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Mad Hedge Fund Trader

Mad Hedge Fund Trader

John Thomas, The Mad Hedge Fund Trader is one of today's most successful Hedge Fund Managers and a 40 year veteran of the financial markets.…

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Why I Love/Hate the Oil Companies

With oil (USO) getting ready to take a run at $100 a barrel once again, the first thing I do when I get up every morning is to curse the oil companies as the blood sucking scourges of modern civilization. I then fall down on my knees and thank goodness that we have the oil companies.

You've got to love ExxonMobile (XOM). The world's largest company announced an unbelievable $127.3 billion in Q2 revenues, generating a gob smacking $15.9 billion in net profits. This year, (XOM) will spend $9.3 billion on exploration and capital spending. Some of their wells easily cost $100 million each. This is why petroleum engineers are getting $100,000 straight out of college, while English and political science majors are going straight on to food stamps.

I recommend (XOM) and other oil majors as part of any long term portfolio. No matter what anyone says, the price of oil goes up, in my lifetime, from $3 a barrel up to $149. The reasons for the ascent keep growing, from the entry of China into the global trading system, to the rapid growth of the middle class in emerging nations. They're just not making the stuff anymore, and we can't wait around for more dinosaurs to get squashed.

Oil companies aren't in the oil speculation business. As soon as a new supply comes on stream, they hedge off their risk through the futures markets or through long term supply contracts. You can find the prices they hedge at in the back of any annual report.

When oil made its big run a few years ago, I discovered to my amazement that (XOM) had already sold most of their supplies in the $20 range. However, oil companies do make huge killings on what is already in the pipeline.

Working in the oil patch a decade ago pioneering the "fracking" process for natural gas, I got to know many people in the industry. I found them to be insular, God fearing people not afraid of hard work. Perhaps this is because the black gold they are pursuing can blow up and kill them at any time. They are also great with numbers, which is why the oil majors are the best managed companies in the world.

They are also huge gamblers. I swallow hard when I see the way these guys throw around billions in capital, keeping in mind past disasters, like Dome Petroleum, the Alaskan oil spill, Piper Alpha, and more recently, the ill-fated Macondo well in the Gulf of Mexico. But one failure does not slow them down an iota. The "wildcatting" origins made this a faith based industry from day one, when praying was the principle determinant of where wells were sunk.

Unfortunately, the oil companies are too good at their job of supplying us with a steady and reliable source of energy. They have one of the oldest and most powerful lobbies in Washington, and as a result, the tax code is riddled with favorite treatment of the oil industry. While social security and Medicare are on the chopping block, the industry basks in the glow of $55 billion a year in tax subsidies.

When I first got into the oil business and sat down with a Houston CPA, the tax breaks were so legion that I couldn't understand why anyone was not in the oil racket. Every wonder why we have had three presidents from Texas over the last 50 years, and looked at a possible fourth last year?

Three words explain it all: the oil depletion allowance, whereby investors can write off the entire cost of a new well in the first year, while the income is spread over the life of the well. This also explains why deep water exploration in the Gulf is far less regulated than California hair dressers.

No surprise then that the industry has emerged in the cross hairs of the debt ceiling negotiations, under the "loopholes" category. Not only do the country's most profitable companies pay almost nothing in taxes, they are one of the largest users of private jets.

It is an old Washington nostrum that when things start heading south on the domestic front, you beat up the oil companies. It's the industry that everyone loves to hate. Cut off the gasoline supply to an environmentalist, and he will be the one who screams the loudest. This has generated recurring cycles of accusatory congressional investigations, windfall profits taxes, and punitive regulations, the most recent flavor we are now seeing.

But imagine what the world would look like if Exxon and its cohorts were German, Saudi, or heaven forbid, Chinese. I bet we wouldn't have as much oil as we do today, and it wouldn't be as cheap. Hate them if you will, but at least these are our oil companies. Try jamming a lump of coal into the gas tank of your Prius and tell me what happens.

By. Mad Hedge Fund Trader




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