Inflation, a lack of production growth, and a weaker dollar will create justification for rising prices. Frontier Oil (NYSE:FTO) is worth a look.

Oil is slowly regaining the attention of savvy investors. After dropping into profit-erasing territory just two months ago, the value of the world’s most valuable fuel source is slowly and quietly on the rise. Investors watching the action are getting in on some great trading opportunities.

Frontier Oil (NYSE:FTO), with a market cap of just under $1.5 billion, is considered a small fry in an industry dominated by behemoths. But that does not mean it does not offer a huge profit opportunity.

As inflationary fears rise, the nation’s economy returns to growth and the government does its best to bump up the price of any pollution-emitting fuel source, companies like Frontier will see their share prices grow.

Read the full article here at TFN: Frontier Oil: Buy low, sell high

Schlumberger is pulling back as a collapse in petroleum prices led to a sharp drop in exploration spending by its customers.

Commodity prices have plummeted in recent months, as recessions in some of the world’s largest economies dampened demand. Like all oil producers, Schlumberger has been hurt by the plunge in the price of oil, which has fallen from $147 per barrel in July to about $42 per barrel now. The company has also seen its budget for exploration cut by 40%.

Schlumberger reported net profit of $1.15 billion, or 95 cents per share, down from $1.38 billion, or $1.12 per share, although revenue rose nearly 10% to $6.87 billion.

Schlumberger Chief Executive Officer Andrew Gould told investors on a conference call that the company was cutting 5,000 jobs out of 87,000 worldwide, and did not rule out more cuts in the first half of 2009, if necessary.

“It is a good sign that they’re coming front and center and acknowledging things have gotten a lot worse,” Mark Brown, an analyst at Pritchard Capital Partners in New York, told Bloomberg News. “We had to get this negative news out there.”

Schlumberger’s results echoed the sentiment of energy analysts who have forecast spending by oil and gas producers would drop by one-fifth or more in 2009 as companies move to conserve cash.

Spending by companies around the world on oil and natural gas exploration will fall to $400 billion in 2009, according to a Dec. 19 report by analysts James Crandell and James West of Barclays Capital Research.

The biggest decline in exploration spending is expected to come in North America, where U.S. spending will fall 26% to $79 billion and Canadian spending will slide 23% to $22 billion, Barclays said. By contrast, capital spending outside North America will fall only 6% to $300 billion.

“At current prices, most of the new categories of hydrocarbon resources are not economic to develop,” Gould said in the statement. “We expect 2009 activity to weaken across the board with the most significant declines occurring in North American gas drilling, Russian oil production enhancement and in mature offshore basins.”

Russia is part of Schlumberger’s largest regional market, which includes Europe and Africa.

In Canada, big producers like EnCana Corp. (ECA), Canadian Natural Resources and Husky Energy Inc. (PINK: HUSKF) have cut 25% to 30% from their capital budgets, according to Gary Leach, president of the Small Explorers and Producers Association of Canada.

“Right now it’s way cheaper to buy gas and oil on the market than to go drill for it,” Leach told the Calgary Herald.
But all those spending cuts may soon lead to a significant rebound in prices, Gould said.

Despite heavy spending by producers to develop new resources in recent years, the supply situation is still depressed and the cuts in investments hitting the industry now will “sow the seeds of strong rebound,” Gould said.

That seemed to be reflected in at least one of Schlumberger’s units.

Even though it posted a 68% drop in profit and a 25% drop in revenue in the quarter, Schlumberger’s WesternGeco seismic business – which measures prospective oil and gas reservoirs – is sitting on a record $1.77 billion order backlog.

And the gloomy earnings report from Schlumberger did nothing to dispel the notion among investors that oil prices will move higher.

“The fact that because this wasn’t the quarter that was prophesying the end of the world, it’s causing people to rethink their pessimism,” Bill Herbert an analyst at Simmons & Co. in Houstonsaid told Bloomberg. Indeed, oil services stocks rebounded in trading Friday.

Source: Schlumberger Sees End in Sight for Slumping Oil Prices

But have no fear.

It’s not too late to grab a piece of the pie.

The trick is that you’ll have to look beyond the obvious choices like major oil companies, drillers and other sectors that are hopelessly bid up right now. And you can play various types of funds, as well as stocks, as we’ll demonstrate.

The Four Factors Giving Life to the Commodity Bull

But before we tackle the how, let’s tackle the why:

• First, it’s important to understand that high oil prices are simply going to go higher, still. There will be inevitable pullbacks, but as we’ve written so many times in the past, the math is very simple – people are simply using more oil than at any time in history and worldwide demand is accelerating.

• Second, it’s also important to note that we haven’t had a major new discovery of any substantial size in the last 30 years. And by substantial, we mean big enough to change the balance of supply and demand and, by implication, to reverse the runaway increase in prices. The lack of any new discoveries, then, also points to higher prices.

• Third, absent an immediate, cost-effective and widely available substitute, oil is increasingly nationalistic in nature. This means that oil producers – and particularly the tyrants with spigots – will begin holding back production for their own use. That will reduce the supply available on world markets, further enhancing the upward pricing pressure.

• And fourth, while higher prices are finally inducing some drivers in modern industrialized countries to drive less, developing nations don’t give damn about conservation and are guzzling gasoline like there’s no tomorrow – which, for them, is entirely true. For these nations, access to energy and to petroleum is the literal equivalent to survival and they’ll do everything they can to ensure it. So any drop in demand we’re experiencing is almost immediately offset by higher consumption in such markets as China, India and many parts of South America. And that offsetting consumption may well persist for years.

That’s a very painful reality to face. But it does bring us to the fun part of this commentary: The profits.

New Markets = New Profit Opportunities

Any time you have sustained supply-and-demand imbalances, you also the potential for huge profits. And what’s happening now is no different.

Viewed in that light, higher oil prices can actually be a good thing for the stock markets, just as the rising price of such “commodities” as gold, copper, cotton, silk and spices have been for various nations since the dawn of time.

The reason is that excess profits that would ordinarily flow to Caracas, Moscow and Riyadh, are being recycled into the best global stocks on the best first-tier global stock exchanges, including the New York Stock Exchange, the Tokyo and Hong Kong stock exchanges, and the Frankfurt, Euronext and London exchanges.

But that may be coming to a head as trillions of dollars are chasing a diminishing number of high-quality stocks, which over time will propel those shares to excessively high valuation levels.

So what’s an investor to do? Savvy investors will once again have to go with the (global money) flow, ferreting out markets that haven’t yet hit “mainstream” radar screens, but that still are likely to benefit from rising oil prices.

We refer to them as “frontier” markets and they include such mineral- and resource-rich places as Nigeria, Sudan, Egypt and Bangladesh among others. They’re obviously beyond the same old BRIC choices that have become so popular in recent years.

Most of these markets are so small that many investors overlook them altogether – but they’ll soon become very popular because of the tremendous upside they offer.

Even with political upheaval, hyperinflation, open warfare and catastrophic human and natural disasters, frontier markets are piling on stunning returns. Most are benefiting significantly from rising commodity prices that, in turn, produce higher corporate profits.

As a case in point, consider the Standard & Poor’s/IFCG Frontier Markets Composite Index posted a mouth watering 43.3% return last year. And individual markets did even better. Bangladesh turned in 128.3% while Cote d’Ivoire nailed down a 122.7% gain. The index’s worst performer, Estonia, plunged -14.2%.

Clearly with a range like that, so-called frontier markets aren’t for everybody especially since they’ve gotten so expensive as more money has flowed into them. Data shows that many are trading at Price/Earnings (P/E) ratios that range from a high of nearly 100 for Vietnam to a “mere” 35.9 in Slovenia.

Still, even at these valuations, we can make the case that higher commodity prices will allow these markets to grow for years to come – especially given that they are starting from such a small base.

Which makes them a logical choice for adventurous investors who want to get in before they become hot on the country club cocktail circuit.

“We’re seeing the bout of profit-taking that everyone has been waiting on,” said Neal Ryan, manager at Ryan Oil & Gas Partners, after crude concluded a 4-day run that had taken it up by 7%.

“Just looking at the volatile price action today, it’s pretty evident that the market is being driven up and down by the traders waiting on some news to hit the tape,” Ryan added.

Meanwhile, the International Energy Agency is getting ready to issue a sharp downward revision of its oil-supply forecast, according to a Wall Street Journal report. The IEA is assessing the condition of the world’s top 400 oil fields, and will reportedly say in November that future crude supplies could be far tighter than previously thought.

And, in one of the more bonehead political moves of late, the House of Representatives approved legislation, by a veto-proof majority, allowing the Justice Department to sue OPEC members for limiting oil supplies and working together to set crude prices. The bill would attempt to subject OPEC oil producers, including Saudi Arabia, Iran and Venezuela, to the same antitrust laws that U.S. companies must follow.

Getting it right for once, the White House opposes the measure, saying that targeting OPEC investment in the United States as a source for damage awards “would likely spur retaliatory action against American interests in those countries and lead to a reduction in oil available to U.S. refiners.” $200 oil anyone?

Source: Crude Finally Pulls Back

But if you must know, global demand is outpacing supply – though not by much. Only a couple of million barrels a day prevents supply from keeping up with demand, but that’s enough to push the price of crude to record prices.

Ah, life must be good in the oil patch. Companies are making record or near-record profits. Don’t look now but the good times may be coming to an end for the miners of black gold.

We’ve already addressed in an earlier article the number one problem of oil companies: raising production. It’s a losing battle. The best fields are past their prime. Once they’re gone, they’re replaced with smaller fields with harder-to-get oil.

It’s like the Boomer generation looking for the fountain of youth. Boomers can slow down the decline here and there. But the fall from grace is inevitable. Oil producers face the same predicament. They can only see maximum rates of oil production in the rear view mirror.

So, what does the other side of oil production look like? It could be worse. So far, falling production plus soaring prices have brought oil companies huge profits.

The oil companies know they’re thriving on borrowed time. And they’re trying to do something about it. Ideally, they’d like to raise production. But at the very least they’d like to find a way to slow the fall of crude output.

To do so, they’re going after oil that a decade ago was beyond their reach. It lies thousands of feet underneath the oceans of the world.

This is new territory for the oil companies. It’s much too early for the oil companies to have a firm idea of what their costs will be. And while they’re pretty sure they have the technology to get to this oil, they’re still not sure how these technologies will work together.

Here’s a snippet of an earnings call by an offshore drilling contractor I caught last week on this very subject.

Analyst
“… the issue associated with the debate out there of drill ships versus semis, is the 8500 series equipment capable of something like offshore Brazil, would there be modifications required? Is there deck load issues? Just expand on the pros and cons and how much more opportunity when people debate this drill ship versus semi?”

Jeff Saile - SVP Operations
“Why don’t you ask a hard question, Pierre. Certainly we can work offshore Brazil. I don’t know if — I think there’s, a lot of that’s to be understood in the future. I certainly think the 8500 can get in there and compete. I don’t think it’s going to compete with a drill ship. It’s going to come in behind these ships when they do some of this. Some of these ships are going to do advanced exploration … the 8500 is certainly equipped to drill. It can drill in 10,000 feet of water. We’re going to have to do minor modifications to it. We’re reviewing that now. It can certainly drill in deeper water. And we can get out there with the equipment on them and drill these ultra deep wells, as well.”

The semi’s they refer to are semisubmersible rigs. They’re floating offshore drilling units with pontoons and columns. They can be anchored to the sea bottom with mooring chains or dynamically positioned by computer-controlled propellers or “thrusters.”

It’s not just the desperate oil majors who are willing to wade into these tricky deep waters. State-controlled oil companies see these basins as their next big money maker.

Deep-sea drilling is the next frontier. And these semis will help make it happen.

They have plenty of drilling to do … in the 30 billion barrel (from early estimates) Tupi basin off of Brazil … to Chevron’s estimated 15 billion barrel discovery in the Gulf of Mexico … to China’s recently discovered offshore field containing perhaps 2.2 billion barrels .. plus others.

These are major reservoirs. If the preliminarily estimated numbers hold up, Brazil’s Tupi would be the third largest underwater oil find ever.

But there’s a fly in the ointment in all of this … costs.

As I said, it’s too early to get a firm handle on costs. But I’ll tell you this much right now. It won’t be cheap.

And it’s getting more expensive all the time.

Petrobras (from Brazil) is hogging the word’s deepwater rigs and singlehandedly causing a shortage of these sought-after rigs. There are only 21 of them in the world. Petrobras is negotiating to lease 17 on top of what it already has to help explore its Tupi basin and nearby fields.

As a result, these rigs are going way up in price. BP leased one for $480,000 per day at the beginning of the year. Now, they’re going for as much as $600,000.

Shallow offshore drilling is also becoming much more expensive. For example, the company in the excerpt above said its jackup rates (jackup rigs operate in waters of 400 feet or less) in Asia went up 5 percent in the first quarter this year (compared to the fourth quarter of 2007).

Now, we may not be dealing with a bunch of Einsteins at the head of these oil majors, but they’re not dopes either. They understand what’s going on. So, why is it that when ExxonMobil, Royal Dutch Shell, BP, and ConocoPhillips all reported in the last two weeks, each and every one of them said the same thing.

Profits are up on price increases. And volume is flat. Let me repeat that. VOLUME IS FLAT. What the heck is going on?

Take these companies with market cap’s of several hundred billion dollars … the latest drilling technologies … thousands of acres … billions of barrels of proven reserves … tens of billions more of unproven reserves – add it all up and they can’t produce more oil this quarter than they did last quarter or the quarter before?

Have these companies gone OPEC on us?

I mean, we know that OPEC keeps production just low enough to keep prices high. But they only provide about 40% of the world’s oil.

What’s the excuse for these private oil majors? Have they also found it in their interests to keep a lid on production? (This wouldn’t be the first time we’ve seen a manufactured shortage to hike prices.)

I almost wish there were an unholy conspiracy between OPEC and the other oil producers. If there were such a thing, it might mean with a little arm-twisting, we could get non-OPEC producers to push up production.

But, alas, there is no conspiracy.

There is something else … something much more ominous…If we were talking about food, I’d say there’s a worldwide famine brewing. But it’s oil, which isn’t quite as brutal as a famine. People have to eat. But do they have to drive?

No. But a worldwide shortage of oil is knocking on the door. Right now, supplies are tight. But they are more or less in balance … with admittedly no excess capacity to spare. It’s not going to last. Global oil demand is about to leave oil supply in the dust.

Shell’s production fell six percent year-on-year. BP’s fell two percent. ExxonMobil’s fell 10 percent. According to Credit Suisse, overall production will fall two percent this year from last. I believe that underestimates the slide.

And while OPEC – being OPEC – has no quarrel with the soaring price of oil, the fact is, even OPEC countries (except for Saudi Arabia) can’t produce more than what they are now.

Saudi Arabia is producing 12.5 million bpd (barrels per day). It has plans to increase that amount to 15 million. Or should I say “had” plans. The Saudi government has put those expansion plans on hold. It doesn’t want to take the risk of expanding into the teeth of a global recession.

OPEC as a whole plans to increase oil production by five million bpd. That won’t be enough. Global demand should increase by 11.5 million bpd by 2030.

Russia came to our rescue in 1999 when it finally opened up its fields to Western participation. Russian production rose by four million bpd from 1996 to last year. During the same period, Saudi Arabia’s production increased by 600,000 bpd.

Can any of the non-OPEC countries come to our rescue once again? Russia won’t. It’s too busy renationalizing its oil and gas industry.

Mexico? Nope. Their Cantarell field is getting long in the tooth.

England? Norway? No, their North Sea production is winding down.

Venezuela? Don’t make me laugh. Mr. Hugo Chavez is more intent on using his petro-profits as a tool of foreign policy, not plowing them back into oil production to help lower oil prices for the U.S. and its friends.

And the oil majors can’t help us because they can’t help themselves. Every time they think they’re getting access to a big field bursting with oil, something happens. Expropriation … terrorist acts … renationalization…

Q: Why are oil prices so high? – M.

A: I can tell you the answer, M, but I don’t think everyone is ready to hear it. Let’s just keep this between us, okay? The truth is a lot like finding out the Earth isn’t flat (it’s not) or the sun doesn’t rotate around the Earth (it doesn’t).

Take a look at this chart:

This chart shows the price of crude measured against the money supply. What it means is the price of crude oil hasn’t increased all that much… It’s just kept pace with the supply of dollars trying to buy that crude. (Click here to read more about this chart.)

So that’s why oil prices have climbed. But why haven’t they fallen back as the U.S. economic slowdown puts a damper on demand? CNN, Fox, CNBC, and all the talking heads assured us demand in other countries would dry up as the U.S. slipped into recession.

Well, I’m afraid the U.S. isn’t the center of the economic universe anymore… and we’ve got a lot of competition.

Back in the 1930s, the U.S. was a country of small towns separated by vast farmlands. Tiny, unreliable roads were the only link between those towns.

That’s where India and China are today. However, they don’t want to stay that way. They want to progress from poor agrarian societies to modern (dare I say more Western) societies. Unfortunately, they aren’t patient. They want it right now.

That means huge infrastructure projects – new power stations, railroads, power lines, water systems, and sewer lines. All that development requires raw commodities like iron, copper, gas… and oil.

As these countries grow, transportation demand grows as well. That requires more gasoline for cars, diesel for trucks, kerosene for jets, and bunker fuel for ships. Along with transportation comes electrification, which requires more natural gas for electrical power.

It all adds up to serious competition for oil and gas on a world stage.

It doesn’t look like the Fed is going to stop the printing presses anytime soon. So don’t expect to see $40 oil again. Add in exploding international demand, and prices are set to climb into the foreseeable future. In the meantime, the U.S. needs to decide where the next 100 years of oil are going to come from and focus on making deals… because that’s what China and India are doing right now.

As I’ve written before, I think Canada will likely be our “gas station” for decades. Already, billions of dollars are pouring into Alberta’s vast oil sands. But I think the big story is another huge deposit most investors haven’t heard of. Click here to read the full story.

Q: Why can’t Americans buy our own oil for less than the OPEC price? – D.C. Cab Driver

A: This question needs some explaining before I answer it. I caught a cab from my hotel to Reagan International Airport yesterday morning. On the radio, some blockhead proposed that our domestic crude production should be sold at a radical discount to world prices.

His hypothesis was that domestic oil belongs to all of us, and it should be used to lower fuel prices. My cabbie was nodding as if this knucklehead on the radio just told us the secret of life.

Let’s think about how markets work. If you make something and can sell it in Italy for a $50 profit or down the street for a $10 profit, where are you going to sell it?

But if your neighborhood demands that, since you live close by, you must sell your goods at an 80% discount… that would be extortion. You’d call the cops, right?

If the government demanded U.S. oil be sold at a massive discount to domestic markets, oil producers would stop investing in the U.S. And we’d end up buying all of our oil abroad.

So the answer to higher oil prices is the one thing Americans are terrible at: dieting.

If you don’t want to pay high oil prices, go on an oil diet. I’m thinking about doing it myself. We bought a big Ford when we had our second daughter. While we like the room, we don’t need it. And when it costs $60 to $70 a week in gas, we really don’t need it.

I’m not going to sell my Ford out of a misplaced sense of environmental angst. I’m going to sell it because gas is expensive. I’d rather spend that money on something else… like oil company stock.

Good investing,

Matt

Editor’s Note: Got a question about the commodities market? Send us an e-mail at editorialfeedback@growthstockwire.com… and look for an answer next week!

International oil majors now control a mere 6% of oil and 20% of gas reserves, according to the report. The rest is in the hands of national oil companies.

The unpalatable reality is that national producers such as Venezuela or Russia today have less need of international oil majors to help them develop their untapped reserves.

“There’s an air of panic about the world’s energy-guzzling nations,” says Manraaj Singh

“Russian oil production, the world’s second biggest, has peaked. It may never return to current levels.

“Leonid Fedun, 52, vice-president of Lukoil, Russia’s largest independent oil company, told the FT he believed last year’s Russian oil production of about 10 million barrels per day was the highest he would see “in his lifetime”.

“It’s fueling concerns that the world’s biggest oil producers cannot keep up with rampant Asian demand.

Oil prices are going to keep on rising, says Black Bear of the Secret Order of Jurojin, regardless of who is in control of reserves.

“People have been asking me if it’s too late to buy oil. Heck no, not if you think oil is going to $140 or $150 per barrel this year — and I do. But there’s a better bargain in energy, which I recommended that Secret Order of Jurojin subscribers buy this week: natural gas.”

“You can play natural gas with one of the natural gas ETFs, or with an undervalued natural gas producer. Or, you can go for the leverage of futures and futures options on natural gas. Be sure that any trade fits your risk profile, and run ideas past your investment advisor.”

While the recent decline is somewhat steeper than the five 20% -30% corrections experienced since 2001 (when the current bull market in oil began), I feel that this pullback no more signals the arrival of a bear market than any of those previous dips.

While the current pullback may be more substantial and longer lasting than prior corrections, the long-term up trend remains intact. In fact, a drop to around $47 would put the market right onto its long-term trend line. While the momentum may well cause oil prices to test this trend-line, I’m convinced that it will hold.

Remember, more so than at any other time in the past, short-term market movements are being driven by the more than 9,000 hedge funds, many of which have highly leveraged positions in the oil markets. Clearly many momentum players are closing their long position, while others are initiating new short positions. This type of speculative trading exaggerates the severity of corrections, but is also sows the seeds for an equally dramatic rally.

Leverage is a two-edged sword. When real physical demand finally turns the market, those shorting into this decline will be forced to cover. Finding few real sellers at these depressed prices, this added demand will send prices sharply higher.

In addition, these sharp price declines do a lot more then shake out weak longs and sucker in the shorts; they create a stronger foundation upon which much higher prices can ultimately be built. First, fearful that a return to sub $30 prices will eviscerate return assumptions, oil producers will become increasingly reluctant to undertake costly exploration and development projects. Second, lower oil prices will discourage investment in alternative energy sources. And last, the anticipation of lower prices will discourage consumers from using alternative fuel sources, investing in fuel saving devices, or purchasing more fuel efficient vehicles. The result is that future demand will be higher and future supply will be lower.

One of the reasons behind the sudden change of psychology has been the unseasonably mild winter in the Northeast (On the first Saturday in January, my son and I ran barefoot on a crowded beach in Greenwich, Connecticut). No doubt there were several oil traders who enjoyed the 70 degree weather with us and who used it as an excuse to sell. Given the fixation on the weather, I would not be surprised if the NYMEX were to set up a live video feed in Punxsutawney, PA on Groundhog Day (February 2) so that traders could ascertain if Phil sees his shadow. In any event, much of this sentiment is likely to dissipate when real winter weather finally arrives.

Of course the disproportioned impact that U.S. demand has on global oil prices will fade as the dollar continues to fall. By making oil much more expensive for Americans while simultaneously making it much cheaper for everyone else, a dollar collapse will dramatically reduce demand in America while increasing it abroad. As Americans are increasingly priced out of the global oil market, our local weather patterns will be far less relevant in determining prices. Sorry Phil.

Source: How Low Can Oil Prices Go?