1/8/2010
By Conley Turner, Research Analyst

While the long term outlook for oil prices remains bullish, the most recent move is cause for concern. The price of oil has registered a relative moon shot climbing approximately 18 percent in under a month. The various and sundry short term reasons for its occurrence are for the most part, fleeting.  The precipitous decline in oil prices post peak levels set in the summer of 2008 bears witness to this view point.  While trying to time a reversal has brought about the ruin of many a market timer, adding new capital to this type of move up can prove to be equally as perilous. 

Recent history has demonstrated that one cannot be too cavalier about the direction of oil prices as many market participants have ended up on the wrong side of that trade. The degree of volatility has been so severe that some market veterans have drawn current comparisons to the early 1970s during that decade's energy crisis.

Among the factors being credited for the current strength in oil prices is the frigid weather that is currently enveloping a substantial portion of the US, Europe and Asia.
Conventional wisdom dictates that the cold temperatures spur a drawdown in the inventories of distillate products used for the purposes of heating and other related activities. While plausible, there is a stark possibility that in this instance, that bit of logic is flawed, or at least not a sufficient explanation. 

The previous year's winter was similarly punctuated with spells of sub normal temperatures and high levels of snow fall. Yet, at the height of it all, oil prices registered marked declines. Fast forward to present day and though not identical, a comparable weather situation exists and oil prices are increasing.  It appears that outlying factors beyond the supply/demand dynamic are in play. In fact, the move has all the hallmarks of an increased amount of capital flowing into the oil trade. Recent data does add credence to this perspective as there has been a growing presence of investment funds in the commodities space. The environment leading up to oil hitting a record high of $147 per barrel in July of 2008 draws strong parallels. Other factors include the value of the dollar, which is in a secular decline versus a basket of other international currencies.  The price of oil is inversely correlated to the value of the dollar.

The current market has proven to be very dynamic with fact and sentiment shifting with increased velocity.  At this point, it may be a prudent strategy for investors to wait for the next defined move before allocating any new capital to the commodity.

That said investors need not abandon the space as the global oil services companies are well positioned to benefit even although the price of the underlying commodity remains volatile.  Demand for the capabilities of these companies is likely to increasingly come into focus as exploration and productivity activity begin to ramp up around the world.  The global economic recovery is gaining traction and by extension the upbeat outlook for the performance of service companies.  Halliburton Co. (HAL) stands out as a must own name in the sector with good management, a strong balance sheet and significant growth visibility.

Conley Turner
Wall Street Strategies