Conclusion: Even though inventory is at a 10-year high domestically, the U.S. dollar continues to drive the price of oil.
Position: We are long oil via the etf, USO.
Yesterday, we added a position in oil to the Hedgeye Virtual Portfolio via the etf, USO. One of the primary reasons we are upping our allocation to commodities is to protect ourselves against inflation. With the Fed continuing to signal that dollar debasement will continue via quantitative easing, those commodities that are priced in U.S. dollars really only have one direction to go . . . up.
In addition to the position in the USO, we also have positions in two oil producers, Suncor (SU) and Lukoil (LUKOY). Our Energy Sector Head Lou Gagliardi described these two stocks this way in a recent note:
- Suncor (SU) – “This veteran plays the game the old way, hard and dirty, the son of miners and oil sands. A patient hitter, who likes to work the count into long lead projects and wait for his bitumen pitch, he hits from both sides of the plate, mining and in-situ, a power hitter, who plays the gaps and hits for average. SU can hit the ball deep into the resources, a steady glove he brings economies to scale at third base.”
- Lukoil (LUKOY) – “This old veteran Odeki Russo, set all-time batting records back in his home country Russia. A long ball hitter, Lefty likes to go deep into the resources, excellent balance sheet, with solid arm can throw into International plays. A truly five tool player, deep assets with speed on the base paths, strong glove balance sheet, field a deep discount, throws well with great upside, and brings economies to scale in the field.”
Setting the impact of a weaker U.S. dollar to the side, the short term fundamentals for oil are not overly bullish, specifically as it relates to inventory. Crude oil inventories in the United States are now at 366.2 million barrels, which is up almost 8% y-o-y. In fact, days of supply is at almost 26.1 days, which is literally the highest level of days of supply on hand in the last decade.
Below we’ve charted oil versus the Canadian Dollar / U.S. Dollar exchange rate. The chart tells us a few things. First, as we note above, a weak dollar will lead to a higher price for oil. In addition, it will lead to an increase in those currencies that are supported by high oil prices, such as the Loonie and the Ruble. This of course also creates more risk as we noted in the Early Look today, which is that of interconnected global risk. So, while we can be long commodities due to dollar weakness and to protect against inflation, we also must be aware of the increase correlations that are occurring globally and the fundamental supply / demand backdrop.
Daryl G. Jones