Oil & Gas Prices - What Next?

Recently, I have seen quite a few articles about the return of gas prices to $1.15-$1.25 per gallon based on the price of oil falling down to $15/bbl. There is certainly some merit to this, as oil prices are well off their highs of $78.40/bbl. and are now at around $63/bbl. Of course, I find this recent media frenzy suggesting rock bottom oil and gas prices odd considering 4-6 weeks ago, the articles being circulated suggested $100-$150 per barrel oil price by the end of 2006. What is further curious is that in any given week, you can find various articles - some hyping $100/bbl. oil and others hyping $10/bbl. oil. Barring an editorial error in which they put the decimal point in the wrong place, we have very different takes of what is going to happen.

As for me, I think it is more likely to see higher oil prices than lower in the coming years and we could very likely hit $80-$100 per barrel prices within the next 3-5 years. I would say that is more likely rather than $15/bbl. Granted, I am know energy expert or oil economics guru, but here is my two cents for what it's worth.

First, it is important to recognize that the price of oil is driven by the traders on the commodities exchanges. It is not controlled by the government, the military, OPEC, the oil companies, or anyone else with the exception of the traders. Certainly, the traders use information available to them and the signs provided by these groups, but it is the traders that trade up or trade down the prices of the contracts for delivery.

With this being said, all of the articles I have been reading on why oil prices will decline to as low as $15/bbl. are all driven by complex market dynamics and technical analysis theories. While there is certainly merit to this line of thought, and again I am no expert, it really seems as those that are theorizing $15/bbl. oil are grasping at straws. I call to mind Achem's Razor from the movie CONTACT: "All things being equal, the most simple explanation is probably the correct explanation."

For instance, on article discussed a complex, esoteric relationship between the hisorical price of oil, dating back to the early 1900s, expressed in 2006 dollars and drew a relationship between this benchmark and the price of a gram of gold. While I would not want to compete with the author's experience and knowledge in this arena, even if he is correct, I would have to venture to say the realities in the marketplace suggest higher priced oil rather than lower priced.

1. Global Consumption is Growing
The world is using a great deal of oil and that amount grows each year. While some statistics show that the rate of growth is slowing, every year, the world uses more oil. Even though production is high and inventories are rising, we are still using more and more oil. Basic economics: anything that is getting used more each day and there is only so much available will have upward pressure on prices. Additionally, should prices fall too low, it will actually encourage additional consumption and remove the focus from alternative energy sources. While we are still many, many years away from effectively reducing global dependence on oil, if there is no economic reason to do so, nothing will change and oil will be the primary source of energy. Since we are not really 'running out of oil' as there are a great deal of proven reserves in the world - some tapped, some not - if oil prices remain 'cheap' the world will be further encouraged to rely on oil. Again, supply and demand - demand grows,supply gets reduced, prices will go up.

2. China & India
This is likely the largest variable playing into the equation. Even when communist Russia was at its peak, its consumption does not even come close to rivaling that of China or India. Plus, Russia is a big producer of oil - China and India are not. Both of these countries are experiencing rapid industrial growth and even if their rate of growth slows, the oil consumption by each will continue to rise significantly. This variable is brand new and has never been a part of the marketplace before. Additionally, right now, the USA consumes roughly twice more oil than India and China combined on a daily basis. Take into the consideration that combined population of India and China are 8 times larger than the USA and it would not be surprising to see the ultimate daily need of these two countries be 2-6 times that of USA daily consumption. Additionally, the USA is showing no signs of reducing its dependence on oil and the populations of India and China are growing significantly faster than that of the USA. India and China have also been actively working together purchasing the majority of oil interests and securing contracts with large oil companies & government agencies in Nigeria, Sudan, and Iran. This was further represented by China's failed takeover of Unocal, a US company that was purchased by Chevron. Long story short, never before in the history of oil prices have these two countries been in the mix before and they will put substantial pressure on the oil market. Plus, neither of these nations has significant reserves or production capacity of their own.

3. High Prices = More Exploration
As mentioned before, the world is not 'running out of oil.' Well, in a sense it is, but it's not like we have pumped the last drop out of the earth. There are still huge reserves of oil left in the world. We know where it is - it is just that some is easier to get to than others. If prices are high, then it encourages additional exploration and of course provides oil companies the means to extract oil from the more difficult places. For instance, if oil is at $70/bbl. and it costs $40/bbl. to extract it from a location at the bottom of the ocean, then they will do so. However, if the cost is the same and the price of oil is at $20/bbl., well, then it's just not economically viable. It has been the high oil prices that have made possible the exploration and future extraction of the oil from the new find in the Gulf of Mexico. If prices drop too low, new exploration and extractions will slow down, causing upward pressure on the prices.

4. Lightning Does Not Strike Twice
Oil prices were at record lows in 1999 - close to $10-$15 per barrel. Nobody was watching back then and it allowed savvy investors and the oil companies to enormously profit as they purchased contracts for future barrels of oil for next to nothing compared to today's prices. This time around, the world is watching. Should the prices start to quickly fall, investors and other buyers probably will not wait for the drop to $15/bbl., but will start buying quickly helping to support the prices. We might see $40-$45 per barrel, but not $15, as the buying will rush in far before that price level.

5. OPEC Production Cuts
OPEC has already said it will cut production if prices fall too fast. This is not a move out of pure greed, but it is more of an effort to provide some consistency and stability to the oil market. Economies are fragile and cannot take volatile rises or declines in prices of any goods. As much as auto drivers might want to see $1/gallon gasoline again, to happen so rapidly is not just healthy for the overall domestic and global economy. OPEC knows this and obviously has been pushing its members to peak production capacity. If prices fall too low and OPEC maintains peak production capacity, then its members might as well just pump out barrels of water or sand rather than oil. If prices fall too much further, we will see production cuts - besides, if there is plenty of inventory on the market and demand is slowing, I guess the world does not need to be at peak capacity, right?

6. We're OK With High Gas Prices
This is a simplistic point as consumer gasoline consumption is not a monster factor on the price of oil. Sure, it factors in, but that is not what is driving the demand. Regardless, there was less complaining about gas pricing in the summer of 2006 when they were higher than summer of 2005 post Hurricane Katrina (when complaining was really bad). Additionally, those in Europe pay $5-$7 per gallon. There is still a great deal of room there.

There are other items that suggest higher oil prices will be the norm, such as government taxes and tariffs (e.g., $15/bbl. oil would be devastating for Alaska at this stage and illustrates the economic principle of market stability), but by and large, the above, in my opinion, represent more logical reasons why the price of oil will continue to be high. Furthermore, any weakness in which the price falls to certain lows will be met by great support. Besides, are we that lucky to see prices fall to $15 and then back to $80? Unlikely. We'll probably remain in the $45-$65 range for a while.

National Bank of Greece (NBG) & Portfolio Strategy

I have taken another stock position - National Bank of Greece (NYSE: NBG) - $8.49 as of September 12, 2006.

In a nut shell, this is the largest bank in Greece and just a few short years ago, the company was the official state bank. However, the banking industry in Greece has now been further deregulated and hence, NBG is now a totally for-profit enterprise. At least, that is my understanding of it.

NBG is actually an ADR - American Depository Receipt. An ADR basically is a certificate that gives you the right of ownership and benefits of an underlying unit of common stock in a foreign company. This basically lets NBG trade on the US markets in addition to the Athens Stock Exchange.

Concisely, why do I like NBG?

1. Strong financial growth and highlights - The ROE for 2005 vs 2004 is very attractive.

2. International Expansion - being allowed to now it is not a Greek only bank, NBG has expanded into Serbia and other countries are in the works as many former socialist nations privatize their banking industry. I believe this trend will continue.

3. Well off from it's high of nearly $11 that occured a couple of months ago. While it is up from $2/share in 2003 and is up very recently from $7, it still is off from its highs.

4. Annual Dividend - strong annual dividend and was very strong for 2005. My guess is that some people sold post dividend, but the banks prospects remain strong.

5. Lots of cash - $6.81/share of cash in the bank. Not as attractive as Citigroup that has $125/share of cash in the bank and trades at $49, but still a very strong prospect considering when you buy a share, about 80% of that purchase is cash.

I like the long term prospects of international banks that are just starting to get their feet wet in the marketplace. Yes, NBG has history back close to 150 + years, but I think from an international standpoint, there is much greater avenue for growth and NBG is flexing it's muscle by buying the state bank in Serbia and being the leading contender for a state bank in Romania. NBG has the cash to make this happen and looks to yield long term success from its aggressive actions today. NBG is also not new to this expansion, beating out Citigroup for the purchase of a large bank in Turkey. Merril Lynch also upgraded NBG on Sept. 8. Often times, upgrades by firms are bad news, but typically safer bets when it comes to banks and financial industry (http://www.newratings.com/analyst_news/article_1363810.html).

On other notes today, I got out of a loser, LRT, that I initially got in at $3.27 and sold at $2.71 today. It hurts, but it's key to limit your losses early. Most people don't sell to lock in gains and hold on to losers hoping they will break even. Even if you still feel there is opportunity, you are best to protect your capital, re-allocate, and watch the position and maybe get back in if it starts to run as you expected it to. I took the freed up funds to purchase more NBG and more ASHG, which took a dip today down to $193, off from it's recent high of $210.

I wonder if my daughters know they will soon also be owners of a Greek bank? I plan to accumulate as frequently as I can for myself, my daughters, and retirement as long as it is under $9. I'll re-evaluate then.

ASTE - New Stock Pick - $24.71

Astec Industries, Inc. engages in the manufacture and marketing of road building equipment in the United States and internationally. It operates in four divisions: Asphalt, Aggregate and Mining, Mobile Asphalt Paving, and Underground.

I actually first started watching this one around $22 and initially jumped in at $23.50. But, I did not do my service to humanity and I did not post immediately as the burning bush told me to buy. But, that was like 2-3 trading days ago. Today, the stock closed at $24.71, up 5.15% on above average volume (330,000 shares vs. 3 month average of 231,000). A stock moving up on above average volume is a good thing...it typically indicates that there is more buying than selling.

This stock originally caught my attention when I noticed that on August 3, 2006, Tontine Capital Partners, which is run by Jeffrey Gendell, showed up on the insider transaction list. I know that name likely means nothing to you, but he is a tremendously successful investor and specializes in value investing. In short, he likes to buy companies when they appear to be grossly undervalued, at least in his opinion. And, at least for the positions he is required to report (owning more than 10% he has had tremendous success.

Mutual funds or independent investors typically do not like to buy more than 10% of the shares outstanding. This is because once you own 10% or more of a public company, you are required to report all of your buys and sells. This can get quite annoying and when trying to move large blocks of stock, really gives away your hand. If you own less than 10nd are not an officer or director, you can buy and sell freely without reporting. If you are a mutual fund and own less than 10%, you do have to report your position, but only every 3 months, and you do not have to disclose your individual transactions - just your overall position.

Anyway, the significance of the 10% issue is that Gendell sees a monster opportunity and not only went over the 10% mark, he continues to buy on the open market. He has reported purchases on 8/4, 8/7, 8/11, 8/17, 8/18, 8/31, and 9/1. I also would not be surprised to see that he bought more on 9/4 (today) since you have 2 trading days to report your purchases. Pretty sneaky on his part - as he bought last Thursday, but didn't tell anyone until after the market close today, allowing him to maybe pick up some more without showing his hand right away. In one month, he has bought 374,6000 shares from anywhere from $20.51-$23.58. Additionally, we have seen over 835,000 shares purchased by institutions and mutual funds during the 2nd Quarter of 2006....I am unsure how many of those are the responsibility of Gendell. We'll get a better take as to overall institutional buying come October when the funds report their 3rd Quarter activity.

Long story short.....more buyers than sellers = stock price goes up. And there is some smart money flowing into this stock.

On to the fundamentals. The company engages in the construction industry and is heaviliy involves producing industrial equipment for making, mixing, and working with asphalt cement and environmental remediation and control equipment.Both of these are huge markets and are growing.

Astec operates internationally and their product line is instrumental for the cement industry. The demand for cement is growing like crazy, both domestically and overseas, and ASTE can service both markets. This is further evidenced by the 5th largest cement company in the country and the largest American owned (this has implications), Ash Grove Cement investing over $160M in capital equipment to boost production in an Arkansas cement plant and to build a brand new plant in Nevada. Fortunately for me, Ash Grove Cement trades under the symbol ASHG and I am a long term holder and purchaser of ASHG for myself and my daughters. You can read more about ASHG in a previous blog of mine and in my stock picking group.

Anyway, back to ASTE.

ASTE is also involved in making equipment for emissions control and other environmental remediation processes. This is also a big industry and a big demand is present. There is growing national and international pressure for facilities, especially cement and asphalt facilities, to clean up their act. ASHG, for instance, is involved in many discussions about the high level of mercury emissions from their plants. Typically, ASHG just pays the fines associated with this, but there is growing pressure to address the cause of the problem and not just write checks. This environmental pressure should also play favorably into Astec's performance over the next 12-24 months.

Astec also has several other lines of business - www.astecindustries.com/companies/companies.htm

So, with all this being said, why ASTE? Aren't there other companies that make similar equipment and are in the same industry? Well, of course, but here are the facts.

1. I discussed the Gendell purchasing and track record above. That is certainly an important reason;

2. The financial metrics on this company are very attractive. There is no debt and ASTE trades at less than 1 times sales and less than 2 times book value. These are very attractive valuations. The company's sales and earnings continue to grow - 12% and 21% espectively year over year - and the company has a 14%+ return on equity. For a boring construction company, that is not bad.

3. The recent dip in the company's stock price. ASTE fell from a high of $42.25 in late April, 2006 to $19.95 just 3 months later. The reason? Despite posting 13.4%, 36.7%, and 38.2% gains in sales, net income, and backlog, respectively for the first 6 months 2006 vs. first 6 months 2005, the stock tanked 50%. Why? The company missed earnings estimates posted by the analysts. They were well off....20% less earnings than expected, but due to what the company called "certain negative events occurring at the end of the quarter that were beyond our control."

Overall, I expect demand for their products to be strong, the company to continue to post solid growth numbers for revenue and net income (at least over the next 2 years), and I expect the buying by Gendell to continue for a little while...maybe until the stock gets back to $30. These observations coupled with the apparent buying opportunity created by the stock price losing 50%+ of its value because of 'missing the estimates' should equate to a winner over the next few months and beyond. No promises, of course, but the facts look good.

Investment Ideas: Merck (NYSE: MRK) vs. Pfizer (NYSE: PFE)

This weekend, there was an article published at MarketWatch.com called "Merck vs. Pfizer", and it was about which was the better investment, MRK or PFE. If you are not familiar with these companies, these are two of the more prominent drug-makers/pharmaceutical companies in the world. MRK is the manufactuer of Vioxx, which has been all over the news because of the lawsuits surrounding deaths related to Vioxx use and MRK's voluntary recall. Pfizer is the maker of Viagra and also makes a lot of over the counter medicines such as Rolaids and Benadryl. Both companies literally have hundreds and hundreds of prescription and non-prescription drugs in their catalog.

Anyway, the point of the article is just what it says...who to invest in if you had to choose between them. In short, both companies are well off their all-time highs and have not performed well in the stock market the past couple of years, despite the growth and strong numbers they have achieved. However, times seem to be changing for both of them and each company seems to be on the rise. PFE is currently trading at $27.96 and MRK at $40.96 (MRK is a Dark Side Stock Pick at $39.65).

The article suggests that PFE is a better buy and over the next 2-5 years will give an investor a return of 74%-118% vs. MRK offering 31%-66%.

I have to disagree with this claim. I believe that MRK is the better buy and will return superior returns to PFE over the coming years.

1. MRK has had more law suit problems than PFE and these lawsuit problems have put pressure on the stock. However, MRK's product line is diverse and ultimately, these lawsuits will subside. PFE has had their share of legal problems, of coursem but the MRK ones have been more widely publicized, it seems. This is a downward pressure element that once removed, will allow MRK to move up more quickly than PFE that is essentially through their legal problem phases for the time being.

2. MRK has superior financial ratios across the board. MRK has more revenue per share, more cash per share, a 'cheaper' price to earnings ratio (both current and estimated), a cheaper price to growth ratio, a better debt position, and better return on equity and return on assets (despite MRK having lower operating and profit margins than PFE). MRK also has better year over year (yoy) revenue growth and earnings per share (EPS). In short, every major financial ratio points to MRK being a better 'value buy.' Compare MRK Key Statistics to PFE Key Statistics.

3. The article speaks that PFE has a bigger liquidity or buy out premium meaning that PFE is likely to fetch a higher buying price should they get bought out. I do not think this makes sense either as PFE is over 2 times as large as MRK and typically, the larger firms acquire the smaller firms. I do not believe that a merger of sorts is in the work for either of these companies anytime soon, however, I think MRK would stand to gain more from a buy out vs. PFE.

One thing that is in PFE's favor is the dividend yield. MRK has historically yielded 3.5%-3.7% in dividends to its investors; this is right in line with where it is currently at. PFE, on the other hand, has averaged a 2.1% yield over the same time period and it is currently at a 3.3% yield. So, this may suggest that the stock price would correct or be more likely to rise. The dividend yield is calculated by taking the annual dividend per share and dividing by the stock price. So, if PFE were to return to a 2.1% yield and be paying out the same dividend, the stock price would have to be at $46-$47 per share. Of course, one can argue that MRK has had a longer, stronger history of paying out higher dividends. It also seems that PFE is trying to play catch up in this arena. The dividend payout per quarter per share has grown from $0.11 to $0.24 since 2001, a 118% increase. MRK's has grown from $0.34 to $0.38, an 11% increase. This may also suggest that PFE is growing at a faster rate than MRK and is able to pay out more dividends, but I think this is more of a function of just paying out more of the available income to shareholders rather than representative of faster revenue growth. At some stage, companies mature, and it is in the best interest of the shareholders to distribute more cash out to the shareholders rather than retain it and keep it in the bank to grow.

All in all, both are good stock picks at this stage, I think, and both should do well over the next 12-24 months, barring any form of disaster, which is possible. But, I personally see MRK as a superior buy when compared to PFE.