think you’re data mining. I’m not advocating buying the front month and rolling it forward every month.
i think somebody considering heavy leverage should consider the worst-case scenario in advance. i didn't even try to pick the worst-case scenario--i just chose the June contract because the chart was handy--i was not "data mining" in the sense of looking over huge swaths of historical data to find the worst case scenario (although in fact that is what i would do myself if i wanted to "stress test" my own leverage). buying the June 08 last August was not buying the front month.
i agree that the longdated contracts have been less volatile...so far. that is because they have been in mild contango to mild backwardation. there's no guarantee that will remain the case. the world economy has continued to grow steadily. what happens if we have a major recession or depression? China, the biggest source of demand growth, is in a stock bubble like Nasdaq 2000. when their bubble cr*shes, their economy could be hit. we have our own imploding RE bubble which could cause a recession here. there are plenty of economic hazards that could occur even without an exogenous shock like bird flu.
if economic activity slows enough, it will cause crude demand to contract, perhaps enough to impact the price significantly. if slack conditions persist long enough, the longdated contracts may start to bend way down.
re: COS, they have updated their base case since that presentation you referenced. the new presentation to look at is here: cos-trust.com
the new base case is $1.76, because they now assume $60 CL instead of $55. keep in mind that these fcf numbers represent CAD, so they should be compared to the CAD COS price for yield.
also of interest is their updated Guidance Document, which presents various sensitivities cos-trust.com
these sensitivities can be used to calculate the impact of various factors like change in CL or CAD/USD. a big change should happen in 3Q or 4Q of this year, as they get to a sustained production level of 129Kbpd net to COS. based on $100 CL next year, i estimate their fcf at CAD $4.93; at $150 CL, CAD $8.43. (i might actually have to up these estimates a bit since i haven't incorporated all the new info of their latest guidance doc.)
to my knowledge they haven't given the sensitivity data for the Stage 3 debottleneck which would further increase production by 30-50Kbpd "sometime around 2012". but if one takes the midpoint of their estimated production increase (40Kbpd), then that is 40*.3674 = about 14.7Kbpd net to COS. if one further assumes their standard production-increase sensitivity applies to this (they have not indicated that this is the case), then i would estimate their fcf at $100 and $150 CL as CAD 5.37 and CAD 8.87, respectively. if COS kept its current dividend yield, the unit price would increase to about CAD 100 at $100CL, and CAD166 at $150CL. so at 100CL COS would be about 3.3x cap gain, and at 150CL it would be about 5.5x cap gain, plus dividends. (keep in mind that these are total fantasy projections, simply to compare to leveraged futures below.)
During the last move $15,100 was enough, so to be safe have enough free cash to protect 20 points – 25 points?
let's say you choose 25 points, with the contracts you want to buy at 67. that's about 2.7x leverage. if CL goes to 100, you have 2.3x cap gain; at 150CL you have 4.3x cap gain. so, these returns are less than the above projected returns for an unleveraged COS position at the corresponding CL prices. plus, you don't get any dividends.
my point in the above exercise is to show why i prefer COS to futures. COS itself is leveraged to the price of crude, so even an unleveraged COS holder could end up doing better than a heavily leveraged futures buyer.
as an investor, i see all kinds of problems with using leverage. first and foremost, it is an easy way to blow up, which violates Rule 1 (the only rule) of my Investor Manual. second, if you use leverage, you have to guess in advance what the worst possible scenario is, and limit your leverage to a level which will avoid BK in that scenario. so now you are guessing about two things: the future direction of the commodity you are betting on (the primary bet, for which you will get paid if you are correct), and ALSO, how much leverage you can "safely" use (the secondary bet, which could cost you your PF if you are wrong). i like to keep things simple and avoid that secondary bet.
i feel more comfortable making the general bet that crude will generally rise over a period of "some" years. that is pretty fuzzy--i mean, i think in 10-15 years CL will be SUBSTANTIALLY higher, but i also think it could be substantially lower for significant lengths of time in between now and then. so i want an investment that will be able to ride out the highs and lows, without me blowing up. having a lot of leverage over a very long period of time opens one up to any number of pitfalls that may occur along the way. the end thesis (higher price in 2012, 2015, whatever) could be right, but one could miss the pay day due to interim factors that were not accounted for. and again, i think it's important to consider how much alpha the leverage of longdated futures can realistically provide compared to vehicles like COS, once one accounts for factors like "safety margin". |
