Ooh, I hate being wrong. Especially when I know I’m right.
Let me explain.
I’m bullish on energy. But lately, energy has developed a split personality.
Crude oil prices have been moving higher. They bottomed in late November and have been moving up in a zigzag fashion ever since.
Meanwhile, natural gas prices have been falling.
What gives? What’s driving crude higher and natural gas lower?
Answer: The law of supply and demand! Except each market is obeying its own laws.
For crude oil, U.S. consumption hit a record-high of 22.2 million barrels in December. There is already squawking over the availability of unleaded gasoline for the summer. And nuclear saber-rattling in Iran is raising the political risk in the price of crude.
Natural gas, on the other hand, is in its own, separate, supply-and-demand world.
Last week, I told you how temperatures were running more than 21% above normal in North America this winter.
And since then, the warm weather has persisted in most of the nation.
In fact, there was so much extra natural gas around that, for the first time ever in December, it was injected into underground storage.
Result: After hitting an all-time high on December 13, the front-month natural gas contract has plummeted for four straight weeks. If you were bullish on natural gas in mid-December, you’ve been steamrollered.
But before you jump aboard the bear bandwagon, here are a few things to keep in mind …
#1
Stock Investors Recognize
Crude Oil Is More Important
Stock investors, whether sophisticated pros or not, know that crude oil is the bigger, deeper and broader market … with a richer variety of back-end products … with far more market participants around the world and … more clout overall.
They know natural gas markets are far narrower, more volatile, even fluky.
And they see that the profits of virtually all energy companies are marching higher quarter after quarter. So despite the decline in natural gas prices, they’re bidding up energy stocks across the board.
Yesterday’s market action is a case in point: While energy prices were stable, shares in natural gas and other energy companies surged AGAIN!
#2
The “Good†Warm-Weather
News Is Now in the Market
Sure, backward-thinking investors are focused on all the reasons warm weather is depressing demand for natural gas. But forward-thinking investors will soon start focusing on how that same warm weather will depress supply in future months.
I’m talking about hurricane season. It starts in June, and if last year was any indication, it could be a doozy.
Remember, we’re in an upswing of the hurricane cycle, and 2005 was a record storm year in a lot more ways: Most named storms (27) … most hurricanes (14) … most landfalls by major hurricanes (4) … costliest hurricane (Katrina).
Predicting the weather is even harder than forecasting markets, but it’s widely agreed that the trend in hurricanes is ugly, and that it bodes ill for supplies of crude and natural gas from the Gulf of Mexico in 2006.
#3
Political Risk in the Energy
Markets Is NOT Going Away!
There are so many political risks now floating in the energy markets that any hope they might cease to be a factor is being replaced by the near certainty that they’re likely to get progressively worse. Here are just the most recent …
Russia got part of what it wanted when it shut off the natural gas it supplies to Ukraine. It has since turned the gas back on, but these spats are not over. They’re bound to pop up again at almost any time.
Iran has just broken the seals on its nuclear research facilities, the long-feared signal that they’re moving forward with weapons development.
But if this is worrying the crude markets, it should scare the heck out of the natural gas market. The world’s largest natural gas field, South Pars, is in Iran, and it’s just as much at risk as oil if Iran goes “boom.â€
Plus, Venezuela is rushing to make deals with ABUS (anybody but Uncle Sam).
President Hugo Chavez has just agreed to provide Argentina with five million barrels of crude oil. Nothing unusual about that … except for the fact that the $250 million tab will be paid with pregnant cows, hospital elevators, and equipment.
The two countries have also agreed to build a $4 billion gas pipeline spanning more than 12,000 kilometers from Venezuela’s coast, through Brazil, all the way down to Argentina.
He’s moving rapidly to make similar agreements with Bolivia, Brazil, Paraguay, Uruguay and virtually every country on the continent.
End result: More flexibility to snub the U.S. and more political risk in the entire energy marketplace.
Meanwhile …
Canadian natural gas is being siphoned off to be used to squeeze oil from that country’s tar sands.
Great Britain, which used to produce large amounts of oil and natural gas from its North Sea fields, is seeing those fields decline so precipitously that it warns it may become a net oil and gas importer by 2010.
#4
Natural Gas Traders Are
So Extremely Bearish,
There’s No One Left to Sell
When every trader is so utterly convinced that a market is heading lower — that’s when it’s time to look for the next major upswing.
This fundamental principal has been proven valid at almost every major turn in every market, and so there’s no reason to doubt its validity for natural gas.
Right now, even long-time, die-hard natural gas bulls have thrown in the towel. So if everyone is so bearish, it means that all, or nearly all, the natural gas positions that could be sold have been sold.
There’s no one left to sell. So any buyers that show up from this point forward are likely to stabilize prices and then drive them back up.
#5
Natural Gas Chart Tells Us
Price Decline May be Ending
Markets follow patterns, and one set of patterns that’s among the most reliable is called “support†and “resistance.†This is not just chartist soothsaying. It reflects that actual psychology of the market.
Put yourself in the shoes of the typical investor or trader, and you’ll see what I mean.
Let’s say you like a company and you’re thinking about buying its shares. You figure you’ll do your buying as long as it’s within its historic range of the past few years — between about $5 and $9 per share.
But before you get a chance to buy, it explodes to $16!
“Darn!â€
You figure you may have missed the boat. You berate yourself for not acting quickly enough. But you vow that, if the stock ever gets back down to $9, you won’t make the same mistake again. You’ll jump in and buy — immediately.
Other market participants, including major institutions, follow a similar strategy, bidding the stock up every time it approaches $9.
Sure enough, on the chart, the $9 area emerges as a powerful long-term support — a level below which the stock rarely falls.
That’s precisely the situation we have in natural gas today. The price fluctuated between about $5 and $9 (per million btu) for several years.
And this year, for the first time in history, it exploded to $16.
I’ll bet a lot of traders who missed the move could be heard uttering words a lot stronger than just “darn.â€
But now, natural gas has come back down, approaching the $9 level. That’s where it has long-term support.
It could go a tad lower. But not much.
Natural gas is in a brand new range, and it has just swung down to the bottom of its range. That alone makes me very bullish on natural gas.
Are We Facing a
Long, Hot Summer?
All you need is for this winter’s warming trend to continue into the summer … and that alone could boost natural gas demand like never before.
Reason: Natural gas isn’t used just for heating homes. About 17% of the nation’s power is provided by natural-gas fired plants. Natural gas bills are already soaring in California. And since natural gas wells can be depleted so rapidly, domestic suppliers could be hard-pressed to keep up with demand.
Bottom line: The disconnect between natural gas and crude oil can’t last. And this pullback we’ve seen in natural gas prices could be the best buying opportunity for investors for the next three years.
Even though the price of natural gas itself has dropped sharply, the shares in natural gas companies have not pulled back nearly as much. That’s good. It gives you a more favorable price than you would have paid just a month ago. Plus, it gives you some confidence that the sector is still rock solid.
Right now, I’m busily selecting some high-powered natural gas vehicles for my subscribers to Red-Hot Canadian Small-Caps. But here are a couple of vehicles you can also use:
Vehicle #1. Fidelity Select Natural Gas Portfolio (FSNGX).
This fund invests in stocks that produce and distribute natural gas, as well as companies that provide equipment and services to natural gas drillers, including Burlington Resources, Valero Energy, Chesapeake, Halliburton and more.
FSNGX racked up 45.7% returns in 2005, and 38% returns over the past three years. And it did it with a low-low expense ratio of 0.96% — the group average is 1.49%.
Despite the sharp decline in natural gas prices recently, it has held up pretty nicely and is now edging higher again.
Vehicle #2. The Enerplus Resources Fund (ERF) is a Canadian royalty trust with nearly 3,000 natural gas wells and 2,000 oil wells. What’s more, Enerplus pays a hefty dividend — 8.9%.
Or, for your high-powered money, seriously consider carefully selected small- caps.
For example, just today, I’m recommending my subscribers buy three nifty little energy plays …
Pick #1 is an oil services company that is using new technology to squeeze more oil out of old oil fields. It is just starting to partner with the big boys, and its stock is just starting to take off.
Pick #2 is another Canadian royalty trust. Its net income soared over 400% in the most recent quarter, and it leads the industry on one metric after another.
Pick #3 is an underpriced natural gas driller with over 4 billion cubic feet in natural gas reserves. And it’s good at finding new reserves — its reserves ballooned by over 50%! It has pulled back with the price of natural gas, but I don’t think that will last long.
Sorry, it’s too late to jump in on these right now. Our deadline was last night. But I’ll be sure to have more for you very soon, possibly as early as next week.
Good luck and good trades!
Sean Brodrick
About MONEY AND MARKETS
MONEY AND MARKETS (MAM) is published by Weiss Research, Inc. and written by Martin D. Weiss along with Larry Edelson, Tony Sagami and other contributors. To avoid conflicts of interest, Weiss Research and its staff do not hold positions in companies recommended in MAM. Nor do we accept any compensation for such recommendations. The comments, graphs, forecasts, and indices published in MAM are based upon data whose accuracy is deemed reliable but not guaranteed. Performance returns cited are derived from our best estimates but must be considered hypothetical inasmuch as we do not track the actual prices investors pay or receive. Contributors include Marie Albin, John Burke, Beth Cain, Amber Dakar, Michael Larson, Monica Lewman-Garcia, Julie Trudeau and others.
© 2006 by Weiss Research, Inc. All rights reserved.
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