Be long oil E&P stocks

Three back of the envelope fundamental reasons to be long oil E&P stocks.

1. OPEC cuts are more than enough to offset declining demand by the most bearish estimates (and that is assuming less than full compliance).

The International Energy Agency (IEA) forecasts global crude oil demand to decline approximately 2.56 million barrels per day to 83.2 million barrels of crude oil per day. This happens to be the most bearish of the estimates between the major demand forecasters.

Obviously at first glance this is bearish news since reductions in demand are not typically bullish for price action. However, OPEC has taken action to effectively offset this reduced demand via production cuts. OPEC has a quota cut of 4.2 MMB/D. Of course, not all members of OPEC are 100% compliant with this production quota. In fact as of last month there was really only 76% compliance among OPEC members.

While it may appear that 24% is a significant amount of cheating, at a near record OPEC compliance of 76% or 3.2 MMB/D of production cuts, the production cuts more than offset the most bearish forecast for demand decline at 2.56 million barrels per day. This obviously doesn’t mean that supply will run short overnight. What it means is that over time the world will begin to draw inventories down and before you know it we will be in a supply crunch again.

2. The weak dollar doctrine will fuel commodity inflation in the United States

Well, it is official the U.S. is taking a 60% stake in General Motors (GM). It is all over the news headlines and will likely remain there for the next several weeks. It seems clear the Obama administration will do whatever it takes to promote their set of ideals which includes destroying the fiat currency of the world.

Interestingly enough, it is perfectly logical for Obama to follow a weak dollar policy doctrine. Why would I suggest that? The vast majority of politicians currently in power in this country are absolutely terrible people. They won’t stop at anything to gain votes and Obama is certainly not above that. Hence, the UAW gets a substantially larger stake in GM than the bondholders.

But back on point…if you are an extremely liberal President who seems to legitimately prescribe to socialism as an economic system…and you want to change the system in the United States to support your particular ideology…what would you do?

Beyond directly taking over the means of production, he is actually doing that…you destroy the value of your currency! Why would you do that? Because as the USD collapses goods produced in the United States appear more attractive, in terms of cost, for export.

Thus, by destroying the value of the U.S. dollar, Obama will effectively help promote blue collar unionized workers which effectively will keep the far left wing liberal members of the Democratic Party in office. The weak dollar doctrine will have unintended consequences…

So, for the last couple of years the USD and commodities (namely crude oil) have had a rather strong negative correlation such that when the USD falls in value relative to a basket of currencies, crude oil and commodities tend to rise in value. Effectively, with Obama’s weak dollar doctrine he is pursing policy that will directly lead to commodity price inflation.

Oil prices have been on a tear recently-some of the appreciation can be attributed to the deteriorating U.S. dollar and I believe this will be a multi year trend until the policy of the U.S. government changes.

3. Demand is stabilizing for some consumer fuels. Global demand growth will set in.

Economic data in certain areas of the globe are showing signs of a rebound. China is of course a huge driver of this and will likely continue to be a huge driver. The ripples of Chinese growth will be felt in many other places.

Of most interest to me are countries within South America such as Chile or Brazil. As China applies their stimulus money efficiently, they will begin meaningful expansion or at the very least they will meet their estimated required growth rate to maintain civil order. This will most definitely support surrounding Asian nations such as Taiwan and Malaysia (namely Singapore).

All of this leads to higher commodity consumption via bunker fuel and other petroleum products.

Disclosure: Long PCU, VALE,