Inventories down big for oil. Natural gas running hot. Suddenly, the black stuff's above $50 and the clear stuff is approaching $2.50 -- staggering moves from just a few short months ago.
Does it make sense?
Yes, even as this new level of pricing is more bullish than I thought possible, and I was a lonely bull back when oil traded in the $30s.
Here's what's happening. First, we are still feeling the shortfalls from the big Canadian oil shut-down because of the wild fires. Second, we are seeing a pick-up in gasoline consumption from more driving. That's not anecdotal. We are getting figures from pretty much everywhere that Americans are driving 3% more than they were, year over year.
Third, we are not seeing the pick-up in oil drilling that we would have expected at this point with prices higher, although I fully expect that when we do see the Baker Hughes rig count numbers this Friday, we will have a second straight up week and oil could come back down to $50.
More important than the demand side, for the moment at least, are the severe supply constraints in both the failing facilities in Libya and Nigeria, two huge exporters. Nigeria literally has bandits who are doing nothing but trying to knock this supplier from producing oil. Libya's a failed state. Chinese production has also fallen hard, even as Chinese auto purchases are up big with auto sales up a staggering 11%. Autos are one third of the oil use in China.
So you have a combination of much better demand out of the U.S. and China and dwindling supplies, that is at least until the U.S. starts producing more oil than it is right now.
Now, it is true that Iran is stepping up production. Royal Dutch Shell (RDS.A; RDS.B) is now starting to take their oil. The majors hadn't been fully engaged with Iran even after the ban had been lifted.
But it is not enough to make up for the demand side and the other production shortfalls.
As far as natural gas, the 25% move in the last few weeks for this entirely domestic fuel is directly related to weather. The reason doesn't matter, though, to big natural gas producers like Cabot (COG), Range Resources (RRC) and Chesapeake (CHK). It gives them a chance to re-liquefy and keep them off the "do not resuscitate" list.
At the same time, while we are beginning to export natural gas, the numbers are still very small, as the LNG ships coming out of the Cheniere (LNG) facilities aren't making a dent on supply.
There's also the precipitous decline of coal, both here and around the world, as a fuel for utilities. No one thought that coal use would decline 13% year over year in this country, according to a Bloomberg study; that remarkable statistic, plus the fact that natural gas is the principal source of fuel for utilities here, have put a bid under the fuel. Overseas, cheaper oil has supplanted gas as a fuel for utilities, as natural gas is not the preferred fuel to switch to.
As far as the stocks go, I know there's a desire to go down the food chain right now, to buy the beleaguered Freeport-McMoRan (FCX) and Chesapeake on the oil and gas side, Halliburton (HAL), Helmerich & Payne (HP) and National Oilwell Varco (NOV) on the service and drilling side, as well as Dover (DOV), a big industrial, which is a peripheral manufacturer of oil drilling parts.
All of these stocks represent bargains if oil goes to $60 and natural gas to $3. That seems to be the new bet being made, as Exxon (XOM) and Chevron (CVX) are already up 16 and 14% respectively. The higher oil and gas prices are also driving Caterpillar (CAT) back to $78 from $69 just a few weeks ago, as its equipment is vital for more oil drilling.
So to me, the answer is the rally in both fuels makes sense. Demand going higher and supply going lower is always going to produce a better price. Watch that rig count, though. That's what stands between $50 and $60, and right here all of these reach stocks need the upper extreme, if to justify these moves. Otherwise you will regret the reach to the weak and should have stayed with the strong.