Why Oil is the Name of the Game in 2011

Have you read the latest forecasts for oil prices in 2011? How about some headlines to give you a taste of what the analysts are expecting?

Oil price forecast for 2011, will oil hit $150 by summer?
U.S. Oil Price To Average $93 In 2011, EIA Predicts

OK, maybe $150 oil is a little bit exaggerated by the summer of 2011. Have we forgotten about further Chinese interest rate hikes and European debt woes coming back into the spotlight? What if the USD makes a significant recovery? The only real killer for oil prices in 2011 would be a second recession. Bar that possibility and we are sitting on a global oil demand that increased 2.2 million barrels in 2010 despite prices rising above $80 US per barrel. In 2011, The Deutsche Bank commodities team expects demand to grow by 1.5 million barrels per day. Talk about a growing problem since oil prices definitely contributed to the last global crisis!

Oil has been sitting at about $90 a barrel as OPEC has not signaled any output hikes to cool oil prices down in their last meeting on December 29, 2010. Following a significant price increase since September and with a new OPEC meeting unlikely before June of 2011, I expect oil prices to remain strong in the 1st half of the year. There is no need to speculate on the exact price of a barrel of oil, as long as it is above $75, every single junior oil producer makes money out there whether in Canada or anywhere else. I personally hope $90 becomes the ceiling for oil as there is a danger of higher prices deflating global economic growth. In my opinion, the money to be made is not by buying oil as a commodity, it is by investing in junior oil producers with high growth prospects.

How can demand be growing if many of the developed countries (US, Japan and Europe) are facing their fair share of economic problems? Well, it’s the developing economies (China, India, Brazil..) that are responsible for the increasing consumption growth. According to the IEA, the developing countries brought us back to pre-2007 levels of oil consumption at the end of 2010. Asia’s developing economies are expected to grow by 7% in 2011. China by itself increased its crude oil imports up 17.5 pct to a record high in 2010!

If oil is the name of the game in 2011, I believe natural gas will be the source of pain for many juniors in the sector. As such I began evacuating my NG weighted stocks (70%+ NG) and redeploying the capital into Canadian light oil producers. The challenge is to pull out the troops from the natural gas sector at no loss. I plan to keep an exposure to natural gas through Perpetual Energy as I consider it a long term hold in my HELOC portfolio and it pays me while waiting. Natural Gas will turn around; it’s just a matter of timing so I will keep an eye on NG fundamentals during the year.

What is your investment sector of choice for 2011?

18 comments to Why Oil is the Name of the Game in 2011

  • I like the junior oil-weighted for the momentum. The ones I’ve bought within the last 52 weeks have done well: SKW up 30%; WFE up 32%; REL up 5%; HYX down -4.2; YGR up 24.3%. But I’m long (or sold puts) on intermediates as well, and they pay dividends: CPG, NAE, DAY, BNP, PBN, PWT, PGH.

    While the oil goes up, the value of the dollar against the loonie plummets, the Canadian oil investor stays at an even keel, neither going up much but not going down either. This will be a problem for Canadian producers as the loonie soars. Oil can go up 10%-or 20% but if the loonie does the same, its a revenue neutral situation. This happened the last oil went above $100. They still had to pay their employees, suppliers and dividends in loonies; but they were receiving diminished greenbacks as revenue. One way around this is buying the CDN oil stocks in a US margin account on margin. Then you take advantage both of the rise of the oil and of the loonie at the same time.

  • Mich

    @PWD, SKW should be up 40% right now with rel rising as well!

    I agree with you regarding the loonie strength, I really hope it gets capped at 1 to 1 but the way it’s going, we might see more strength on our side. For the near future, no USD accounts for me, it’s all Canadian for now.

  • Mich: Is it because your broker doesn’t provide the US account or because you have chosen not add that to your risk portfolio? My brokers (TD and iTrade) provide both portfolios and the margin is calculated as an aggregate of the two accounts (US and CDN).

    It is admittedly more risky to buy CDN equities in a US margin account on margin. For such an investment would be doubly burned by plummeting oil prices and a plummeting loonie. I’ve been doing it now since June 2009, and it has worked well. If I had started in August of 2008, however, it would have been a tragedy.

  • Mich

    @PWD, My brokers are able to provide a USD account. However, my Cashflow goes towards the mortgage and RRSP, can’t divert any towards a new trading account in USD. My DIY investing is simply financed by recycling profits and as it stands I don’t have any troops to spare for this.

    Keep a close eye on the markets as you can definitely get burned if the world economy gets a black swan out of somewhere! (even though I believe it is too soon to see a repeat of 2008)

  • You should not ask this question, you must be kidding. Of course I’ll choose to invest in Oil & petroleum rather than anything else.

  • James_Bond_007

    I stumbled upon your site a couple weeks ago and have enjoyed reading your posts. Your recommendations have led to a couple new prospects on my watch list! I actually placed a limit order for skw the day it took off, lol, needless to say it wasn’t filled. I agree with your focus on the cardium and bakken plays, I think this area will continue to show impressive returns. I will soon be loading up on PBN given the price and # of wells they’ve spudded in the past couple weeks. I also like another area for explosive and higher risk growth and that is iraq. One stock in particular that I’m waiting for a pullback in is lfd.vn sister of vst . These have worked great as in and out plays for me over the past 2 years. I currently don’t hold any positions in either. Keep up the awesome returns!

  • Mich

    @James,

    Welcome aboard James! I wish I loaded up more on SKW, i never owned enough of it unfortunately. It might not be too late to buy more, but I hate to buy after a run up!

    PBN is interesting and might provide a decent return if they go from zero to hero in 2011. Market needs to like them again!

    You got nerves of steel for investing in Iraq. I wouldn’t invest a penny there. But high risk can result in high rewards so if you can take the heat, go for it!

    good luck :)

  • I agree with Mich about Iraq; I am very pro-Canada. I think you have a pretty good regulatory regime plus stability. In the case of Bakken and Cardium companies like PBN, low risk repeatable drilling–it’s almost a no brainer. I have a long enough time horizen and PBN covers all my cost of carry charges with its dividend. I added to my portfolio more PBN Monday at $21.15 and sold some July puts with $22 strike for $2.70 (meaning that net price at assignment would be $19.40 after commissions). I think that PBN is an over-sold intermediary. If the Market takes its time, it gives me time to build a position. Devon Shire regularly posts on the Petrobank group of companies (http://valueinvestorcanada.blogspot.com/ ), and I find his posts informative.

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  • James_Bond_007

    Yes a strong stomach helps! I exited lfd recently @ .33 with a 50% return in 5 weeks, much to soon it appears but you can’t knock a profit. Iraq isn’t for everyone, I say stick to your fishing hole. Thanks for the good read Dunn! I haven’t placed any option trades, still outside my comfort zone but I plan to look at it more as I build my arsenal.

  • Mich

    @PWD, I like how you use a “combined arms approach” to maximize your profits. I would have to look into this at some point when I start allocating capital to the majors.

    @James, Not bad at all for the return but I’ll stick to my fishing hole in the WCSB :)

  • James: Selling put options works well for me, so far. I can reduce my entry point if the underlying is assigned. The negative is there is less upside potential–if the stock goes up your gains are capped at the price of premium. But it is not riskier than owning long positions. That’s why I typically what Mich calls the “combined arms approach”–I own some shares and sell some puts. Of course, I don’t rely on the margin alone to cover the put: you must have either cash or an outside line of credit. Margin credit is to ephemeral.

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  • Oil at $150 doesn’t seem too sustainable; not unless the prices were there because of a general sustained inflation! You never know though.

  • Mich

    @IIW, I agree with you and seriously hope 90 is the ceiling here.

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