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Oil Pullback Will Boost Two Refiners Favored By Insiders
By Michael Brush
Exclusively for InvestorIdeas.com
May 29, 2008
When gasoline nears $4 a gallon, drivers naturally lash out at “big oil.”
What’s lost in all the sturm und drang about “big oil” is that some energy companies are suffering right along with consumers.
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I’m talking about the refiners.
Since they can’t raise prices at the retail level as much as their cost for crude oil is going up, they’re stuck in the middle with margins that keep getting compressed. Their stock charts tell the story.
The refiner Valero Energy (VLO) is down 36% since last summer while Tesoro (TSO) has fared even worse, down 61% since last October. Both stocks are trading at or near 52-week lows. You can blame $135-a-barrel oil.
In contrast, a pure play on upstream energy development, like Transocean (RIG), is up about 60% in the past year, and it’s up 140% since I suggested owning it in September 2006.
You see the same dichotomy at the big integrated oil companies like ExxonMobil (XOM) and ConocoPhillips (COP). They’re taking a hit on their “downstream” refining and marketing side. However, they’re more than making up for it on the production side because crude has gone up so much. So overall, profits are rising.
Peak oil prices
But what if oil prices peaked here for the medium term and began rolling back down? Well, the hammered pure-play refining stocks would perk up.
While I was a proponent of “$100 oil” back when it was not stylish, I’m a little less reluctant to jump on the $200 oil bandwagon now – even if the scenario is supported by some of the same brainy analysts who called $100 oil.
In fact, there are several good reasons to think oil could pull in here and get back to prices we are all more familiar with. I’m not smart enough to call oil price moves week to week, but there’s a good case for lower prices at some point in the medium term. Let’s get to the case in a moment.
First, if a pull back in oil prices does play out, it will vindicate insiders recently buying at two small refiners whose stocks have been equally hammered right along with those of the bigger refiners. If you buy that case that oil may beat a retreat here, it will pay to follow the insiders into these two small refiners.
Here they are.
Calumet Specialty Products Partners (CLMT)
Calumet reported a first quarter loss of $3.4 million compared to net income of $28.2 million for the same quarter a year before. Cash flow available for distribution fell to $13.2 million from $28.4 million. The culprit, of course, was higher crude prices.
Calumet stock has fallen hard as a result -- to $15 from $50 just last fall. Insiders seem to be saying enough is enough. Actual insiders at the company (as opposed to trusts or major institutional holders) bought $700,000 worth of stock last week, including the chief executive.
The insiders might be betting on a reversal in oil prices. They also think their company will get a lift because other suppliers have stopped making competing specialty oils and waxes. The company is also hedging against further increases in input costs.
Calumet owns plants in Louisiana, Texas and Pennsylvania. It makes specialty products (64% of gross profits) and fuel products (36% of our gross profits).
United Fuel & Energy Corporation (UFEN.OB)
Sales at the tiny United Fuel & Energy increased 175% to $208 million in the first quarter, compared to of $75.7 million for the same quarter a year before. But operating income declined to $288,000 from $804,000. Again, blame the higher cost of crude.
United Fuel & Energy stock has been sliced in half in the past seven months as a result of these trends, to trade recently at $1.25. Down here, insiders including the chief executive have purchased $85,000 worth of stock.
That may not seem like much. But keep in mind this is a company with a market cap of just $18 million. The company sells refined petroleum products including gasoline, diesel, propane, oils, greases and other lubricants.
The case for lower oil
I’d cite three reasons why the price of oil may pull back from here.
- Falling demand. First, oil has moved up more than 30% in the past few months, but you can’t really cite any global demand increases to justify that quick and sharp move. In fact, demand growth may be slowing.
Late last week, the Department of Transportation reported that estimated vehicle miles traveled on U.S. public roads for March 2008 fell 4.3% compared to the same month a year ago. That’s a lot of saved gasoline – perhaps as much as 500 million gallons. It was the first time March travel fell since 1979. It was the sharpest drop for as long as the measure has been tracked, or 66 years.
- Speculative excess. Normally, the price of oil for future delivery is lower than current prices. This is known as “backwardation.” Now, however, futures prices are in “contango” which means they are higher than current prices -- even adjusted for interest rates and the cost of holding crude. John Hussman, a fund manager at Hussman Funds, points out this can signal that “traders have accepted the bullish case so thoroughly that they have become frantic to bid up oil for delivery well into the future.” In short, it’s a signal that oil may be overbought. George Soros is among those who think that speculators are responsible for driving crude prices to recent highs. Steps like raising margin requirements on energy trading may help deflate the bubble.
- New frontiers. At the same time, the U.S. may open up areas to exploration and drilling.
Changes like these could alter the psychology driving energy prices higher, and help out the two refiners where insiders have been buying.
The bottom line: It may not happen tomorrow, but a pullback in oil prices would be good for these two refiners where insiders have recently been buying.
Disclaimer
At the time of publication, Michael Brush own shares of the Hussman Strategic Growth Fund (HSGFX).
For more on Insiders Corner disclosure, see the disclosure section in About Insiders Corner: http://www.investorideas.com/insiderscorner/. InvestorIdeas.com Disclaimer: www.InvestorIdeas.com/About/Disclaimer.asp. InvestorIdeas is not affiliated or compensated by the companies mentioned in this article.
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