$65 oil is coming - maybe (comment on this story)

I read this article 3 weeks back and at that time the oil price was at 115$ and now it's 100$.Here is the excerpt of the article:
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A top analyst expects crude prices to start plummeting. If you don't believe it, you're not the only one, and a few stocks look good if you're in the skeptics' camp

If you're frustrated over the high cost of gasoline at the pump, don't trade in your Hummer for a Vespa just yet: A leading energy analyst is telling clients these days to prepare for crude oil to retreat back below $65 per barrel over the next three years.

How could it happen? He says conservation, new drilling, efficient new vehicles, alternative energy sources, a rising U.S. dollar and a global recession will combine to blast prices back to the Stone Age -- or at least to last year's levels.

"The match has struck, the fuse has been lit, and four or five years from now OPEC producers are going to be drinking their own oil and choking on it," says Tony Kolton, the founder and president of Logical Information Machines, a provider of research to most of the world's major energy-trading companies for two decades.

Plenty of smart analysts disagree with this point of view, figuring that emerging-market demand will pump up fossil-fuel prices and that North Americans will blithely forget all about conservation if gasoline prices trend lower. But since Kolton's view is deeply out of consensus and at least minimally plausible, it does deserve our attention.

Kolton, a specialist in the history, composition and psychology of the energy market, believes that speculators were without question behind the run-up of prices to $147 per barrel in July and that government threats to expose and punish their behaviour spooked them out of their positions in a hurry.

He says his data on open interest of non-commercial positions in crude trading, as well as conversations with professional traders at big oil companies, clearly show that speculators, and not rising demand from Asia, pushed the market to extremes.

In contrast to people who say the oil market is too big to be pushed around by hedge funds, Kolton counters that in fact it is much smaller than the bond, currency or equity markets. The oil market "can be easily manipulated," he says.

The reason for the misconception is that while the market is large in dollar terms, most of the oil companies' hedging positions are pointed the same direction and set for months at a time. So marginal new positions that point the opposite way can have an outsize impact, much like a 5-foot rudder can change the direction of a 500-foot ship.

"I would ask all the fundamental guys why oil was $147 a month ago and $114 today," Kolton says. "Their opinion that crude moves purely on real demand is BS. When the fast money comes out, there's a giant sucking sound."


The swift exit of the fast-money crowd has pushed oil back down to its March level, around $110. Kolton's research on seasonality and demand suggests oil prices will rebound back to the $125 area and then resume their crash. The $100 level will be hard to crack, but he expects energy bears to prevail over bulls within six months and launch crude on a journey below $65.


"You had a perfect storm of pre-Olympics demand in China, a plunging (U.S.) dollar, speculation, cold weather and fear of supply disruptions in Nigeria and Iran pushing it up, and now they've all swung around on a dime," Kolton says, observing that U.S. recession and conservation are gutting demand, Iran is at the negotiating table, the U.S. dollar is soaring against the euro in reaction to the worsening European economy, and the summer has proved milder than normal, sapping the use of air conditioning thoughout North America.


"People who don't trade the futures markets don't realize that this is typical for commodities, which always trade on emotion. Look at silver in the late 1970s, which went from $4 to $50 and back to $4 in two years," Kolton says.


What about all that talk of how supply is running out? Well, it's funny: The spike to $147 seems to have really got people thinking about scarcity, and they've started making plans that could be very long-lasting.


It's sort of like the day a person realizes it's time to stop smoking -- a light-bulb moment of alertness to a long-simmering crisis. Oil bears now think the $147 level was a slap in the face that made major corporate users consider changing their behaviour in persistent and fundamental ways.


Auto companies became focused on creating smaller hybrid cars; individuals are discovering the joys of public transportation, car pools and bicycles; churches are lecturing on the need to turn out the lights in vacant rooms; and American presidential candidates are debating the merits of inflating tires. And perhaps most importantly, going green appears to have emerged from fad to lifestyle as the cool dads now drive Mini Coopers instead of gas-guzzling Suburbans to their kids' soccer practices.


Big private-equity and venture-capital funds, and industrial titans such as General Electric (GE.N), are throwing billions of dollars into creating better batteries, advanced materials and vehicles that run on plug-in electric power and plentiful U.S. natural gas. Meanwhile, oil giants from Brazil to Beijing are exploring for new oil and finding it offshore a lot more easily than expected, with payoffs to come a lot sooner than most skeptics now believe possible.


All of this is coming at a time when a credit drought has seriously impaired economic growth and blunted employment levels in developed nations in Europe and the Americas, and threatens to spread to Australia and much of Asia. When people are commuting and consuming less, and when companies are making less, they collectively use less energy. The U.S. Energy Information Administration reported Tuesday that oil demand during the first half of 2008 fell by an average 800,000 barrels per day compared with the same period a year ago -- the biggest volume decline in 26 years.

Of course, we should probably be careful about what we wish for. While stock prices have risen smartly as energy prices have cracked in the past month, stocks are likely to fall steeply along with oil prices if a global recession is the major driver behind demand destruction. Just in case you're wondering, Kolton's historical and economic research and his gut instincts as a veteran trader lead him to think that the Dow Jones Industrial Average ($US:INDU) will sink to the 9,500 level next year -- retracing the 2003-07 bull market -- before the bear has had its fill.

Opposing point of view? Yeah, I've got that. David Anderson, an energy portfolio manager at Palo Alto Investors, who has been my go-to guy for years on the subject, thinks the idea of crude oil falling below $65 per barrel is ludicrous. And, frankly, he says he doesn't even care when it comes to his energy-industry positions.

"We never base our view on energy-industry stocks on the direction of oil prices," he says. "We are buying growth companies in a growth industry and always have at least a five-year horizon. The fundamentals of the business -- increasing demand and decreasing supply over the long term -- favour higher stock values over time."

Anderson says energy bears are just not facing reality. He points to U.S. Department of Energy research that forecasts global growth in demand rising to at least 110 million barrels of oil per day in a decade from the current level of 85 million. "To get to that level while supply from the best and biggest fields in the Middle East, North Sea and Gulf of Mexico is shrinking will be very tough," he says. "Oil prices are going up to ration supply, short of a total global economic meltdown."

If you want to invest along with Anderson instead of Kolton, here are the large and medium-sized companies he likes best on the recent pullback, with expectations that they will roar back starting in September: Petrohawk Energy (HK.N), Plains Exploration & Production (PXP.N), Chesapeake Energy (CHK.N), Apache (APA.N), Southwestern Energy (SWN.N), EOG Resources (EOG.N) and Range Resources (RRC.N).

Anderson is always good with the small caps, and among his favourites now are Canadian Superior Energy (SNG.TO), Arena Resources (ARD.N) and Gastar Exploration (GST.N).

With any luck, Kolton and Anderson can both be right. These energy companies were going to be very profitable with $75 crude oil a year ago, so they must be minting money now. Short of an expectation for the lights to go out worldwide over the next year, consider buying at these levels, while the pessimism lasts.

Note: At the time of publication, Jon Markman did not own or control shares of any company mentioned in this column.

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