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oil shock 08 get in before oil big move

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    Oil Shock '08:
    Three Reasons to Get in Today Before Oil's Next Big Move
    by Al Robinson

    Dear Reader,

    Since we last wrote to you, South Africa's power crisis has worsened.
    Harsh, freezing conditions in China have caused power shortages.
    Venezuela is threatening to withhold oil supplies from its main client,
    the United States. And in Texas, another U.S. refinery has suffered an
    explosion, interrupting production. It's chaotic. It's like the end of
    the world has shown up to the party, early and uninvited. Dare we say
    it...this is the kind of thing you can expect to continue, off and on,
    for the foreseeable future.

    It may sound scary. But there is good news. You and I might never see
    this kind of investment opportunity again. The global energy shortage
    may just be starting, and energy prices are rising. It could get worse.
    Let me explain what I mean when I say, "get worse".

    Slides and Shocks

    Oil experts who illustrate the idea of peak oil often have a fondness
    for leading their argument with a graph of global oil production. It's
    shaped like a bell, slowly curving up to the top before gently
    declining off towards the future, in symmetrical fashion. Many people
    think we're sitting at the top right now. Some people also believe the
    back-side of the curve-where global oil production begins to decline
    from the Peak-will not be so gentle.

    Real life often isn't gentle... smooth...or curvaceous. It doesn't just
    slide along. Real life is peppered with rare, explosive, high-impact
    events. Life after oil production peaks will consist of bursts and
    spurts as our inadequate energy systems struggle to cope. It won't be a
    steady, gentle decline. Each time one of these time-bombs goes off,
    somebody is in the position to make money.

    You've seen what I'm talking about. Eskom's woes providing power in
    South Africa haven't been smooth or curvaceous. The company's
    insufficient infrastructure put an entire country in darkness for a
    week, and miners out of order for longer. It also gave the platinum
    price a reason to fire up by 38%.

    China cut coal exports to help deal with its unseasonably cold winter.
    The conditions yanked hard on already-tight global coal supplies. None
    of this has been the least bit smooth or curvaceous. Australian coal
    prices spiked. They've added 49% since late January.

    These events you're reading about every day have something in common.
    They've happened without much warning, and with huge results. The Eskom
    fallout didn't look anything like a bell curve...more like a blip on a
    heart monitor, except it only comes about once. A short, sharp shock.

    Sitting out of the market and waiting for a sign a profitable energy
    trend has begun will, more likely than not, win you nothing. That's
    life. These things take shape rapidly. Nobody's going to tell you when
    the next Eskom is about to happen. If you want to be on the right end
    of things, you have to be willing to get into the market and wait for
    it.

    But the returns you get for being patient and faithful to your
    idea...they can be spectacular.

    The Sleeping Giant May Awaken

    Further down we'll explain why the time isn't right to jump into coal,
    or platinum. In your last letter we proposed that timing will be
    important in this year's up-and-down market.

    To truly take advantage of big, sharp energy shocks, you need to look
    for a commodity that hasn't acted up recently. You want to find an
    investment that hasn't already given investors reason to smother the
    opportunity with speculation. In other words...while punters are buying
    up coal and precious metal shares...what better time is there to re-
    visit oil and gas?

    We can't predict the future. But there are at least three signs oil is
    ready for a big move--possibly a short, sharp burst... Your latest tip
    is ideally placed for this kind of jarring shock..

    There's another reason why we like oil this month: no-one else has been
    talking it up much. Eskom and China have taken the spotlight. And while
    the oil price has moved back over $100, the focus hasn't yet turned to
    oil stocks. It's a good time to pick up a low-priced oil firm.

    This month, you'll read about an unloved oil stock crying out for
    attention.

    It's a bit contrarian. It has both oil and gas assets in Australia's
    richest hydrocarbon region. But over the next few years, it stands to
    re-live former production heights.

    Before we get to it though, here's all you need to know about the two
    major resource shocks that rocked the planet in the last month.

    Shock One: The Big Red Freeze

    Beginning in early January, vicious snowstorms cut a destructive path
    through the Chinese countryside.
    They affected millions of acres of farmland, crippled national
    transportation, and left a 111 billion yuan hole in the economy.

    Coal took off.

    That ice and sleet got between coal mines and coal power stations.
    China had to source its coal from elsewhere, pushing up global prices.
    The Australian spot price for thermal coal (used in power stations) has
    ballooned to US$140.

    Contract prices don't move without negotiation, so they're still
    lingering at $US55. The next set of talks between contract buyers and
    sellers takes place mid-year. This has meant higher valuations for
    Australian coal stocks, with investors anticipating a higher contract
    price.

    But Aussie coal companies have put on serious weight. The average P/E
    for the top six Australian coal producers is just under 100. These
    companies have also averaged 15% share price growth since the beginning
    of the year. Remember...that 15% comes in spite of the biggest market
    correction since 1987. If you bought into coal in late December, you
    have every right to be feeling smug today now.

    Pricey coal companies wouldn't worry us so much in a carefree, rising
    stock market. But at the moment, there's the risk that any day another
    big investment banking loss or bad US housing number could spark a
    mini-crash. Coal companies wouldn't do well out of this. If you lost
    20% in a week...well...you'd have to hope that prices would rebound and
    you'd break even. That could take months.

    To get an idea of what we mean, look at iron ore stocks. They were in
    almost exactly the same position as coal before January. Investors had
    bought in heavily to take advantage of future contract adjustments.
    When the correction in the share market struck, iron ore stocks fell
    hard. Fortescue (ASX:FMG) dropped 41% from its high in late December,
    compared to the market's 18% loss over the same period.

    We're not saying coal's a bad investment. It's more of a "hold". Over
    the long term, it should do well. Who knows...it might even add another
    20% in the next few weeks. But it's not prudent investing to leap in at
    today's prices.

    On that note... if shares do crash, it might be the perfect time to go
    long in coal.

    Shock Two: Lights Out in Southern Africa

    South Africa plunged into chaos for five days a few weeks ago, and
    investors are still surveying the aftermath.

    You probably all know the story by now. Eskom, the country's only
    electricity supplier, had to ration power to the nation's consumers.
    After years of insufficient infrastructure investment, problems with
    the system finally surfaced. Electricity supplies wheezed, puffed, and
    feel into a week-long coma. South African miners, who need a minimum of
    90% of the standard power load to operate, had no choice but to shut
    down lifts. Zimbabwe was affected too.

    Eskom has announced that until 2010, 90% of the load will be all it can
    offer. There is zero margin for error. You could well see a South
    African-related investment on these pages sometime later this year.
    The best way to take advantage of the South African mining shock is
    buying into precious metals... platinum in particular. South Africa
    produced 80% of the world's platinum last year.

    But the problem is, the market has gotten ahead of the situation. It
    often tries to predict the future. Speculation drove the platinum price
    up from around US$1500 to well over US$2100. For 14 straight days the
    price went higher and higher without a break. That's not rational.

    A correction here is highly likely. It could be small, or large.
    Similar to coal stocks, Australia's few platinum players are riding
    high with a long way to fall. Now is not the time for platinum either,
    we feel.

    So instead of looking at the past, let's look at which commodity could
    suffer the next shock.

    The First Reason Now is a Good Time for Oil

    Three factors combined in the last week. It's because of these three
    factors we feel oil is primed for a rise today.

    Firstly, global oil inventories are extremely low. The International
    Energy Agency noted in its Oil Market Report last month that US oil
    inventories have slipped below their 5-year average. The chart below
    shows what we mean. That black dot on the left hand side is the level
    where stocks are right now; below average and getting close to a 5-year
    low.

    What this does is create a fertile breeding ground for fear and
    speculation. The oil market is tense. People are now more concerned
    there may be a real shortage that could affect them. Regular
    disruptions in supply-perceived or real-don't help. Political events in
    Nigeria and Venezuela are a constant threat to supply. Recently, OPEC
    has even talked of reducing production.

    In late February, oil pushed through the US$100 barrier and stayed
    there for an overnight close in New York. It was the first time the oil
    futures price has actually closed over US$100. We wrote to readers of
    our free e-letter, Money Morning, about the significance of the event.
    Gabriel André, our technical analyst and trader, considers US$100 oil
    to be a pretty important marker.

    "With this renewed pace, a break of the US$100 barrier could strongly
    accelerate upward momentum," he wrote.

    http://www.dailyreckoning.com.au/images/20080227ddissue-a.jpg

    Well, it has come to pass. US$100 is broken. If oil keeps moving up in
    the next week, the break could be large. How large? It's pretty hard to
    tell. Once oil passes US$103 the price is breaching unmarked territory,
    in real or nominal terms.

    Oil's upside could be a lot higher than any of us expect.

    However, the reason oil's your best bet this month is that a genuinely
    big shock hasn't happened. Sure, it moved up to US$100, but it's been
    there before. It needs something to push it over the line, to release
    the tension created by skimpy inventories and technical strength. It
    needs an X-factor.

    You wouldn't be reading about oil here and now if there wasn't plenty
    of scope for an X-factor to emerge. Something exactly like an Eskom. In
    the last five years, there hasn't been a bad time to add oil assets to
    your resource portfolio. But in the last few weeks, political and
    fundamental tensions have risen.

    Venezuela is still jousting with Exxon over exports. As we've said in
    the past, politics play a big part in oil. The price itself holds a
    geopolitical premium. When OPEC meets again on March 4, Iran will be
    pressuring the cartel to cut output. Is this the "something else"
    that'll send oil over the brink? It's not terribly likely...but if it
    did come about, it would come as a large surprise to most.

    The Second Reason Now Is a Good Time for Oil

    A Goldman Sachs analyst summed up the market's sentiment rather well a
    couple of days ago (we've added emphasis in bold):

    'After trading from the beginning of the year in near lock-step with
    the equity markets, crude oil prices have decoupled and moved sharply
    higher as economic growth concerns have been trumped by the same long-
    term structural supply issues that have driven the energy price rally
    during the past decade.'

    If the argument for a short-term move doesn't grab you, there's always
    the long term. Oil scarcity isn't going away. While the market's
    attention is focused on two other rare, big-time events, oil lingers in
    the shadows. Now is the ideal time to pick up a cheap producer or
    explorer.

    Most Australian oil companies would do well out of a big price shock,
    or a long-term appreciation. They all tend to track with the oil price
    pretty closely. But the one we found has recently been depressed. We
    reckon it'll cheer up over the next two months.
 
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