Carbon tax: a sign that oil prices will stay lower for longer

The federal government of Canada plans to impose a national carbon tax on any province that refuses to establish one on their own. They argue that putting a price on carbon will give people and companies an incentive to look for lower emission options to save money.

In reality, Canada is the second largest country in the world, just ahead of the United States and behind Russia However, our population is one-tenth the size of our largest trading partner, the United States and one-quarter the size of Russia. I estimate that 75% of Canadians live in rural areas where driving is a necessity and switching to electric heating or electric cars is way too expensive.

At the Golden Globe Awards, Meryl Streep called Canadian actors nice. I would like to add that we, as a nation, are dumb when it comes to energy. Refineries in Eastern Canada are spending billions to purchase about 700,000 barrels a day of foreign oil to meet customer needs while 3 million barrels of Western Canadian oil is sold to the United States at a discount due to lack of pipeline capacity between producing fields in Western Canada and refineries in the East.

Our governments rely on tax revenues from the oil and gas industry which are down with the price of oil. In truth, this carbon tax has nothing to do with lowering emissions but just another tax grab. This is a clear sign that the government believes a rebound in the price of oil is many years away.

The Canadian economy is fragile and the last thing it needs is yet another tax. The potential costs for the average Canadian family by 2022 is up to $2,569 per year. The carbon tax will also increase the price of food and clothing. It will mean lost jobs and make Canadian businesses less competitive.

Lack of pipelines makes me bearish on the Canadian oil patch

  1. It will take years to build the Keystone XL pipeline even if approved by Trump. Plus there will be a massive backlash, both on the ground and in the courts that could tie this project up for many more years.
  2. Prime Minister Justin Trudeau gave the green light to Kinder Morgan’s Trans Mountain pipeline expansion but I expect protestors will also delay this project.
  3. The Line 3 Replacement Program was also approved and is the largest project in Enbridge’s history. The anticipated in-service date for this project is 2019, pending U.S. regulatory approvals.

Additional reasons to be bearish on Canadian oil stocks

  1. Most Canadian oil companies are still losing money
  2. The profitable ones have very high price to earnings ratios (CNQ – EPS for 2017 is $1.04 or 39 times earnings and SU is 27 times earnings for 2017)
  3. Shipping oil by rail is way more expensive than by pipeline
  4. The biggest risk to the Canadian oil patch is Trump! He could put a 20% border tax on imported oil.

Foreign oil stocks that I own for yield

I bought some Royal Dutch Shell (RDS.A) for it’s 6.8% yield in my wife’s retirement account. The dividend is exempt from U.S. withholding tax because it is in a retirement account. Converting the U.S. dividend to Canadian dollars gives me a current yield of 6.8% times 1.32 or 8.98% which is much higher than owning bonds. Plus I can sell covered call options that could boost my returns by 5% or to protect against a fall in oil prices.

I also own Alerian MLP ETF (AMPL) which is a energy partners ETF with a 8% U.S. dollar yield. It has a 10.5% yield in Canadian dollars but does has a high management fee of 0.85%, still better than owning bonds. There are higher yielding limited partnerships but they carry more risk than owning an ETF.

U.S. Shale producers are on my watch list

The majority of these producers are still losing money. At the top of my watch list is Marathon oil (MRO) which is currently trading at $17. 45 but has a book value of $27.40. Their losses have been decreasing and the earnings estimates for a fourth quarter is for a loss of 15 cents a share. I am waiting for Marathon to release their results on Feb 15 to confirm that they are lessening their losses and that their revenue is increasing before I invest.

What oil stocks do you own and why?

Disclaimer: Please do your own research or consult with a qualified financial advisor.

 

 

 

 

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Another suckers rally in oil stocks?

opec

Over the past year there has been a lot of talk regarding the possibility of OPEC either freezing or cutting production. The Organization of the Petroleum Exporting Countries (OPEC) on Wednesday agreed to its first oil production limits in eight years, triggering an oil rally. The new norm for crude prices could be between $50 and $60 going forward.

OPEC has said it is seeking to secure 600,000 barrels per day of cuts from non-OPEC producers, and that Russia has committed to temporarily cut production by about 300,000 barrels per day in the first half of 2017. Russia and other non-OPEC producers are set to meet with OPEC on Dec. 9.

The key to all of this is whether these cuts will be implemented. Plus market watchers are also questioning whether the oil group will cheat. The sharp oil-price rally may well be short-lived, as oil production has been turning the corner in the U.S., with the rig count up 50 percent from lows in May.

Extracting oil from the Permian Basin, which spans west Texas and southeast New Mexico, is less expensive than it is in many major fields.

“Basically, $50 is good for Permian Basin stocks,” said Paul Sankey, senior oil and gas analyst at Wolfe Research. Pioneer Natural Resources and EOG Resources expanded their presence in the region in the last few months, and Sankey said the two companies would also benefit from $50 oil.”

In Conoco Phillips’ third-quarter conference call, management said the company was adding three rigs to its operations in the North Dakota Bakken oil fields for a total of four rigs in the region.

“The Trump Wild Card”

Cutting corporate income taxes will make U.S. shale producers more profitable and they could have extra cash to produce more oil. Less banking regulations could also allow more bank loans to the energy industry. Could Trump impose tariffs on imported oil? He is after all unpredictable!

The oil futures market has quotes for monthly contracts that are being offered at $53.00 for the first quarter of 2017 and $55 for the rest of the year. The trading volumes of contracts changing hands is very low which could be a bullish sign that oil producers believe that higher prices are coming.

Now over the last two years, I have avoided investing in oil stocks and posted many articles regarding the oversupply problem. I am currently doing research on some U.S. shale oil producers. Unfortunately, the fundamentals haven’t changed and most companies are still losing money at current oil prices.

What do you think?

Is this another suckers rally because hedge funds are rushing in to cover their short positions or is this the start of a bull market in the oil patch?

 

 

 

 

 

The Trump Rally: Buy on rumor, Sell on news?

trump-stocks526

Never in a million years did I think that Trump would not only win the election but that the stock market would rally afterwards. It proves once again how difficult it is to time the stock market.

Trump’s promise of a big stimulus package, tax cuts and less regulation has boosted the dollar and triggered a selloff in the bond market. The “Trump trade” has become the reflation trade with investors buying cyclical stocks and selling bonds. Financials have benefited as well as industrials.

The markets have rallied assuming that Donald Trump is pro-growth. However, he was also the same guy who talked about tariffs and tearing up trade deals, things that are anti-growth. The stock market is currently ignoring the negative side of Trump’s campaign promises.

Now, I’m not convinced it’s a one-way street. Under the surface, the trend has certainly changed. Whatever you thought about stocks before the election, you have to like them a little more and whatever you thought about bonds, you have to like them a little less.

Could this be the start of the “Great Rotation’” out of bonds into stocks?

Almost $2 trillion has been wiped off the value of global bonds since Trump was elected as the next U.S. president, sparking a reassessment of growth and inflation views.

JP Morgan notes that over the past week, a record inflow into U.S. equity exchange traded funds (ETFs) was accompanied by a record outflow from bond ETFs.

Within equity markets,  a sharp rotation out of so-called “bond proxies”, dividend-paying sectors such as utilities, telecoms and healthcare which were favored by investors for their yield and a move into more cyclical sectors such as banks, industrials and some commodities-related sectors is already underway.

Before you jump on the bandwagon, there’s a flood of economic data in the week ahead

  1. update to third-quarter GDP on Tuesday
  2. OPEC meets on Wednesday and it will decide whether to curb output
  3. Thursday is ISM manufacturing data and November auto sales
  4. jobs report on Friday expected to show 175,000 nonfarm payrolls

Now, the bond market has already priced in expectations that the Fed is on track to raise interest rates Dec. 14 by a quarter point. Next week’s economic data will be evaluated to determine future rate hikes for 2017. If inflation expectations are overhauled than so are perceptions about the rate outlook. Money markets are starting to price in one or more Federal Reserve rate hikes for next year.

Good economic numbers could cause a further selloff in the bond market next week which would be positive for U.S. stock markets. Plus many active fund managers have underperformed their benchmarks, there could be some performance chasing until year end.

Unfortunately, President Elect Trump is unpredictable and somewhat scary. If he shuts the borders because the anti-trade Trump comes out, we’ll have a recession and the market will go down. If that side stays quiet and he manages to convince congress to cuts taxes, it could be up a lot.

My gut tells me that we could be in over bought territory and that we could see some market consolidation. My fear is that Janet Yellen could spark a stock market selloff like she did in December 2015 when she indicated the possibility of 4 rate hikes for 2016 which didn’t materialize.

Are you buying into the Trump rally or are you a seller?

 

 

 

USO ETF is down this year even as crude has surged

uso

Did you predict that oil prices would bounce in 2016? Nice call! Did you attempt to cash in by buying the biggest oil ETF? That’s where you went wrong. Oil prices have risen about 25 percent this year. But the USO ETF, which promises exposure to oil prices, has fallen more than 5 percent.

At the root of the USO’s trouble is the simple fact that oil set to be delivered in different months and trade at different prices. For instance, October oil trades at $44.59, November at $45.16, December at $45.79, January at $46.36, and oil to be delivered in December 2017 at $49.76. This array of prices forms the futures curve, and with each month’s oil trading at higher prices, the market is said to be in “contango.”

The way the USO endeavors to track oil is by continually holding the most relevant futures contract. The one tracking oil set to be delivered in the following month (until the contract is within two weeks of expiration). The problem comes when a contract’s expiration is near and the USO shifts to tracking the following month’s futures. At that point, the fund’s managers must sell its massive holding of the nearer-dated contract and buy about the same amount of the further-dated contract.

Since the further-dated contracts trade at higher prices, holders of the USO are selling low and buying high every single month. Meanwhile, oil producers are selling their oil in the futures market for higher prices giving oil prices a boost while the USO ETF takes a hit.

This explanation of the USO’s poor performance is likely cold comfort to those who have done so badly on a trade they may have thought was a home run. With a current market value of more than $3 billion, it may be a fair bet that many investors in this ETF had no idea that they would be so hurt by the structure of the futures market.

Retail investors who invested in the XLE (ETF) which contains the oil produces, drillers and refiners did quite well. Even the midstream master limited partnerships like Alerian MLP would have been a better choice. It is has a dividend yield of 11 percent.

Full disclosure I own some shares in Alerian in my retirement account.

 

Is Globalization or is Technology destroying more jobs?

trump

Could last Friday’s weak U.S. job numbers help make this man president of the United States?

Many Americans believe that China and Mexico are responsible for their job losses. There is no doubt that some industries like apparel & electronics require cheap labor costs and companies have moved production overseas. I also believe that the majority of illegal immigrants (Mexicans) are working at low paying jobs that Americans don’t want. (Even Canadian farmers hire temporary workers from Mexico during planting & harvest season).

Economists around the world believe that globalization has more benefits than detriments. Long term, higher wages in poor countries should theoretically increase spending and help spur global economic growth. Wages in China are going up causing a slowdown in their manufacturing boom. In fact, some illegal immigrants are moving back to Mexico because of higher wages.

Advances in technology has created a large number of new jobs but many of those jobs are unfilled. The major problem is employers find it difficult to find workers with the appropriate skill levels. The education system is really behind the curve in preparing young people to enter the job market. No real surprise that the participation rate is falling as the unemployed are giving up looking for work.

The automotive industry has been well-known for its intensive use of robotic arms for assembly, welding and painting of cars. Many other industries have adopted robotic arms into their manufacturing process. Advances in automation has eliminated an estimated 30% of all manufacturing jobs. Developments in 3D printing could allow consumers to make a variety of products beyond just toys, jewelry and novelty items.

robot2

Technology has destroyed a number jobs in many sectors. It is obvious that on-line shopping has really hurt brick & mortar retailers. Retailers have cut full-time staff and reduce costs by hiring more part-time seasonal personal. A large number of book, music and video stores have simply disappeared. Netflix and other low-cost streaming services has really hurt jobs in media, cable and the music industry. Facebook and Google have captured the majority of advertising  dollars which has reduced revenue and job opportunities in radio, television and print media.

Have you ever wondered why there are so many fake reality shows on cable? Production costs are so much cheaper than producing quality programing. Networks have less ad revenue to paid wages for real actors, writers and directors.  

Thanks to ATMs, internet banking, direct deposit and mobile banking apps, bank branches don’t have as many tellers or people waiting in line. The rise of Robo-Advisors will further reduce bank staff over time. I wouldn’t be shocked to find a decline in the number of bank branches in the near future.

Smartphones have reduced the need for buying cameras, voice recorders, camera film, photo albums, alarm clocks, GPS’s, video cameras, calculators, flashlights, landline phones, watches, calendars, note pads, newspapers, books and even credit cards. I wonder how many jobs have been lost because of the popularity of smartphones.

The oil and gas industry used to drill five wells in order to get one producing well. Today’s drilling technology enables 100% success rate in finding oil and gas. Plus fracking technology has allowed oil companies to maximize oil and gas extraction.

Will future improvements in artificial intelligence enable robots to replace human workers?

robot   robot1

What do you think, Globalization or Technology to blame for job losses.

 

Oil prices up despite lack of production freeze

oil-bucks

Crude oil prices are rallying despite the fact that storage tanks around the world are filled to the brim with unsold oil. The oil markets remain over supplied, between 1 and 2 million barrels of crude are being pumped out of the ground every day in excess of demand. You would think that the failure of the world’s largest oil exporters to reach an agreement in Doha on Sunday to freeze output to January levels, would cause a selloff in crude.

Cushioning the blow from the failure to reach a deal was a short strike by oil workers in Kuwait to protest cuts to benefits and wages. There has been a significant amount of disrupted oil that came off the market in the last month from Colombia, Iraq and Nigeria. Iran’s ability to increase production quickly is also being questioned. Plus U.S. oil production has fallen below 9 million barrels a day for the first time since Oct. 2014 which is attracting some fast money into oil market.

One of the biggest factors effecting the price of oil is a weaker U.S. dollar which has fallen around 5% over the past seven weeks. The Fed’s dovish comments on future rate hikes has helped increased the price of all commodities. Plus there is a rumor that Saudi Arabia and Russia have agreed to freeze production. (Saudi Arabia pumped 10.2 million barrels per day for a third straight month)

“While this recent rally has the potential to run further to the upside … we believe that it is not yet driven by a sustainable shift in fundamentals,” Goldman Sachs said in a note to clients. Goldman said it was “premature to embrace these green shoots”, maintaining its view that a sustainable balancing of the market, driven by declines in U.S. shale oil production, would take place in the third quarter of 2016.

Oil analysts and market watchers have noted that Saudi Arabia’s strategy has appeared to pay off, with data showing that shale oil producers are closing down rigs every week and oil output is dropping. Major oil companies trying to preserve their cash flows are still cutting their capital spending budgets ensuring that new oil production will be years away. Although Saudi’s strategy has damaged the government revenues, it has enabled the so-called cartel to retain its market share of just under 40 percent.

Could Saudi boost output?

I believe that relations between Saudi Arabia and Iran hit another low following the failure of the Doha talks, there are reports now that Saudi Arabia, Iran and non-OPEC producer Russia could all be ready to ramp up production, rather than restrict it.

Mohammed Bin Salman told Bloomberg that the kingdom could increase output by around 10 percent a day if it wanted to, saying “If there is anyone that decides to raise their production, then we will not reject any opportunity that knocks on our door.”

Could Mohammed Bin Salman’s aim be to discourage oil companies from investing in new output in Iran? It sounds like a threat to me that Saudi Arabia may indeed decide to boost output to protect its market share and cause the supply/demand imbalance to continue.

There are a lot of moving parts in the oil market. The fast money traders are betting that the U.S production of crude oil will continue to decrease and the summer driving season will push up demand. Even without a production freeze, many believe that the supply / demand imbalance will correct itself sometime in 2016.  Just remember that markets are forward-looking!

Earnings releases in the oil patch next week.

  • Mon – Halliburton, Pioneer
  • Tues – BP
  • Wed – Total, Baker Hughes
  • Thurs – Conoco Phillips
  • Fri – Exxon, Chevron, Phillips 66

It is impossible to predict how bad investors will punish companies that don’t beat the lower earnings estimates. It could offer a good buying opportunity.

 

3 Key Market Drivers Turning Some Bears into Bulls

      bear2   bull-party

In January and early February there were three major negative forces affecting the market. One was the total collapse of oil prices down to $26 a barrel. The second was a very real threat of a big devaluation from China. The third was the Fed hiking interest rates four times in 2016!

Those three deflationary forces would be very negative for stock market returns around the world. Six weeks ago, investors believed that the world was coming to an end. Some market experts were even taking about an increased possibility of the U.S. economy falling into a recession.

Why some market bears are getting bullish?

  1. The turnaround in the price of oil has been dramatic, raising almost 50% in six short weeks. Fears of massive credit defaults in the oil patch has been greatly reduced. Therefore, worries of a banking crisis have decreased and prices of bank stocks have recovered along with some energy names.
  2. Currency speculators and U.S. hedge funds have been heavily shorting the Chinese Yuan believing that devaluation is just a matter of time. China’s battle with speculators is expected to be very prolonged. Chinese leaders have assured Washington that it would keep the yuan stable after the U.S. approved adding the yuan to the International Monetary Fund’s basket of reserve currencies.
  3. The Federal Reserve has decided to halve its outlook for interest hikes to two from four by the end of this year. The announced has weaken the value of the U.S. dollar which helps increase the price of commodities including cruel oil. It also weakens the value of the yuan since 60% of its value is pegged to the U.S. dollar.

The chart below illustrates the price movements of the bank and energy ETFs compared to the S&P 500 since Feb 11 when the price of WTI hit a low of $26.19!

feb11

I am not convinced that we are out of the woods yet

  • Iran is a big wild card in the oil market. Iran has already stated that they will not agree to a production freeze until they increase their production back to levels before sanctions were imposed. Iran wants to add two million barrels of cruel oil a day to an already over supplied market. Plus there is over 500 million barrels of oil still in storage.
  • The Chinese leaders are slowly realizing that they have little control on how their citizens spend their new-found wealth. Converting their economy from being export driven to domestic spending is going to take a long time.
  • Negative interest rates in both Europe and Japan have not been successful in boosting economic growth.
  • U.S. consumers are not spending their savings from lower energy costs. Economy growth after a typical recession is usually a lot higher than today.
  • A large part of the rapid rebound in stock prices could be due to short covering by hedge funds.

I am not an expert on charts but the two-year chart below of the S&P 500 appears to have lower highs and lower lows. Plus I don’t like the fact that the 50 day moving average is below the 200 day moving average.

2016-spy

I believe that the roller coaster ride isn’t over yet and there could be a better buying opportunity very soon. Long term, I still prefer stocks over bonds.