Sector Outlook: Energy

Regardless of the source, energy is likely to become more expensive. That should make energy stocks a good bet over the next few years. Since the world will remain dependent on oil and gas for the next couple of decades at least, shares in companies that extract those substances from the earth or refine and market them will remain the big plays.
The only caveat is these stocks already had a good run in 2007. For instance, the CBOE.OIX index of 11 oil companies is up 32.1% on the year, vs. just 4.9% for the Standard & Poor's (MHP) 500-stock index. Fadel Gheit, an analyst at Oppenheimer & Co. in New York, says investors jumped on any stocks related to energy in 2007.

SMALLER IS BETTER
Already high prices could give energy stocks less room to run in 2008. Gheit thinks that if energy prices continue to rise, smaller companies are a better bet than the heavyweights such as ExxonMobil (XOM) and Chevron (CVX). Among the independents, he recommends Noble Energy (NBL), which has doubled production since 2000, and Apache (APA), which specializes in squeezing oil from older fields. Eitan Bernstein, an analyst at Friedman, Billings, Ramsey & Co. in Arlington, Va., thinks two stocks worth considering are Occidental Petroleum (OXY) and Valero Energy (VLO). Occidental, a medium-size company, has reclaimed its old concessions in Libya, one of the world's most promising oil countries. Valero, the largest U.S. refiner, is selling off less profitable properties after an acquisition binge and is buying back stock.
A special case, Gheit says, is BP (BP), which has been battered by a spate of spills and accidents. Gheit estimates BP has lost $5 billion in the past 30 months because of refinery outages and delayed projects. Bringing two damaged refineries back up to capacity and starting up two new fields in the Gulf of Mexico, Gheit figures, will add up to $3 billion to the bottom line by 2009. He thinks the earnings boost could be 15% on a per share basis.
Malcolm Polley, president and chief investment officer of Pittsburgh-based Stewart Capital Advisors, which manages $1 billion, says while the majors are usually safe bets, he prefers trying to pick home run candidates. His choices include oil-field services companies such as Halliburton (HAL) and Schlumberger (SLB), which are profiting from all the drilling and exploration. Another good prospect is Transocean (RIG), the largest offshore driller.
Investors also would be smart to figure out a way to buy into the fast-growing business of liquefied natural gas, formed by supercooling natural gas so it shrinks and can be transported on ships. The volatile stuff is being traded like oil, and worldwide demand is huge. But the only major LNG-producing country accessible to equity investors is Australia. Bernard J. Picchi, an analyst at Wall Street Access in New York, recommends Woodside Petroleum (WOPEY). It's well-entrenched in the growing Australian gas fields, and may be subject to a takeover offer by Royal Dutch Shell (RDSa), which owns 34%.
Oil and gas alternatives have a bright future, but it isn't easy to figure out which energy sources or companies will prove the big winners. Adventurous investors could look at VeraSun Energy (VSE), a Brookings (S.D.) ethanol producer, which had net profits of $22.6 million on revenues of $535 million for the nine months ending Sept. 30. Pavel Molchanov of Raymond James Financial (RJF) in St. Petersburg, Fla., says VeraSun is the industry leader but warns: "Ethanol is a challenging industry because of the oversupply in the U.S." Molchanov also favors SunPower (SPWR), a San Jose producer of solar panels and cells, which is majority-owned by Silicon Valley icon Cypress Semiconductor (CY). But it's too early to know whether one of these young companies is tomorrow's ExxonMobil.

From Businessweek magazine:
http://www.businessweek.com/magazine/content/07_53/b4065054251425.htm?chan=magazine+channel_investment+outlook+2008

An Inconvenient Truth About Oil

If you're an oil sheikh, you will love what Paul Horsnell has to say. If
you're a consumer, you won't. Horsnell, head of commodities research at Barclays
Capital in London, has been an oil-price bull for years, and he doesn't see any
reason to change. He thinks we will probably be stuck with today's high price
levels next year and that oil prices will spend some time trading above the
yet-to-be-pierced $100 per barrel. He is confident that 2008 will be the seventh
straight year of price increases. The average price for 2007 will be about $72 a
barrel.
A rumpled former Oxford economics lecturer, Horsnell, 46, spent 11
years as assistant director of the Oxford Institute for Energy Studies, which
has close ties to such OPEC countries as Kuwait, Saudi Arabia, and Venezuela. He
joined JPMorgan (JPM) in 2001, moving to Barclays Capital two years later. He
studies world supply and demand statistics, trying to figure out how much new
oil will be coming from Kazakhstan or how rapidly China's thirst is growing.
While the rate of increase in world demand for oil has dropped off since the
huge 4% surge in 2004, demand continues to grow because of rapidly increasing
consumption by China and the Middle East producers themselves.
At the same time, new supplies have been a disappointment because of slimmer exploration
pickings and lack of access to new areas. All you need to do is look at the
difficulty ExxonMobil (xom), BP (BP), and Royal Dutch Shell (RDSA) are having in increasing their oil production. Horsnell
thinks 2008 may be the year when there is no increase in supply at all from
countries outside of OPEC, leaving the world even more at the cartel's mercy. It
used to be conventional wisdom that higher prices would crush demand and boost
supply, but that hasn't proved to be the case.
The new dynamics, he argues,
are better seen in prices for oil to be delivered in five to seven years than on
the volatile nearest futures contract, which grabs headlines. In 2007, near-term
prices gyrated all the way between about $50 per barrel and nearly $100 per
barrel. But since 2003, the long end has been moving steadily upward, to nearly
$90 per barrel now for oil to be delivered in seven years. Horsnell believes
that such long-range prices represent "the market's view of the long run,
sustainable price."
The oil analyst doesn't expect the fundamentals that are
driving up prices to change anytime soon. No massive new sources of energy are
likely to come on stream. Other options such as Canadian tar sands are
environmentally ruinous, or in the case of biofuels produced from corn, push up
food prices. Horsnell doesn't see any relief.

Source: http://www.businessweek.com/magazine/content/07_53/b4065055254967.htm