The disconnect between depressedâ??even decliningâ??natural gas prices in North America and robust oil prices is growing. Some energy analysts are convinced that oil prices are grossly inflated, fueled more by speculative money than actual demand, despite the modest economic recovery taking place.
The April futures contract on the New York Mercantile Exchange (NYMEX) for West Texas Intermediate crude oil, after topping $83.00 on Mar. 17, settled $1.57 lower, at $80.63 a barrel, on Mar. 19. Some analysts think the price should be closer to $50 to $55 a barrel. The U.S. benchmark price of natural gas, known as Henry Hub, dropped to $4.02 per million British thermal units (Btu) on Mar. 19, compared with $4.75 less than three weeks earlier. Analysts don't believe domestic natural gas prices will return to an equilibrium range of $5 to $7 for at least two years due to a supply glut.
Not everyone thinks oil prices are ahead of themselves. Tim Parker, an energy analyst at T. Rowe Price (TROW), concedes that speculation has a role in oil prices but says speculation is more about the speed at which prices move than their actual levels: It causes prices to move faster in the direction they were already going, both on the upside and the downside. Parker predicts oil prices will be comfortably above $100 a barrel for more than a day at a time sometime in 2011, once the world realizes there's not as much spare production capacity as it now believes.
Rehan Rashid, head of energy and natural resources research at FBR Capital Markets (FBCM), says he's comfortable with the current 12-month futures price range on NYMEX of $75 to $80 a barrel. But even Rashid thinks the economic recovery, to the extent that it fulfills people's expectations, will be much less energy-intensive than prior ones. Construction and manufacturing, two industries that consume a lot of energy, won't drive this recovery in the U.S., since both are suffering from overcapacity, Rashid says. Growth in energy demand will also be hampered by the push by governments and private industry for greater energy efficiency, he adds.
It's true that annual oil consumption in the developed nations began to decline in 2005 as countries became more serious about conservation, says Parker at T. Rowe Price. But roughly half of global oil consumption is by emerging countries such as China, India, and Brazil, where demand will continue to grow, he says. Although global oil demand won't climb as fast as it did from the mid-1970s to 2005, there still isn't enough supply available to prevent oil prices from rising from 2011 to 2013, a period with few new projects in the queue, he says. Large projects, such as ones in Brazil, are slated to begin production in the latter half of this decade.
Clearly, investors hunting for companies with more earnings growth potential are better off buying shares of oil-oriented producers than ones that produce more natural gas. Integrated producers such as Exxon Mobil (XOM) and Chevron (CVX) fit the bill, but you have to be careful of those with too much exposure to refining and marketing. The economics of the so-called downstream side of the business "are just horrendous," according to Pavel Molchanov, an analyst at Raymond James (RJF) who covers integrated oil and gas producers. Refining margins have shrunk to 15-year lows on depressed demand for industrial and transport fuels and excess refining capacity worldwide.
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