We don’t have to like the changes underway, but we do have to respond to them intelligently if we hope to preserve and increase our wealth. The time has come for us “free market” aficionados to dry our tears and try to figure out what to do next.

The federal government’s attempts to reshape the U.S. economy will provide numerous profit opportunities. Take, for instance, the inevitable move toward taxing carbon emissions. Attaching a price to carbon dioxide would, obviously, increase utility bills (and the price of anything made with electricity). As a result, consumers of energy would try to avoid this taxation by utilizing cleaner sources of energy.

Right now, many natural gas-fired power plants are brought online only at times of peak demand, while coal is considered a “base load” fuel since it’s cheaper. But a carbon tax would raise the price of coal (and the extra carbon it emits) closer to the price of natural gas. So it’s seems likely that carbon taxes or any other “climate change” legislation that comes from the Obama Administration will favor natural gas-fired electricity at the expense of coal.

Assuming the political popularity of natural gas will keep growing, and that solar and wind power production cannot increase fast enough to be meaningful (even with heavy subsidies), it makes sense that natural gas-focused exploration and production (E&P) companies and their critical suppliers like National-Oilwell Varco (NYSE: NOV) will enjoy years of attractive growth opportunities. NOV has an attractive business selling brand-new, highly efficient rigs built for shale gas drilling.

At the moment, a glut of natural gas has produced a drop in number of drilling rigs operating in the U.S. This drop was already discounted by the crash in the oil service stocks last fall. But the faster the rig count falls, the faster the gas glut will dissipate as 2009 wears on. If demand for natural gas rebounds later in 2009, while supply is falling, then prices could move much higher in a short period of time. I’m going to keep monitoring the supply situation closely because I think it will yield several good trading opportunities this year. And the best way to get a handle on supply is to follow where and how the smartest companies are investing.

I recently tuned in to several Webcast presentations made at the BMO Capital Markets North American Unconventional Gas Conference. The larger presenters included Talisman Energy, Comstock Resources, Southwestern Energy, Ultra Petroleum, and Range Resources — several of the visionary early movers into shale gas drilling.

These companies employ cutting-edge technology in the natural gas industry. As a group, they delivered much of the production growth the U.S. has enjoyed in recent years. We can’t do without this shale growth. Keep in mind that virtually all new electric power plants brought online in recent years have been gas-fired plants.

Most of the premier shale gas plays (Barnett, Marcellus, Fayetteville, Haynesville, etc.) can be booked into reserves and brought online at cash costs between $2-4 per million cubic feet of gas. With natural gas prices currently at $5.50, the economics of adding to shale gas reserves and production makes sense. Even if they don’t immediately hook up newly drilled wells to gathering pipelines, most of these exploration-and-production companies will still want to drill at a fairly rapid clip to book new proved reserves in 2009.

The E&P industry, like most others, contains the “haves” and “have-nots.” The haves tend to be public companies with premium valuations that reflect their huge inventories of low-cost drilling opportunities. The have-nots tend to be private highly leveraged companies that hit the accelerator on any resource that looked economic in the high-price environment. Many of them are releasing low-end rigs and will not survive this downturn.

Ultra Petroleum is certainly at the top of the “haves” list. It controls tons of acreage in the obscenely profitable Jonah and Pinedale fields in Wyoming. Because its acreage is so cheap to develop, it can keep expending production very quickly, and incremental returns on invested capital are enormous.

The same goes for Range Resources. Range is a first mover and considered an expert in developing the Marcellus Shale. It looks to have locked up most of the highest-quality acreage in the Marcellus. The Marcellus is definitely promising, but it has different characteristics across its wide geography. Range has the most profitable gas wells because it has the most experience, expertise, and proprietary seismic data. At the BMO conference, Range estimated that its Marcellus wells have the potential to earn 20% internal rates of return at $4 natural gas.

The good news if you’re exposed to E&P or service stocks exposed to shale gas: The stocks have already crashed in anticipation of an ugly environment for natural gas pricing, production, and drilling in 2009 and 2010. If conditions stabilize, rather than continue collapsing, many of the stocks exposed to growth in shale gas drilling — including NOV — should regain plenty of lost ground.

The big concern with NOV recently was J.P. Morgan’s downgrade. I read J.P. Morgan’s report and agree with many of its points. But I disagree with its method of getting to a $31 price target for NOV (I think $31 is much too conservative). It gets to $31 through a discounted cash flow model in which it assumes 2009-2011 returns on invested capital will average 8%. This is down dramatically from the 2005-2008 average of 16% and equal to the 2002-2004 average of 8%. I have two issues with this:

1) Hardly any company was investing in rig equipment during 2002-2004. The upturn in day rates didn’t really gain traction until 2004. On the next up cycle, most of the world’s drilling fleet will be approaching 30 years of age. So many of the oldest rigs will be scrapped and there could be a shortage of newer, more productive rigs that NOV helps create.

2) J.P. Morgan gives no consideration to NOV’s greatly strengthened negotiating position relative to its customers, since it scooped up several competitors. It is a one-stop shop for equipment and consumables for every E&P and drilling company worldwide. It can afford to take advantage of this down cycle with more cheap acquisitions. Such moves won’t dilute shareholder value — thanks to its strong balance sheet and cash flow.

3) J.P. Morgan gives no credit to NOV for its excellent integration of Grant Prideco — a company with very attractive growth prospects (considering that its product lines are levered to the strongest trends in oil and gas production, including stronger drill bits and better drill pipe).

So J.P. Morgan reflects the bear case on NOV, yet it still gets to a $31 price target.

J.P. Morgan’s target implies that NOV should trade at 3 times its estimated 2009 EBITDA, in line with the offshore drillers. In my view, NOV deserves to trade at more than twice the EBITDA multiple of the drillers, since it’s a far less capital-intensive business model. NOV will not be generating losses during this downturn, nor will it be forced to spend a lot on maintenance capital expenditures (as drillers must, depending on the age and shape of their fleet).

I expect the market to come around to this view when NOV reports earnings in early February. Sure, the segments of NOV’s business that are the most sensitive to the rig count will slow in 2009, but the stock market excessively discounted this slowdown when it hammered the NOV share price from its crash from $92 last July to $18 in November.

At the current quote of $25.62, NOV is a very cheap stock that could easily rebound to the mid-$30s in the coming months. I think the trend for NOV will be up over the next month or two as the market anticipates that 2009 and 2010 earnings will not be as bad as previously expected.

Source: Investing for Comrades, 101

Don Miller says industry insiders are now betting on triple-digit crude oil prices for the next decade. And long-term oil futures show demand will continue to outstrip supply, as Asia industrializes and proven reserves diminish.

Don says Transocean Inc. (NYSE:RIG), StatoilHydro ASA (NYSE:STO), and Petrobras (NYSE:PZE) are likely to benefit from new drilling projects. And the company that supplies equipment lines for 90% of oilrigs, National Oilwell Varco (NYSE:NOV), is also well placed for profits.

Want to know what the price of a barrel of oil will be in eight years? Exactly $119.50 a barrel.

There’s no shortage of pundits predicting where oil prices are heading. And every day seems to bring new reasons to change the forecast – a resurgent dollar, Americans curtailing their driving habits, oil supply reports… The list goes on.

But the guys who really know the future of oil prices are those sitting right in the driver’s seat – oil producers.

Every day, they make bets about the direction of petro prices on the futures market. And right now, they’re telling you – in no uncertain terms – oil’s got a floor price of $100 a barrel for years to come.

“Oil-flation” is here to stay, but this free report reveals four ways you can beat it starting now…

The Future Price of Oil – And Why You don’t Need a Crystal Ball

Crude oil is the world’s most actively traded commodity. Every day, oil producers trade futures contracts on the New York Mercantile Exchange (NYMEX) to hedge against price swings.

At the end of the day, they – along with speculators who bring liquidity to the market – determine the price of oil, which is simply a reflection of the market’s attempt to balance supply and demand.

So, that prediction of $119.50 a barrel? That’s a recent closing price on NYMEX for the December 2016 contract.

Fact is, NYMEX has over 1,000,000 active futures contracts or “open interest” on crude oil for the next eight years and not one trades below $112 a barrel.

That means the guys in the business – the ones who make their living producing and selling oil – are predicting oil will be priced over $112 a barrel for most of the next decade.

Why are they predicting the continuation of triple digit oil prices?

Plain and simple, the markets are telling us future demand for oil will outstrip supplies.

Demand for Oil Keeps Growing

Although demand is highest in the developed world, exploding economies like China and India are quickly becoming large oil consumers.

The United States is still the world’s largest consumer of petroleum and our thirst for oil is growing rapidly. Between 1995 and 2005, U.S. consumption grew from 17.7 million barrels per day (bpd) to 20.7 million bpd – a 17% increase.

In the same time frame, China’s consumption vaulted from 3.4 million bpd to 7 million bpd – a 106% increase. And that number’s rising, as China surpassed 8 million bpd for the first time in June.

Meanwhile, India’s oil imports are expected to more than triple from 2005 levels by 2020, rising to 5 million bpd.

All totaled, Asia accounts for 60% of the world’s new oil demand.

Putting a worldwide number on it, the International Energy Association recently increased its 2009 oil demand forecast to 87.8 million barrels a day.

On top of that, The U.S. Energy Information Administration projects world consumption of oil to increase to 98.3 million bpd in 2015 and 118 million bpd in 2030. That’s a 35% increase by 2030.

Oil Production Dropping?

By now, you’ve probably heard of the Peak Oil theory – that worldwide oil production has peaked and is now dropping. Consider:

• The U.S. Energy Information Administration Energy contends that world production leveled out in 2004, and reached a peak in the third quarter of 2006.
• Oil tycoon T. Boone Pickens recently told Congress, “I believe you have peaked out at 85 million bpd globally.”
• And at a recent industry conference, the chief executive officer of Total SA (ADR: TOT), the French oil major, said the industry would be lucky to produce 95 million bpd by 2020.

But whether you believe Peak Oil is true or not, at least nine of the largest 21 oil fields on the planet are in decline.

In 2006, a Saudi Aramco spokesman admitted that its mature fields are declining 8% per year. It’s now clear that Ghawar, the largest oil field in the world, has peaked.

The second largest, the Burgan field in Kuwait, started down in 2005. And Mexico announced that its giant Cantarell Field entered depletion in 2006.

Reserves Don’t Equal Production

Then there’s the matter of oil reserves, a moving target if there ever was one.

You see, oil reserves are classified three ways: proven, probable and possible. Proven reserves have at least 90% to 95% certainty of entering production. Probable reserves have 50% probability. And possible reserves have a 5% to 10% chance.

A 2007 report by the Energy Watch Group pegged total world proven plus probable reserves at between 850 and 1,250 billion barrels. That’s 30 to 40 years of supply if demand holds steady – which it won’t.

But as Sadad I. Al Husseini, a former VP of Aramco, said in October 2007, “Reserves are confused and inflated. Many of the so-called reserves are in fact speculative. They’re not delineated, they’re not accessible, they’re not available for production.”

By Al-Husseini’s estimate, 300 billion of the world’s proven reserves should be re-categorized as speculative.

On top of that, about 70 oil-producing nations don’t reduce their reserves to account for yearly production. As noted investor Jim Rogers says, “Despite consistently pumping 8 million bpd for over two decades, Saudi Arabia has repeatedly stated their reserves are at 267 billion barrels.”

Organization of Petroleum Exporting Countries (OPEC) member nations even have economic incentives to exaggerate their reserves, as the OPEC quota system allows greater output for countries with bigger reserves.

The reality is this: it’s highly likely we have a lot less than 1,200 billion barrels to burn in the next 30 to 40 years.

And increasing demand could have us running on fumes in an even shorter span.

New Production — a Pipe Dream?

Even though we continue to hear about new oil discoveries, new oil reserves will be harder to find and extract.

Take Kazakhstan, for instance. Its oil fields are slated to be the third largest in the world. The heralded Kashagan field should produce 1.5 million bpd at its peak. But technical problems continue to plague the project.

In 2005, production was scheduled to start in 2009. A year ago that was moved to 2011 and now it’s been pushed back to 2013. And the projected cost has risen to a whopping $50 billion.

Canada’s oil sands are another example. Production could reach 5 million bpd by 2030 in a “crash program,” but the oil contains contaminants such as sulfur and carbon that are difficult to extract and leave highly toxic tailings.

Frankly, the most easy-to-extract oil has been found. Price increases have led to exploration where high technology is required and where it is much more expensive to extract the oil.

We are replacing OPEC oil that costs $3 per barrel to produce with deep-water and other nonconventional sources at $60 per barrel and up.

And that’s why the markets are predicting triple digit oil prices are here to stay.

Four Ways to Play “Oil-Flation”

Here’s a four-prong strategy to help you ride the oil bull market into the future and get your share of the profits.

Lehman Brothers predicts that oil producers will spend a record $369 billion on energy projects this year. With oil prices still in record territory, oil companies are drilling wells in waters previously considered cost-prohibitive. And with President Bush calling for the reopening of offshore drilling, look for the trend to accelerate.

Money Morning Investment Director Keith Fitz-Gerald recommends StatoilHydro ASA, an integrated oil company headquartered in Norway. The company is now the world’s largest energy operator in waters more than 100 meters deep and produces, on average, 1.7 million barrels of oil equivalent per day.

It has proven reserves of more than 6 billion barrels of oil, has operations in 34 countries, and is expanding aggressively to diversify internationally.

You might also look at Transocean Inc., the world’s largest provider of offshore drilling services for oil and gas wells. Its fleet includes ultra-deepwater and harsh environment semisubmersibles, and drill ships.

In November, Transocean merged with GlobalSantaFe, combining the world’s No. 1 and No. 2 offshore drilling companies. The company now owns 138 offshore rigs, twice the number of its nearest competitor.

It also just signed a $1.69 billion agreement with Petrobras, Brazil’s government-sponsored oil company to provide rigs for its newly discovered Tupi field. With over 40 billion barrels in reserves – three times the size of Alaska’s Prudoe Bay field – Tupi could be a bonanza for both companies.

Another way to capitalize is buying companies that outfit drilling rigs with pipe, fittings, and provide oil-exploration and field-management services. National Oilwell Varco is the “picks and shovels” play in the oil services industry, with the lion’s share – over 60% – of the market for rig gear.

The company’s huge product line is found on about 90% of all drilling rigs. It’s been growing revenues at almost 40% for the past three years while increasing earnings per share by a whopping 68%.

And don’t ignore the burgeoning alternative energy field. Both Sens. Obama and McCain are pledging over $150 billion in renewable and alternative energy initiatives during the next decade.

As Fitz-Gerald likes to say, “alternative energy is an alternative no longer.” Vestas Wind Systems (PINK: VWDRY) is the world leader with over 35,000 wind turbines installed in 63 countries. It is the industry leader in wind technology with 23% of the market worldwide, and a full 85% share of the market for turbines with a capacity of 2 megawatts and higher.

Be cautious with this one as its stock is up over 300% in the last 18 months. But with a surging government investment climate in alternative energy in the U.S., the company should continue to benefit.

Source: Four Ways to Fight the “Oil-Flation Epidemic”

NEW HIGHS OF NOTE LAST WEEK

Halliburton (HAL)… oil services
Patterson-UTI (PTEN)… oil services
Carbo Ceramics (CRR)… oil services
Atwood Oceanics (ATW)… oil services
Key Energy Services (KEG)… oil services
National Oilwell Varco (NOV)… oil services
Spectra Energy (SE)… gas pipelines
U.S. Steel (X)… you guessed it
Schnitzer Steel (SCHN)… scrap steel
Fluor (FLR)… infrastructure
Quanta Services (PWR)… infrastructure
Crude oil, Natural gas, Gasoline, Corn, Soybeans, Cocoa

NEW LOWS OF NOTE LAST WEEK

JetBlue (JBLU)… airline
US Airways (LCC)… airline
Continental Airline (CAL)… airline
MGM Mirage (MGM)… casinos
Boyd Gaming (BYD)… casinos
Wynn Resorts (WYNN)… casinos
Las Vegas Sands (LVS)… casinos
Monarch Casinos (MCRI)… casinos
Winnebago (WGO)… RVs
Thor Industries (THO)… RVs
Fleetwood Enterprises (FLE)… RVs
Goodyear Tire (GT)… tires
News Corp (NWS)… media
Hershey (HSY)… candy
Playboy (PLA)… eye candy
American Express (AXP)… credit cards
Capital One Financial (COF)… credit cards
International Gaming (IGT)… gambling machines
Circuit City (CC)… landfill stuffing continues to suffer
Veolia Environnement (VE)… world’s largest water stock
Honeywell (HON)… conglomerate
General Electric (GE)… conglomerate
United Technologies (UTX)… conglomerate
XM Satellite Radio (XMSR)… satellite radio
Legg Mason (LM)… asset management
Callaway Golf (ELY)… golf equipment
Whole Foods (WFMI)… expensive groceries
General Motors (GM)… read the letter from the Chairman
Lead, Nickel

Source: Brian Hunt’s Market Notes Monday, June 30, 2008

To answer those questions we turn to a report published in late March by UBS energy analyst Jon Rigby and his team in London. Their incredibly useful report is called, “Will there be enough production capacity?” UBS has been battered by its huge sub-prime related losses. But their work on where future oil production will actually come from nearly redeems them. They have asked just the right question at the right time, and answered it in detail.

The report reaches a number of surprising conclusions about the global oil market. It also includes a useful database of oil projects scheduled to enter production in the next five years. These are projects which could add meaningful capacity (100kbpd or more) to global oil production. We’ll look at who stands to benefit in a moment. But first, some of the report’s findings [emphasis added is ours]:

• “Declining existing basins, rising costs, increased technical challenges, stretched supply chains, geopolitical blocks and tightening fiscal terms all seem impediments to growing global production capacity for oil and gas, despite the clear pricing signals.
• “There is no obvious wall of new production coming to the market in response to high prices.”
• New projects scheduled to come on-line from National Oil Companies (NOCs) belong mostly to three major firms: Aramco, Petrobras, and Gazprom.
• New project cost is rising and becoming more technologically challenging, especially deep-water.
• “Nominal growth rates tied to global GDP now look more unrealistic as potential upstream growth slows. This appears reasonably consistent with a growing view that oil production may actually not exceed 100Mbbl/d.”

The idea that global oil production may never exceed 100mbbl/d is worth a much closer look. I’ll get to that later. But before we look at the end, let us look at the beginning of the end and where new production might come from as the world’s oil producers try to bridge the gap between 87mbpd and 117mbpd.

The good news is that there IS new production capacity in the pipeline this year and next. Keep in mind that the final investment decision on the projects entering into production this year was made anywhere from 3-6 years ago. That shows you how far in advance you have to plan for new production (assuming you’ve even found oil in the first place).

There is no such thing as just-in-time oil production. But let’s take a look at projects that will come on line between now and 2010. We’ve selected only those projects that will produce more than 200kbp or more:

If you include LNG and the barrels of oil equivalent produced from it, your list expands a little more to include the following projects:

Beyond 2010, the future is murkier. But the UBS team has identified projects for which the final investment decision has been made. Assuming cost blowouts can be avoided and the projects aren’t cancelled, here are some of the bigger projects that could come on-stream between 2011 and 2015:

There are some massive LNG and natural gas projects coming on-stream between 2011 and 2015. Gazprom, Shell, BP, and ExxonMobil all look like big winners, should oil prices stay high and pass through to higher LNG prices.

The new oil finds off-shore in Brazil’s Santos Basin are not included in the UBS report because they are not likely to enter into production during the next five years. They will be difficult to produce in any event. Petrobras says the Tupi find may contain as many as 8 million barrels, while the Carioca field may have 33 billion barrels of reserves, of which about 10 billion could be recoverable, according to Citigroup.

Current Production Trumps Reserves

One UBS claim which may surprise older oil hands is that, “the capacity to produce—not reserves—is critical to energy markets.” UBS does not conclude that current producers should be valued differently that companies with large reserves but current production challenges. But it’s worth thinking about.