Oil opportunities and the slippery slope of contango extraordinaire

Retarded Redux

Once, a friend from business school wrote in his capacity as a business journalist “It’s fascinating how retarded Syding is. He still hasn’t realized that…“. That was 20 years ago.

Well, here I go again, I just realized* there is this thing called contango…, and consequently I’ve had to update my view on oil.

*not really, see more below


 

Oil update – to keep or not to keep

This is a quick update on my thoughts on (brent) oil

It’s not a recommendation to buy or sell anything (see disclaimer page), it’s simply my thoughts on the issue of low oil prices potentially going (much) lower before exploding higher, and what that means for investments in oil futures and oil stocks.


 

Oil and Asperger’s

Back in August last year I wrote this article on brent oil and Asperger’s – about how I had profited from having both.

Today I’m long oil again, both a brent certificate/ETF (a Swedish instrument: Olja S)and two oil exploration companies (DNO and ShaMaran).

The case for oil is pretty easy and straight forward: the world is growing and we have reached peak cheap oil production. It will only become more and more difficult and expensive to find and extract oil, while the easily accessible oil reserves become depleted and go off-line one after the other. 

The case against oil relies mainly on solar energy and more effective use of energy, including storage (batteries). Well, that and the coming super recession.

I’m pretty sure renewables won’t be able to fill the oil supply/demand gap within the next five to ten years – at least not unless oil prices sky rocket again, thus making non-subsidized alternatives attractive enough. I also think a recession has been more than priced in. I consequently think oil prices will be much higher than today 18 months from now, and yet much higher 18 months after that.

10$ oil

In the short term however, there are a few snags, including 10$ oil:

  1. Easy money has fueled malinvestments in north American shale oil/gas production capacity. Nobody wants to be the first to fold, but some need to fold though in order to rebalance the oil market and support higher prices. The latter is taking longer than expected. Crashing oil junk bonds is, however, a good sign things are moving in the right direction.
  2. Crashing oil prices have forced Opec to pump even more oil than usual on order to keep their countries afloat. Russia, Saudiarabia, Kuwait, UAE and Iran simply refuse to agree on the needed production cuts. Instead they seem hell bent to keep at this chicken race at least long enough to crush the north American shale industry.
  3. Oversupply. The combined production of a pumped up Opec, Iran coming online and massive investments in shale production capacity have created a shortage of storage capacity. Once the industry runs out of storage (including in tankers and refined products) excess oil can and will be sold at just about any price.
    1. Yes, 10$ per barrel is conceivable (for a very short time) – if that is what’s needed to make anybody find use or (build) temporary storage for it, not to mention paying the cost to move the product.

Contango extraordinaire in the face of a storage crisis

The reason I am considering taking my oil profits to the sideline for a while is solely based on the risk of a storage crisis which could spark a panic sell off that in a single month can create a truly massive contango, wiping out 20%, 30%, 50% of the value of an oil ETF or certificate.

I have based my investments on Opec doing what they can to crush the shale industry.

I have been ready to sit through a bottom in oil prices caused by both a supply war and a simultaneous recession.

I have been quite calm, faced with a contango of  1-2% per month for the rest of the year, and a total of 20% until the end of 2017. No problemo.

oil futures

What I hadn’t really considered, until I listened to the MacroVoices podcast the other day, was the risk of literally overflowing oil storage facilities (check out some of the statistics here), and thus nobody willing to take delivery of oil at just about any price, while next month’s futures still trade at more or less reasonable prices. Even if current contango is limited to 1% per month, temporary spikes can kick that up to tens of per cent per month.

oil storage

picture from Art Berman via MacroVoices

I previously thought it would be quite easy to find alternative uses, or to build temporary storage facilities if you stood to make a dollar or two per barrel per month in arbitrage, but it seems it just isn’t that easy.

Hence, if a long oil ETF trade as of today is to become profitable, the current oversupply of 2 million barrels per day pretty soon has to come down to zero. It only takes a few per cent production cuts by, Russia, Saudiarabia, Kuwait and UAE to accomplish that. However, they just won’t, if Iran is increasing its supply at the same time, and definitely not if it means the US shale industry will survive.

If the cuts or shut-downs, shut-ins, don’t come soon enough, any product relying on rolling oil futures contracts over from month to month, could be more or less wiped out, and not recover sufficiently in the ensuing rally, due to too low a starting point.

Veering

So, it’s a chicken race, and I’m not entirely sure I want to be part of it anymore. The risk of suddenly losing even ‘just’ 10% in a single month’s contango simply is too much of a gamble for me.

I will keep my oil stocks, but I just might sell my oil certificates as early as this Monday.

If I were you, I would think long and hard about what kind of oil exposure I had and why.

With that I leave you, and encourage you to spread this article far and wide, to help others in their quest for making a quick buck in oil.

P.S. If you haven’t subscribed to my newsletter or read my eBook already, don’t hesitate to sign up. It’s free, spam free, easy to unsubscribe, and I hear it’s pretty entertaining as well as useful (sometimes)

Story Stocks For Fools Will Wither Worse Than Market

Damn you, Mr. Market!

This post is just a 2-minute comment on the minuscule stock market correction experienced the last few trading days. It’s hardly visible on a 15 year chart, but nevertheless… people are talking about it.

Here I had a nice new post on story stocks lined up, that I had hoped writing and publishing before the market turned down. All short ideas of course.

But now I guess I’ll just have to idly sit by and see all the “10 times Sales or more” and “no profits, please, we are American” stocks predictably crash to the ground during the coming 24 months.

You know which stocks I’m talking about: Tesla, Twitter, Amazon etc.

And then there is Apple (currently 107 USD/share). It’s not actually expensive, not obviously at any rate. Even I got the “right” price to 107 USD in the fall of 2014 (see post here), but I think it will hit a 50 handle before this is over anyway. Today’s dip into the low 90’s was not a one-off, but a signal about underlying weakness and times to come.

 

The peak is behind us

Yes, I think we have seen the peak of the general market for this time. The risk spirit is gone, the irrational exuberance and the unwavering belief in central bank omnipotence have vanished like so much #¤%&¤ from the “news” anchors at CNBC.

Sure, we might see an intensive bounce and a marginal new high at some point (though I seriously doubt it). There probably is a bit juice left in the narrowest of narrow slices of the market, meaning a select few stocks will continue to show new highs for a while. That could fool some people, for some time, into believing it’s still a bull market. It’s not.

Usually there are dozens of 10-20% bounces at the index level during the 60% ride down (that I think is in the cards). I expect this time to be just as lively. So strap in tightly and try to avoid buying too much too early.

 

Lots of fun ahead of us

In any case it will be a fun ride, with plenty of historical stupidities said and done by the usual culprits: The Federal Reserve, CNBC, Krugman etc. And then, when it’s all over, the interviews and compilations with Peter Schiff, Jim Chanos, Raoul Pal, Marc Faber… will be nothing short of epic.

 

Strap in, start researching

So, what should you do?

Start researching your favorite stocks and industries right away to be ready.

Look for sustainable models, sticky products and services, strong balance sheets, good cash flows etc. and decide at what prices they definitely will be good investments.

Then get ready to carefully accumulate shares in those stocks, when they dip below your wish list price (probably 12-24 months from now). Buy slowly on dips during a year or two while ‘your’ stocks bottom out, and then buy some more when they start rising in earnest.

Oh, and then it’s almost 2020 and we can look forward to a fantastic decade of productivity, robotics, genetics, journeys to Mars, and the first general Artificial Intelligence that at all resembles a human mind (very late in the 2020’s).

Please note, that I’m not recommending anything here, nothing at all connected to the real stock market. This is all a fairy tale. See Disclaimer page here.

 

And, yes, I bought some Brent today. Slowly accumulating. I know you’d ask anyway.