulations…… we are only going to continue to churn out big profits by STAYING AHEAD of the johnny-come-latelys who have latched on correctly to our energy thesis. They need to continue to ride on OUR coattails, not the other way around.
First and foremost, be careful not to do too much with your positions – we have spent much time and effort in crafting our positions and can only do damage by trading too much. However, there are a few recent trends that will impact the quality of further profits that must be noted here and will inform where we need to fine-tune our portfolio.
First we need to look closely into the Permian where much of our value in E+P has been found. While the Permian still represents by far the most likely shale area for cheap production growth it is now laboring under a desperate lack of infrastructure. Many areas of the Permian are now a victim of their own success as oil and gas are overflowing into pipelines that are now insufficient to handle the throughput. We’ve seen this lack of infrastructure impact prices of both oil and associated gas, where gas prices are nearly a dollar less per Mmbtu than in the severely glutted Appalachian Marcellus/Utica region. Similarly oil prices are now running more than $10 lower to the benchmark WTI.
Obviously these differentials can make the latest rally in benchmark oil prices moot, or even swamp them out altogether and bode poorly for the upcoming quarterly results for these Permian producers. Therefore, my recommendation has been – and continues to be – to slowly rotate from Permian players into other E+P’s in the already mature Bakken and Scoop/Stack plays. Continental (CLR) and Whiting (WLL) were mentioned by me previously and have now traveled outside of ‘value’ areas – they must be bought on dips only as they have parabolic. If you’re trying to find solid value to rotate into, these are no longer best. Instead, have a look at Marathon Oil (MRO), with balanced production in the Eagle Ford shale and in both North Dakota and Oklahoma. Also consider Hess (HES) with quality Bakken growth potential as well as cheap assets in Guyana and the Gulf of Mexico.
With oil continuing to go higher and with oil stocks still trading at a disconnected discount, despite their recent performance, I see a sector rotation continuing throughout the summer from portfolio managers, hedge funds and mutual funds into the energy space. Everything is a go for out-performance for the next several months. All we need to do is a few little adjustments and hang on.