Friday, May 26, 2006


The high price of oil is having an effect on supply and demand. China just raised its regulated price to all citizens. The government is still subsidizing the price to the consumers but the increase in price will lower that subsidy in two ways. The important point is that usage will decline on a relative basis.

The effect on production takes a little longer. In North America, the number of oil rigs drilling for oil this month is an increase of 78% over last May. The following information about OPEC Upstream Projects was obtained from James Williams at Energy Economist

Year New OPEC Production--Kilobarrels per day
2005 1,271
2006 2,039
2007 1,335
2008 2,065
2009 2,580
2010+ 2,539

While OPEC is producing a smaller and smaller share of world production, they are spending 10's of billions of dollars each year to increase their production. The cumulative total is more than 11,000 Kilo-barrels per day. That is a lot of oil.

Correction to last email on this topic: More jet fuel is being used this year than last. It was correct to say that the airlines have done a great job of cutting consumption per passenger but, because traffic growth has been very strong, the total usage has gone up by a small amount over last year.

SADLY: I believe that in three to five years, the US is going to be importing a larger and larger share of finished petroleum products, including gasoline and jet fuel, while our refineries see lower utilization, while our oil sits in the ground at ANWAR and off the east, west and gulf coasts. Numerous refineries are going to be built in the next few years, however, it makes no sense to build them in the US if we are not going to drill for oil here.

Investment implications:

The earnings momentum of oil and oil service companies has already peaked. The time to buy oil stocks was in 1998. If you buy now, your relative performance will be weak at best.

Legacy airlines will continue to raise fairs to recoup the increase in the costs of fuel. Because other costs have been cut, a significant portion of the increase in revenues will show up as profits. The profits made will be very sweet because no taxes will be owed.

The high price of oil is working in conjunction with increases in short interest rates to slow down the growth of the world wide economy. I hope you have followed my advice and sold any mutual fund that buys "BRICKS" (stocks in Brazil, Russia, India, China, Korea and other developing countries). Small stocks, metals, mining and BRICKS have all been pounded during the recent correction. The pounding is not over relative to big growth stocks.

I bought Yahoo on a couple of accounts in the past few days and was pleased by the EBAY-Yahoo deal announced this morning. Google is still my favorite internet stock and I think ETrade will continue to do well but the combinations being formed by EBAY and Yahoo make for a powerful growth engine. The inevitable big question with big high priced growth stocks is, will the company become very large or will a new "invention" take market share. My take is that the market continues to underestimate the future earnings power of Google in particular. So far, Google is so far ahead of everyone else that it is going to take combinations like the one announced today to level the playing field. MSFT is going to spend billions in its attempt to catch up. MSFT can no longer force the game to be played by its rules.

In several accounts, I took a few tax swaps in the past few days. There is no point in letting a good tax loss go long term. The trick is not to sell your long term winners as tax losses right at the bottom of the correction.

The 15 day moving average of the total PUT-CAll ratio, hit a 10 year high yesterday. A strong sign that the correction has scared the pants off the weak and impatient investor. The good news for us is that this increases the probability that the one year returns from here will be very nice.