Asymmetric gains coming in 2016 in energy rebound

I do not mean to hype, however, I believe we are looking straight into the face of an asymmetric profit opportunity. This is the type of buy low, reduced risk chance to generate real wealth that only comes around about once per decade. Soon, oil and gas prices will reverse course. When that happens, the companies that survived this oil and gas crash will be operating in an environment with not only higher oil and gas prices, but less competition and nations motivated to keep oil and gas prices high. Just like survivors of other crashes have racked up huge gains, so too will the strongest survivors of oil and gas crash of 2014-15.

The Oil and Gas Crash of 2014-15

Last Thanksgiving, the Saudi Arabians shocked almost everybody by refusing to cut oil production. Their actions led directly to carnage in the oil and natural gas markets around the world this year. Dozens of companies have gone bankrupt or are on the verge. Multiple nations can not fulfill their budget obligations and are growing increasingly desperate. 

Today, there are cries of “lower for longer” in regards to oil and natural gas prices from analysts who didn’t come close to predicting the sharp declines in the first place. In June and July of 2014, I was among the first to say that oil prices would come down to at least $80 per barrel from over $110 – with my peak oil plateau thesis in Marketwatch – and even suggested that prices could temporarily crash through that level. Today, I am going to suggest how the oil and natural gas markets play out over the next few years.

Before I start though, I want to ask you one question. Who are you going to place more weight with, the new predictions from the analyst community that was been consistently horribly wrong, or me, who, despite being a bit early on a few investments so far, has gotten it mostly right? Think carefully, because picking right could set you up for 300% or more gains over the next several years through investments you can make in the next six weeks.

9-11-2001 and American Energy Policy

U.S. oil imports from OPECThere is a shift in American energy policy which is more profound than it is given credit for. If you listen to anti-government zealots, then you believe there simply is no American energy policy. Nothing could be further from the truth.

The America energy policy, which was embarked upon after September 11th, 2001, is to dramatically reduce American dependence on Middle Eastern oil by all means at our disposal. As you can see on the chart to the right, that policy has been remarkably effective.

There has been three core reasons the United States has reduced dependence on OPEC and one that is literally on the horizon. 

The first is the massive surge in oil and gas drilling via hydraulic fracturing – fracking. This technology, which has roots going back decades, began an exponential improvement in efficiency about a decade ago. Today, the U.S. produces over 9 million barrels of oil per day, up from amounts in the 5 millions during the 2000s.

The second reason for reduced OPEC dependence is a shift to Canadian imports. Over the past 15 years, U.S. imports of oil from Canada have roughly doubled to 1.2 billion barrels per year. 

The third reason is the dramatic increases in fuel efficiency for automobiles under the Obama administration. Although there was always the strange sneaking suspicion that fuel efficiency could be improved without damaging the auto industry, we didn’t act on it until the past seven years. Not only are we holding our demand down, but auto sales surged.

The advent of solar energy and electric cars, as well as, natural gas powered heavy vehicles will put another massive dent in OPEC imports eventually because two-thirds of our oil use is for transportation. While the impact won’t be felt much this decade, ultimately by the 2020s there will be significant demand destruction for oil.

Keep in mind another reason that oil and gas are going higher. There is a huge belief among governments -whether you believe it in global warming or not – that we need to support alternative energy. Higher oil and gas prices make alternatives more competitive. There is a strange group of people who are united to want higher oil and gas prices on both sides of the political aisle.

In the short-term, due to a pending reduction in U.S. oil production of about 500,000 barrels per day – about 2% of production, U.S. imports from OPEC will level off for awhile. However, once demand destruction due to alternatively fueled vehicles occurs, we should expect OPEC imports to decrease another 30-50% by the end of the next decade. Not bad for not having an energy policy.

Saudia Arabia, OPEC and Russia 

I talked extensively in my quarterly letter about “Why I Over-weighted Energy Again” so I won’t rehash too much. But a discussion of Saudi Arabia and the Middle East is vital to understanding the short and intermediate term directions of the price of oil and natural gas. A quick aside here, I don’t focus too much on the long-term, which is 15 years and beyond to me, because frankly, I don’t have that kind of patience with my investment dollars.   

The Saudi Arabians of course were the nation that decided to allow supply and demand to remain imbalanced late last year for oil and natural gas. By not cutting production to match up with the increases in production around the world, about 70% of it from the United States, markets reacted by crushing spot and future oil prices. The conventional wisdom was that Saudi Arabia wanted to destroy the fracking industry. The conventional wisdom is only partially right and mostly wrong. The last thing that Saudi Arabia wants to do is alienate the United States, their core benefactor and protector.

What Saudi Arabia wanted to do was put a halt to easy money into U.S. drilling and put pressure on other nations, particularly Russia, to discontinue the most expensive drilling which was threatening Saudi market share in parts of the world outside of the United States.

The Saudis have largely made their point. U.S. drillers are seeing their credit lines and financing cut dramatically to the point where they must be able to show profits on projects within a year or two, not many years out anymore. Think about getting a mortgage after the 2008 financial crisis, banks tightened up. Banks are now doing that with financing for drilling projects.

Around the world, deep-sea oil drilling projects have been scuttled. A recent auction in Brazil for offshore oil blocks went terribly. Royal Dutch Shell, after spending billions to set-up for drilling off the coast of Alaska canceled the entire project. Because deep-sea oil is among the most expensive oil to produce, we should expect far fewer drilling projects going forward. 

This week there is a “technical” meeting of OPEC with 8 non-members invited, including Russia and Mexico. On the table will be discussions on how to balance the oil market soon. Venezuela will make a proposal to get oil back to $70 per barrel quickly. Their proposal is a first step to finding higher oil prices so that OPEC members can pay their bills. 

Between this week and the December full OPEC meeting, I think it is very likely, almost a certainty that OPEC comes to some agreement on how to raise oil prices by next summer. They might not announce it right away, but I think the framework will be in place.

There are more than a few reasons I expect a faster timeline than other analysts. Among those reasons is that none of the oil producing nations can afford a recession that kills the slow increase in oil demand globally. Nations are literally going broke and that can’t last much longer without significant consequences on peace. 

While the non-OPEC members and most of the OPEC members are unlikely to agree to any significant cuts in production, I think there is very strong reason to believe that most will agree to cap their production at certain levels in return for a cut in Saudi pumping. Mexico has said they won’t agree to cuts as they try to get back to levels of over a decade ago and they have already been engaging the United States in what seems to be a developing, though unofficial, energy block. Russia ramped up production for the express reason of being able to say they gave something back. 

Ultimately, without some agreement to raise oil and gas prices, there could be war. We already have Russia in the Middle East. Nobody wants more war except for religious extremists and maybe some defense contractors. Although, I don’t think it is beyond the realm of possibility that an oil facility is destroyed in the hunt for ISIS that causes prices to rise and gives Russia some negotiating leverage.

Investing in the Inevitable Oil & Gas Rebound

As I’ve talked about before, eventually, all of the money printing in the world by central banks will cause inflation. Combined with capex spending reductions for oil and gas drilling in the United States, that means that oil and gas prices will rise soon. How soon? I think beginning by winter and increasing significantly by next summer. I expect $80 per barrel as that price is what Saudi Arabia needs to maintain their foriegn currency reserves, as well as, dissuade deep-sea oil drilling from coming back and keep hot money out of fracking. 

Investors have about eight weeks to get into position to play the rebound. We have seen how fast equity prices can move in anticipation. Once the glut of oil starts heading down and prices start heading up, oil and gas stocks will rally. 5% moves in a given day in both directions are already happening. I expect a month where some oil and gas stocks rise 50% or more. 

The Vice Chairman of Freeport-McMoran recently said: “We’re all going to get wet. A few people are going to drown. You just have to make it to the other side.”

So the trick for investors is figuring out which companies are going to get to the other side of the oil flood rive first and strongest. 

I have my list that I call the “Dirty Dozen” (yeah, I know, but I loved that movie and it makes sense for oil and gas stocks). It is about half composed of companies that appeared in my first report “The Last Great Chance to Buy Oil and Gas Stocks.” The other half are companies that have navigated better than their peers and are poised to not only survive, but thrive in a less competitive market with higher oil and gas prices. 

I believe that there will be at least one company in our group that goes up 1000% with the right stock and option strategy and that quite a few will make 300% or more the boring just own stock way. Our two most conservative picks will likely double when dividends are included.

I expect this all to start happening soon. Possibly by December, certainly by spring. It is vitally important to start buying before the December OPEC meeting because we could wake up to news that rockets stocks up. While it might not happen until spring, why on earth wouldn’t you invest with so little risk at these low prices. Oil and gas are going to be used for a long time yet and there is no incentive to keep it cheap. 

I truly believe this is a once in a decade opportunity. All the evidence and history back me up. If you want to build real wealth in the next few years, you need to act in coming weeks. I don’t say that too often. 

Kirk Spano

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