Futures Project Calm Fundamental Outlook
futures market projects a stable oil price and a rising natural gas price (see
Chart). A sense of calm has
returned to the markets after the turmoil of a year ago.
futures curve for oil has been swishing like an animal's tale the past two
years. The base as represented by
2006, has been stable for more than a year.
The tip as represented by February 2002 has wagged to $29 on the high
side and $19 on the low side (see Chart).
animal tail analogy cannot be as readily demonstrated in natural gas, as public
quotes for out years have been available only since Enron's private quotes dried
up. While we like the positive
slope of the newly available public curve, we also note that quotes for the
early years have been in a downward trend (see Chart).
There may be further weakness in the early months, but we expect the
further out months to be stable.
present futures prices as a widely representative reference point.
We make our cash flow estimates consistent with futures prices.
Just because we use futures doesn't mean we agree with them.
We are more bullish long term than the futures market and hopeful near
term that reality does not turn out to be worse than the futures market implies.
Strength in Refining Good For Marathon Among Others
who like to concentrate their buying in the off-season might look upon the
refining business with greater interest again.
Coming off great profits in the first half of last year, the refiners
have had tough times in December. Futures
imply margin strength, though not a lot, in April and beyond (see Chart).
The margin is derived from New York Mercantile Exchange quotes by
subtracting prices for one barrel of heating oil and two barrels of gasoline
from three barrels of light sweet crude oil.
who have been holding back acting on our Strong Buy recommendation of Marathon
Oil might be more comfortable acting ahead of refining margin improvement.
MRO is about a third natural gas, a third oil production and about a
third refiner/marketer in concentration of value.
On another score, the timing to buy Marathon may be the best in two
decades because on January 1 the company will be a standalone integrated oil
company as it was until 1981.
Strength in Electricity Good for Natural Gas Producers
futures point to price strength in the hot summer months of July and August.
A positive spread between the price of electricity and the price of
natural gas implies profitable operations for companies that generate
electricity from natural gas (see Chart). It
implies even more profitability in an unregulated environment for companies that
generate electricity from low cost coal and nuclear plants such as those owned
by recommended American Electric Power (AEP) and Exelon (EXC).
is remarkable operating leverage in electricity for natural gas producers as
evident by price swings on the chart above compared to the chart for natural
gas. In the off-season there is
enough cheap coal and nuclear capacity that we don't need much gas to be
converted to electricity. In the
peak season we need natural gas. Moreover,
generators can afford to pay a lot. As
electricity demand grows, cheap capacity will remain fixed while natural gas
fueled generators meet incremental demand.
The peaks we see on the price curve will spread increasingly across the