JUNE 12, 2000: "Higher Oil Prices; Get used to it ".
Barron's JUNE 12, 2000
"Get Used to It"
Oil prices aren't headed down anytime soon, says Mark Baskir
By Vito J. Racanelli
The vicissitudes of oil prices have toyed with Mark Baskir's investments, much the same way the old Brooklyn Dodgers did with his heart in the 1950s. Back then, the culprits usually were the Yankees. More recently, it's been the members of the Organization of Petroleum Exporting Countries.
Baskir: "I see fundamentals as good as anything I can remember in my career."
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Baskir opened the Strong Limited Resources fund in September 1997, to take advantage of high crude prices and what looked like a healthy drilling cycle. Not long after, OPEC hiked production in the teeth of the Asian economic crisis and oil cratered in 1998-99, dragging down the fund. Well, the Dodgers left and aren't coming back, but petroleum prices have, says the money manager, who was born and bred in Brooklyn. More important, to hear Baskir tell it, crude is set to trade significantly above investor expectations and for much longer, too.
"Oil prices are up, and people better get used to it,"" Baskir warns quietly but firmly. How high? Well, how's $25 per barrel for the next couple of years and in the "low 20s" per barrel for a few more years after that? (Crude currently fetches about $30 a barrel.) Meanwhile, the market discounts oil "probably in the teens per barrel" over the medium to long term, says the veteran energy pro.
Baskir uses historical production and consumption numbers to make his case. In 1968, he says, the U.S. had about four million barrels per day of spare capacity, but by 1971-72, just before the oil crunch hit, that was gone. As recently as 1985, the global demand was only about 56 million barrels per day, less than 80% of the world's production capacity then of about 73 million barrels.
The gap is again closing. Demand this year, says Baskir, is going to be 77 million barrels per day, and next year it will be up 2% to 78.5 million. OPEC, according to most observers, has 3.5-4 million barrels per day of excess capacity. "So let's say within the fourth quarter they raise production 1.5-2 million barrels per day," Baskir estimates.
"That leaves two million barrels of excess capacity on demand of 78 million, or "97%-98% of effective production." And all the slack is in Saudi Arabia. "That's spare capacity virtually no one else will have," Baskir says. Short of a miraculously quick upgrade of OPEC production capability, quota cheating -- long the bane of OPEC price plans -- will become almost irrelevant. "There is not much left for anyone to cheat with right now," says Baskir."
The data don't even assume depletion, the natural 3%-7% attrition of oilfield production over time. Says Baskir:
""All that 1 1/2-year collapse in oil prices [in 1998-99] did was forestall what was already developing.""
"Contrast that with a global economy growing about 4% annually, and you have a long-term case for energy stocks, the manager says. Even if the U.S. economic growth slows to 3.5% from 5%, and world growth is 3.5% instead of 4%, "it doesn't mean a thing. What's a couple hundred thousand barrels when the Saudis are in control of the market? ... You can't push a button and suddenly get a few million barrels a day. This is a multiple-year situation.""
The veteran energy analyst -- you get an idea for how long he's been in the business by the convoy of shiny green and white toy Hess trucks on his desk -- doesn't put much credence into non-OPEC oil redressing the balance much before mid-decade. The International Energy Agency says that non-OPEC production will be up over a million barrels per day -- but half that belongs to Norway and Mexico, which are working with OPEC. "So, outside of that you're talking about half a million barrels-just dribs and drabs."
""I would expect oil would be $25 per barrel for the next couple of years. And in the low 20s for at least another two or three years after that." That's roughly 15%-30% more than the market is discounting right now."
"So what?" you might say. Energy stocks, particularly oil-service stocks, have had a great run in the last 12 months, as Baskir's and other energy funds testify.
Table: At A Glance
He replies that the market still doesn't get it and says many energy stocks remain down from their 1997 highs. The Philadelphia Oil Service index, for example, is off around 15% from the top 2 1/2 years ago. Yet, says Baskir, "I see fundamentals as good as anything I can remember in my career," which dates back to the early 1970s. Skepticism has been built into the market now, on the part of both investors and exploration companies. "That skepticism is beautiful," Baskir enthuses, because it means the stocks have more to run. It will be a measured upswing, not a spike like in 1997.
Baskir, who spent two decades plying his trade at Neuberger & Berman, calls his investing style "value with a kicker." The Strong fund holds about 45 stocks and is small at about $8 million. Some 80% of the fund is devoted to energy, so, as might be expected, performance has been stellar of late. For the year to May 31, it's up 24.77%, in the top quartile of like funds, according to Lipper. For the 12 months to that date, the return was +24.34%.
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the biggest negative to his energy bet is a commodity price that is too high, say oil over $30 per barrel, for too long, and discourages demand.
"That's what I worry about now. And I am always trying to find something to worry about."
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Message #53966 from heinz blasnik at Jun 13, 2000 10:11 PM ET
blue sky breakouts in the energy complex:
tfc-charts.w2d.com
tfc-charts.w2d.com
tfc-charts.w2d.com
coming close to the Saudi jawboning threshold once again i suppose...the problem is, many OPEC member states are already producing at full capacity, and will therefore strenuously oppose a hike in the production quota.
the problem, as an OPEC official from Iran recently observed, is excess demand for gasoline in the US that meets with extremely low inventory levels. pumping additional crude will not help to alleviate this situation. an increase in refining capacity might, but whence should it come? alternatively a decrease in demand (read: recession) would do.
without wanting to sound alarmist, in light of the fact that the American Oil & Gas Journal recently concluded that to merely keep gas inventories stable, refineries would have to run at 98% capacity throughout the summer, this looks more and more like a budding energy crisis.
but not to worry...if in doubt, just ask BLS. they'll tell you prices have actually been falling, so in reality, everything's a-ok.
we'll get a concerted propaganda barrage emanating mainly from Saudi Arabia (which is the only OPEC producer that might have reasonable spare capacities, in the region of 1,5m bpd.). we'll see if the markets believe it.
regards,
hb
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