Wednesday, August 09, 2006

Is Oil the new internet bubble

People have been asking if oil is the new gold, implying that it will hold up during times of economic collapse. I don't think so. I'm going to pull out some quotes from a recent Wall Street Journal article for your perusal.

"Barry Kostiner traded electricity and natural gas for eight years on Wall
Street. Last fall, he reinvented himself -- as a Texas oilman.

With no assets beyond plans to buy oil and gas fields, he set up shop
as Platinum Energy Resources Inc. He had never worked in the oil industry or
managed a company. Yet he carried out an initial public offering of stock and
within two months persuaded several New York hedge funds to buy a large chunk of the shares, raising $115 million in all."
Compare this to the great bubble in South Sea shares inthe 1700s and in America in the 1920s, at both times people raised money by issuing stock for "endeavors to be announced." Oil is so hot now that that:

"It took the elite private-equity firm Carlyle Group and its affiliate,
Riverstone Holdings, just six weeks to raise $4.5 billion this spring for two
funds to buy or start energy and power companies. Carlyle-Riverstone spent 2½
years raising $1.1 billion for its last energy fund, which closed in 2004."
This should sound very familiar to everyone. It's the same thing that happened in the late 90's with internet stocks. Anybody here remember watching CGMI, the internet holding company, drop from $150+ to less than a dollar?

Another sure sign of a bubble is that the bulls insist it's "different" this time. The energy industry, after all, is built on hard assets. So were the railroads in the 1800s, but that was a bubble too. If there isn't enough demand once the speculators start to get out, anything can be a bubble -- even "real assets" like silver or gold.

I'm not saying oil will collapse tomorrow, or even next year. As I said in my oil analysis, I believe it will take a few years for supply to come back up. Somewhere along the way from here to there, however, the speculators are going to start getting out and prices will fall. This is why I don't recommend any oil stocks right now. Over the long run Value always beats Momentum investing, and right now a quick Present Value Analysis shows that most every oil related company I can find is priced as if the wild growth of the last few years will continue for another decade (Notable exception: Exxon, I'll have to look into that). I would be distinctly surprised to see billion dollar companies doubling every year for ten years, the numbers get very silly.

Oil is in high demand, yes, but most of the oil assets are not bargains. More evidence that the market is oil-crazed:

"Exotic new loan markets are another energy investment trend. Some energy
companies that don't yet have positive cash flow are borrowing from hedge
funds or others at double-digit interest rates. The loans are sometimes
called "second-lien" loans because in the event of trouble the hedge funds
have to line up behind more-traditional lenders that have first rights to
any collateral."
I expect that ten years from now we will be looking at a number of regulatory suits and an aftermath similar to the Enron collapse and the aftermath of the dot-com bubble. It hurts to make this projection now, while things are hot, and I will no doubt be wrong for a good long time. Sometimes the critical decision, though, is what NOT to do.

Invest well and feel free to disagree in the comments section,

FW
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