Top Oil Stocks To Hedge Against Dollar Slide

3 Apr

Energy stocks are presenting a brilliant opportunity for investors right now. The way we see it, the industry is undervalued as a whole, trading at low multiples. Many of the largest companies in the industry boast current P/E ratios below 20 and forward P/E ratios below 15.

Hedge funds like energy stocks too. Many oil and gas companies are very popular amongst the hedge funds we track. For example, BP Plc (BP) was held by 57 hedge funds at the end of last year. Famous energy hedge fund manager T. Boone Pickens had over 12% of his portfolio invested in BP. Pickens was also bullish about National Oilwell Varco Inc (NOV), Exxon Mobil Corporation (XOM), Halliburton Company (HAL), Occidental Petroleum Corporation (OXY), and Schlumberger Limited (SLB), which were all very popular among other hedge funds. For instance, there were 51 hedge funds with Halliburton positions in their 13F portfolios at the end of 2011. The most bullish money manager about the stock was Ken Griffin, whose Citadel Investment Group boosted its stake by nearly 600% to $175 million.

More importantly though, investing in the energy sector also provides a way for investors to hedge against a decline in the US dollar – which, given the economy, is a major benefit right now.

It is not hard to understand the negative correlation between oil price and US dollar. Intuitively, the global oil price is denominated in US dollars. Therefore, if the US dollar depreciates, oil providers are paid by fewer units of foreign currencies for the same amount of oil. In order to keep their purchasing power unchanged, oil providers will raise oil prices.

To verify the relationship between oil price and the US dollar, we collected the monthly data points of WTI spot crude oil price (dollars per barrel) and US dollar index from January 1986 to May 2011, as shown in Chart 1.

Chart 1: Oil Prices and USDX Over Time

As shown in the chart, there definitely seems to be a negative correlation between oil price and US dollar index. For example, oil prices soared when the US dollar depreciated during the 2008 financial crisis. However, when the US dollar appreciated, the decline in oil price was not very obvious. The US dollar appreciated in 1997 and 1998, went down slightly in 1999, and went up again in 2000 and 2001. Correspondingly, oil prices dropped in 1997 and 1998, climbed from early 1999 to mid 2000, and fell again in 2001. However, the overall trends of both US dollar index and oil prices were growing in late 1990s and early 2000s.

So, how closely are the US dollar index and oil price related to each other? In order to see the relation more clearly, we made a scatterplot of the two data series (Chart 2).

Chart 2: Scatterplot of Crude Oil vs. USDX

Obviously, Chart 2 shows that oil prices are negatively correlated with the US dollar index. We also found the correlation between the two data series to be -0.706, which indicates a quite strong negative correlation.

Lastly, we constructed a simple regression model. We used US dollar index to explain the changes in oil price. The R-Square is about 50%, which means US dollar index can only partially explain the changes in oil prices. There are other factors that influence the oil prices, such as macroeconomics. Plus, an improved regression model may also include the US dollar index at t-1 as an independent variable. Despite that, our simple regression has already shown us some valuable results. The coefficient of US dollar index of -1.82 indicates a negative correlation between US dollar index and oil price, which is in accordance with our previous findings. The p-value of the coefficient is lower than 0.0001, which means that the negative correlation is statistically significant at a 99% confidence level.

Overall, our study shows that there is a negative correlation between oil prices and US dollar. If investors want to protect themselves from dollar depreciation, they should probably gain some exposure to the oil market. And we think one of the most practical ways of gaining exposure to oil prices is to invest in oil companies, especially those with large hedge fund interest.


Plunge in Natural Gas Price Is Reshaping Energy Industry

29 Mar

Plunge in Natural Gas Price Is Reshaping Energy Industry

“If you have low prices at this level, it will eventually provoke a shakeout in the industry,”

The U.S.’s New Industrial Revolution: Natural Gas

29 Mar

The world is in the midst of a natural gas revolution thanks to discovery of shale gas. The EIA, the US Energy Information Administration, estimates global “technically recoverable” shale gas resources at 6,600 trillion cubic feet (Tcf), equaling about 60 years of world gas consumption. Some are calling the shale gas development “the biggest energy bonanza in decades.” Even the international Energy Agency refers to a scenario it calls a “golden age of gas.”

North America could be the next global hub for energy, replacing the Middle East, if projects involving deepwater drilling, oil sands and natural gas reach their potential, a Citigroup (C) report finds.


The US has led the way in shale gas drilling by applying “hydrofracking” or “fracking” to horizontal drilling techniques in order to crack open tight shale rock formations with a high pressured mix of water and chemicals.

As a result, natural gas production and natural gas inventories have increased significantly over the past two years, thereby pushing natural gas prices to historical lows.

Baker Hughes Rig Count.jpg

With 860 Tcf shale gas reserves estimated in the US (equaling about 40 years of gas consumption), abundant gas supply could keep the US gas prices low for a foreseeable future.

As the price spread between oil and natural gas also reached a historical high in the US this year (46x), drilling activity has increasingly shifted towards oil and liquid-rich reservoirs. Consequently, the rig count for oil drilling has continuously increased over the past two years, while the number of rigs for natural gas drilling has been flat or declining, as national gas prices reached uneconomically low levels.

Rotary Rig Count - United States Weekly

The U.S. rotary rig count was down 16 at 1,968 for the week of March 23, 2012. It is 230 rigs (13.2%) higher than last year. The number of rotary rigs drilling for oil was down 4 at 1,313. There are 462 more rigs targeting oil than last year. Rigs drilling for oil represent 66.7 percent of all drilling activity which is the highest percentage since Baker Hughes started reporting oil and gas separately in 1988. Rigs directed toward natural gas were down 11 at 652. The number of rigs currently drilling for gas is 228 lower than last year’s level of 880. Year-over-year oil exploration in the U.S. is up 54.3 percent. Gas exploration is down 25.9 percent.

The US used to be a large liquefied natural gas importer. Since the mid-2000s, however, the discovery of new natural gas reserves and the development of hydraulic fracturing techniques has led to rapidly growing domestic production. As a consequence, U.S. LNG imports have declined by roughly 50%, from 40 billion to 20 billion cubic feet per year.

Given the immense shale gas opportunity in the U.S., shale gas production is expected to be the dominant driver for US natural gas production. Lower energy prices benefit all in the end, but the biggest effect will initially be seen with energy intensive industries and those that use gas or the by products of gas refining as raw material. In general, these industries are big energy users: Paper and Forestry, Cement, Chemicals and Fertilizers.

oil prices with U.S. oil boom

According to Citigroup, boosting energy production could hike GDP by up to 2 percent to 3.3 percent – $370 billion to $624 billion. The bank adds that 3.6 million new jobs could be created by 2020 as a consequence of increased energy production, 600,000 of which would be devoted to oil and gas extraction while another 1.1 million would be created to meet demand in related industrial and manufacturing sectors. National unemployment could subsequently drop by up to 1.1 percentage points.

“The coming generation of Americans and its leaders may be privileged to witness a remarkable resurgence of the American economy and industry, led by its energy sector, but spreading to the rest of the manufacturing sector and beyond, a potential minor Industrial Revolution,” Citi analysts conclude.

Beneficiaries of low gas prices will be the following industries:

Exploration & Production
Companies providing technology and equipment/rigs for gas drilling are set to benefit from the energy industry’s next capex cycle. From Parker Drilling (PKD), Baker Hughes (BHI) to Royal Dutch Shell (RDS.A).

Gas transportation and storage
Big infrastructure projects, such as pipelines and tankers are being built to transport and store natural gas. A company such as Kinder Morgan (KMI) is the front runner.

Power Generation
On the demand side, the biggest pull for natural gas is projected to come from the power generation. New environmental rules will give utilities an incentive to switch existing power plants from goal to gas, as natural gas burns cleaner than coal, cheaper than oil, less controversial than nuclear power and more readily available then sun or wind power. Natural gas fired power plants will also be the replacement source for capacity related to already announced coal plant shutdowns.

Companies producing gas turbines should benefit from rising demand. General Electric (GE) could swing again.

Chemicals, Paper and Fertilizers
These sectors will have cheaper productions costs as well as lower raw material costs due to the very low gas prices now prevailing in the US and Canada. Lower energy prices will increase margins in these industries.

For example the paper industry is the world’s fifth largest consumer of energy. Energy is used to chip, grind and cook wood into pulp and to roll and dry pulp into paper. Two gallons of gasoline is used to make 500 sheets of copy paper. Global leader International Paper (IP) could profit tremendously.

In the fertilizer business the largest component needed by volume is Nitrogen, which is made from natural gas. Agrium (AGU), the leading US and Canadian retailer to the farms and a maker of fertilizers, will benefit from lower gas prices.

Final Note
The positive effect of the very low natural gas prices on both activity and investments in the energy exploration and supply business is a game changer. The long term benefits are in the end for all energy users. Lower costs for industry and households could lead to spending power for consumers. The Golden Age for for the U.S. is just starting.

Natural Gas

29 Mar

I think natural gas is an undervalued asset at this time.  My goal will be to track the companies that are in the Nat Gas space.  At this time the only way for the average investor to buy Nat Gas is thru UNG an ETF, which does a horrible job follwing the true price of Nat Gas.