After insane volatility in oil and oil stocks, a review of the macro scene in energy and a few specific stocks is in order, especially after this week's carnage (and only partial recovery).
First, the macro. Oil and oil companies continue to follow the timetable of destruction, whose path began almost one year ago today. Of the five major inputs to the decline in oil that I outlined in my book, it is obvious that the Chinese GDP fantasy (and the yuan devaluation race) was the straw that broke oil's back on Monday (as well as the major averages). I was rather certain that oil's lows from the early spring would not be significantly broken, but the power of the Chinese disaster was enough to send it briefly down to $38 a barrel. But to be perfectly clear, this latest move did not signal a sell, nor upset my macro scenario for oil or oil stocks.
We have always maintained that oil's bust would be a very long process, with no significant bull market reestablishing itself until at least the end of the first quarter in 2016. Production from OPEC sources is inelastic in that there are no incentives to impose tougher quotas. The Saudi plan is working in destroying U.S. production competition and hobbling Iran, and they won't let up until there is quite a bit more blood in the form of bankrupted shale players and reduced projected supply from other OECD sources.
And the signs of that happening imminently are everywhere. Rigs, reduced by 1,000 since March, are as stripped down as they can be and show no immediate signs of increasing. Bakken production is finally leveling off and headed south. U.S. drilling leases for the Gulf of Mexico are at a 30-year low. No U.S. oil company has any interest in new projects in the newly opened Mexican oil market, and you can forget about Brazil. Without "majors" money, projects in Mozambique, Angola, Libya and Nigeria are fast drying up.
These are all signs of a coming supply disaster, even though we all know that their effects may not be felt until 2016 -- and more likely really start hitting the fan more than a year from now. The International Energy Agency (IEA) still estimates a global demand of 96 million barrels a day of crude in 2017. With the collapsing capex budgets the entire oil world is operating under, those barrels simply won't be there.
There is a generational opportunity emerging from this scenario, and it is emerging now. Oil will be the place to be in 2016 and 2017, for sure.
Moving on to the micro, timing on playing this opportunity has not proven to be as easy, but I expected that. Analysts are not traders and my role is to do both tasks equally well. So far, I have not. It's almost impossible to pick bottoms, but I have been too enthusiastic to start positions and miss a value.
In oil stocks, I have begun positions on three oil and gas companies in the last week: EOG Resources (EOG), Chesapeake (CHK) and SeaDrill (SDRL). All are trading below where I bought them but need individual updates for those who are following me instead of finding oil ideas of their own.
EOG remains one of the three or four shale players that is not affected by the "Ponzi" setup of shale -- the company has literally decades of core shale acreage that will yield equal results to the ones it already operates. Very few other players, perhaps no others, are that deep. EOG eschews production for future planning, a move I heartily endorse but analysts loathe. I bought at $75, again at $70 -- and will wait for 2016 on this or for Exxon Mobil (XOM) to potentially make a bid for the company, whichever comes first. There's no way I will sell this one, and I'll look for lower prices to buy more.
Chesapeake, as dreaded as its debt structure is, does not seem, to me, in immediate danger of bankruptcy. In fact, I don't see that as possible for the next two years, at least. But it's been that fear that has driven the shares well below my buy price of over $7.50 to touch $6. I'm still in, but I don't own this company at $14 or higher, and consequently I'm not out much yet. But at $5, if it gets there, I would have to consider there's something much worse in Chesapeake's financials that I don't know about, and I'll probably get out.
Lastly, I bought SeaDrill with an average closer to $10, and still believe in it. If ever there was an indication that the world, as unhappy as it is right now with deepwater offshore drilling, must return to it with a vengeance, it is Schlumberger's (SLB) brilliant deal to acquire Cameron International (CAM), by far the leading servicer of deepwater platforms. The disaster in deepwater stocks has provided Schlumberger with an opportunity to grab infrastructure on the cheap -- and I couldn't agree more with this move.
In short (which this column hasn't been), I'm suffering now, but confident in all three stocks as well as preparing to find others in the energy sector to add.
We've kept our capital intact through 2015, ignoring energy shares, but the time to develop a long-term energy portfolio is now.