The Long-Term Trend for Oil Is Up

12/13/2011 11:00 am EST

Focus: COMMODITIES

Elliott Gue

Editor and Publisher, Energy and Income Advisor and Capitalist Times

The era of easy-to-drill oil is ending, and as production costs steadily increase over the next years, prices will rise too, says Elliott Gue of The Energy Strategist, who recommends a handful of plays in the sector.

Oil and oil companies are on a lot of people's minds. Even if you're not trading them directly, a lot of stock traders are watching them to get a good feel for the overall economy. Our guest today is Elliott Gue. He's going to talk to us about his thoughts there. So Elliott, what are your thoughts here on oil first, just in general terms of the price?

Well, it's been a rollercoaster road for oil prices over the last year or so. We've seen oil prices shoot up to almost $130 a barrel and then pull back, but Brent crude oil, which is the key international benchmark, continues to trade over $110 a barrel, well over $100 a barrel, even through this latest downturn.

That's still a level where oil companies are looking to spend a lot of money on finding new plays and developing plays that they have. I actually think oil prices will remain elevated. While demand in the US is fairly weak, you're still seeing plenty of demand coming out of Asia.

And really, what's been a problem this year is the supply side of the equation. Outside of OPEC, it's been a real difficulty in growing supply, and then of course OPEC production has been badly affected by the civil war in Libya.

All right. Where do you see the opportunities in the oil companies themselves?

One of my favorite sectors there is actually the oil-services business. These are companies like Schlumberger (SLB), one of my favorites, and Weatherford (WFT). These companies perform all sorts of tasks surrounding the drilling and completion of wells.

An example for Schlumberger would be seismic services-using sound and pressure waves to actually map deepwater fields for exploration. Another example would be drilling these horizontal wells that are used to produce a lot of these plays we hear so much about, like the Marcellus shale play in Appalachia, which is natural gas, and the Bakken shale play in North Dakota, which is oil. And they perform a lot of the tasks around drilling these complicated wells.

What we've been seeing is that oil companies are increasingly having to go to more complicated, remote areas to find large, new sources of oil...an example being the deepwater, places like offshore Brazil, offshore Gulf of Mexico, offshore West Africa. They're really benefiting from that wave of spending.

And what we're really hearing from them is because oil prices have remained elevated, companies are still spending a lot of money. The prices for the stocks have actually been hit pretty hard because of the general concerns about the macro economy. So I think it's a really good opportunity to get into those.

So if I wanted to get exposure to just oil in general, and I have an idea that oil is going up in price, or at least going to remain pretty solid here, is it a futures contract I should buy, is it an ETF, what's a simple way to get exposure?

Well, you can certainly trade the futures. That's probably the most direct way of speculating on the price of oil itself.

Some of the sectors like the oil services I mentioned are quite leveraged to the price of oil, so they're going to tend to move faster than, say, a producer like an Exxon Mobil (XOM) or a Chevron (CVX)-both great companies that I recommend, but they're going to tend to move a little bit more slowly than oil prices, and they're going to be a little bit more conservative type of stock.

But a company like a Schlumberger or a Weatherford is going to be very sensitive to rising oil prices or steadily high oil prices, so I think that would be the way to play it on the stock side.

All right. Every once in a while, the idea comes up that oil is finite-we will run out someday-and yet we don't see panic in it. Prices go up, but they still come back down.

What do you see? Are we 100 years away, or 20 years away, from that being a real factor in the price of oil?

I don't think we've seen peak oil, and I don't think we're going to see it over the next ten to 20 years. But what we have seen is a peak in really easy and cheap to produce oil.

The big, onshore fields that for years and years and years were the bedrock of global production-places like Texas and, of course, the Middle East-those are mature fields. They're seeing declining production now. So companies are increasingly having to go to more complicated fields, more difficult to produce fields like deepwater.

Seventy-five percent of all giant oilfield discoveries in the last ten years are in the deepwater. Now obviously you wouldn't drill 10,000 foot into deepwater and drill a 36,000 foot long well if you could stay onshore and drill a simple vertical well and produce the same oil. They're going there because they have to.

Now the problem is that there are a lot of delays in startups of some of these projects, and that's caused non-OPEC production to actually kind of lag expectations at times. At the beginning of this year, most people though non-OPEC countries, countries outside OPEC, would grow production by over a million barrels a day. Now it looks like it's going to be more like 200,000 barrels a day in growth for the year. And that just means that we rely more and more on OPEC to make up the marginal supply.

So I don't think there's peak oil globally, but it is becoming more difficult to produce oil, and I think that's one of the reasons you're going to see prices remain high. In order for the slow rate of production growth to meet rising demand from Asia, the price is going to have to go up to sort of ration that demand.

It's a simple price system, and I think that's the trend you're going to see more of, just the increasing complexity of oil production.

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