Where to Invest Before Oil Hits $200

Published in Investing on 16 November 2011

As the world runs out of cheap oil, some companies are set to prosper.

With headlines filled with eurozone debts, US downgrades, French almost downgrades, rioting Greeks, Berlusconi (when isn't that man in the headlines?) and X Factor scandals, you could be forgiven for missing the fact that oil has traded above $100 per barrel since February.

Yes, despite signs that the US is struggling to grow, Europe may be on the precipice and China's awesome growth engine may be straining, oil hasn't dipped below the century mark in nine long months. Some of this could be blamed on the turmoil in the Middle East and specifically Libya, but I think it is more a reflection of supply and demand.

The end is coming… eventually

Even if we are in for another global economic slowdown, the fact remains that the hunger for oil is going to increase as billions of people move up the income ladder and pursue the modern conveniences we in the West take for granted. China overtook America as the largest market for cars last year and still has fewer than 1 vehicle for every 200 people (and the country has more than a billion people).

I'm not saying we are on the verge of running out of oil -- we're just running out of cheap oil. It is becoming more and more difficult (and expensive) to find the stuff, and that's before you pump it out of the ground.

In 2007, Brazil made the largest oil discovery in 30 years -- and it was hailed as proof that God is Brazilian. These vast oil reserves -- estimated at 50 billion barrels -- could very well push Brazil into a new economic realm, but the oil is more than 6km below the surface of the ocean. It is going to take a lot of time and money -- estimates for exploiting these reserves come in trillions of dollars -- to make this oil dream a reality.

In the meantime, global demand continues to grow from today's 32 billion barrels per year. And this is why I'm convinced oil climbing to $200 is our future.

Show me the money

So how can you, the ordinary Fool investor, take advantage?

Sure, you could speculate on small-cap oil drillers. In the past year, some have paid off nicely. But they are a risky way to play it.

For every Regal Petroleum (LSE: RPT) and Lansdowne Oil & Gas (LSE: LOGP), which have seen their share prices jump 194% and 286% respectively in the past year, there are more than a few like Desire Petroleum (LSE: DES) and BowLeven (LSE: BLVN), which have seen their shares drop 65% or more.

The safer bet would seem to be the majors, such as BP (LSE: BP) and Royal Dutch Shell (LSE: RDSA), as rising oil prices should provide higher revenues while their size and diversity should provide some stability. Unfortunately, the relationship between their share prices and the price of oil doesn't seem to hold up well. This is partly due to the cost of replenishing reserves.

When you're as big as BP and Shell, you simply can't afford to waste time on drilling and developing small wells. Instead, you have to acquire proven reserves from other explorers... and when oil prices are high, these don't come cheap.

Where I'm looking

As a co-manager of The Motley Fool's Champion Shares PRO real-money portfolio -- and a stock-picker helping develop The Motley Fool's latest investment service -- I never stop trawling the market for the very best money-making opportunities. In my experience, it always helps to have investments supported by a tailwind, and I'm convinced there's no better tailwind than the world's growing demand for oil.

So here are some possibilities I'm considering... before oil ever climbs to $200.

Equipment suppliers

Drilling for oil is a risky business, but providing the tools the drillers need is a less risky way to play a rising oil price -- invest in the picks and shovels, as they say. Companies such as Weir (LSE: WEIR) and Rotork (LSE: ROR), which provide the pumps and valves used to drill and operate wells, are a good place to start in my book.

You could also look at companies such as Petrofac (LSE: PFC), which provides services to oil drillers throughout the lifecycle of a well -- from designing to building to operating to decommissioning.

With P/Es ranging from 17-21, these three may not look classically cheap, but $200 oil should provide them with solid growth prospects. You may want to start with a small position and take advantage of dips (because the road to $200 won't be a smooth one).

Substitutes

One thing that $200 oil should do is create substitutes. Electric vehicles have fallen out of the headlines recently, but make no mistake -- they are coming. Two-thirds of oil in the US is used for transportation, and $200 oil should seriously impact the auto industry if it doesn't adapt. China is also pushing forward on green vehicles.

But where will you get electricity for these vehicles? Coal and natural gas, most likely. This makes companies such as BHP Billiton (LSE: BLT) and International Power (LSE: IPR) -- or even better, its parent GDF Suez -- interesting candidates.

BHP pulls coal out of the ground in Australia (and elsewhere). China will be using massive amounts of coal to power its economy in the coming years. Australia is close to China. I like this equation.

International Power operates power plants around the globe, including 28 gas-fired plants in the US. Given the greater concern for so-called 'carbon footprints' in Western countries, having cleaner-burning electricity production ought to come in handy down the road.

Starting drilling

Oil, I'm sure, is heading towards $200, but it won't be the end of the world. Looking at the ripples the end of cheap oil should create is a good way for us to prepare our portfolios for the future.

These are a few ideas, but they are just a start. Now you can go out and drill down for some of your own -- and/or await the suggestions I may put forward when The Motley Fool's latest investing platform launches next year.

As a special preview, here's our latest special report for interested investors -- 3 Shares We're Ready to Tip -- it's yours with my compliments. 

Happy investing!

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> The Motley Fool owns shares of BHP Billiton.

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Comments

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BarrenFluffit 16 Nov 2011 , 1:40pm

There's also an investment company on aim which invests in rig finance if you want to follow the supply chain route.

eccyman 16 Nov 2011 , 2:11pm

Not a word about shale gas/thorium reactors/oil from algae....

TMFTheSnake 16 Nov 2011 , 3:36pm

eccyman

Those would all fall under substitutes, and WEIR and ROR both benefit from the development of shale gas.

As for thorium reactors and oil from algae, they are a bit further down the road and picking the winners there isn't far off from picking which small cap explorer is going to hit a gusher.

If you have particular insight into those fields, by all means share.

reinvestmentman 16 Nov 2011 , 4:54pm

Oil at $200 per barrel.Mm interesting.I would hazard a guess at those levels,demand would be highly compromised thus keeping prices down even with "easy" oil running out.This would in turn encourage speedier development of alternatives if $200 per barrel was realised.In the end it comes down to market forces.Nobody will drive far when it would cost £120 to fill up the average family car.My suggestion would be investing in Halfords as a lot of push bikes would be sold at oil $200 per barrel ;-)

baddy90 16 Nov 2011 , 6:07pm

Rockhopper, Xcite, Gulk Keystone, Soco, Enquest...

You're never going to make any money in BP, Shell etc.

ANuvver 16 Nov 2011 , 7:56pm

Really?

(Up 18% on RDSB since August. Plus YOC of 5.4%.)

whiteboy01 16 Nov 2011 , 8:17pm

What about Schlumberger or Haliburton? They have the size and the reach to make a major impact over the next 30 years.

Summerwood 16 Nov 2011 , 8:50pm

Or AMEC ? Quite a a strong choice I think. Debt/Assets 0%, Altman Z score 6, Piotroski score 7, forward PE 9.9 (at 07/10/11 data from MoneyWeek)

snoekie 16 Nov 2011 , 9:34pm

I bought into Afren a few weeks ago and have since added more when it was falling, my last being @75p, now 96p.

I have some BP, but missed the chance for more when they were in the £3.70s range, I was being too greedy.

martynmf 16 Nov 2011 , 11:03pm

Watch out for this wildcard, it could be a world changer. An Italian engineer, Andrea Rossi, has built and demonstrated a working low energy cold fusion reactor. So far this only produces heat in the form of super-heated steam which can be used for commercial and domestic heating purposes - impressive enough! However, he is currently working on units which will use the steam to produce electricity. His company Leonardo Corporation have already sold a 1 megawatt heating plant installed into a standard ISO shipping container. This was after independent testing by the customer who was apparently willing to pay $2 million for it. The device is called an energy catalyzer or e-cat.

These are worth following up:

http://www.journal-of-nuclear-physics.com/?p=510#comments - Andrea Rossi's blog with comments.

http://www.nyteknik.se/nyheter/energi_miljo/energi/article3303682.ece - Swedish engineering article after the public test on 28th October 2011.

http://ecat.com - New official website

If this works the market for oil and gas may eventually take a massive hit.

andersng 17 Nov 2011 , 12:05am

If it works then he's already cracked the problem. Most power stations use whatever fuel they take to generate steam which then powers the turbine generators, so converting steam to electricity is proven technology.

What percentage of crude oil is used for non-transport purposes such as plastics, chemicals and pharmaceuticals? If the crude oil price stays high, then technology to turn coal/algae/something else into oil becomes economic - so who has the patents on coal conversion technology?

snoekie 17 Nov 2011 , 3:28am

Probably 10 years before the kinks worked out.

I can see the power hungry industries will probably want their own generation plants, but cheap it will not be for at least 20 years to allow for recoupment of capital costs.

TMFTheSnake 17 Nov 2011 , 8:08am

andersng

The South African company Sasol is the largest player I know in coal-to-liquid and gas-to-liquid activity. However, the Fischer-Tropsch technique they employ isn't patented. I know the US also has the capability - it just hasn't been economical to use it yet. The Chinese are also building a few plants of their own.

One big problem with coal coversion is the massive amounts of water and energy needed to do it. I believe Sasol's major CTL plant in South Africa is one of the largest single sources of carbon emissions in the world.

As we see more and more emphasis on green initatives, this is a concern I have for coal transformation technology.

seanfoo 17 Nov 2011 , 9:00am

Another big find off Brazil? Drilling in the Arctic? Combining all those hydro carbons with oxygen to produce CO2 in the quest for energy? Hey, we need that oxygen to breathe! Maybe the next big technology will be the manufacture of oxygen to release back into the atmosphere. An investment for the generation after next?

harold9 17 Nov 2011 , 9:02am

I suggest TOM - sat on millions in oil shale and only 2.5p !

dukindiva 17 Nov 2011 , 9:58am

TMTThesnake ... Fischer Tropsch in Gas to Liquids is the next big thing for fuel production.... clean & relatively cheap. The big boys in that are our old friends Shell & ExxonMobil and they are utilising the vast gas deposits in Qatar & Russia (it's a complete co-incidence that is where the next World Cups will be staged ;-) )

eccyman 17 Nov 2011 , 10:47am

#seanfoo

"Hey, we need that oxygen to breathe! Maybe the next big technology will be the manufacture of oxygen to release back into the atmosphere. An investment for the generation after next?"

It's been done. Plants turn CO2 into oxygen.

#martynmf

Forget cold fusion, it's a myth. But hot fusion may well be viable in the next 20-30 years.

QuantumDealer 17 Nov 2011 , 11:51am

I am surprised to see that BG hasn't been mentioned yet (or Transocean (RIG) for that matter either).

Does anyone out there ever look at Scandi petro stocks such as Det Nor or Lundin Petro? Even Statoil looks cheap.

Additionally, does anyone invest in any oil & gas ETFs or funds, such as Martin Currie Global Energy?

Finally, the EM nations couldn't give a hoot about pollution so fossil fuels will be burnt until they are uneconomic to do so...that will be a long time off, in their book based on reported / discovered reserves around the world.

Disclaimer: owner of most of the above mentioned names in this piece, along with WEIR & PFC.

martynmf 17 Nov 2011 , 12:06pm

Hi eccyman,

Not a myth any more, they are taking provisional orders now with a 3 month delivery period for the 1 MW heating plant.

They are also working on combined heat and electric generation with a conversion efficiency of 30% heat to power - in the same manner as established CHP (combined heat and power) units as used in existing domestic gas heating systems.

This one is not going to go away. Think of PCs, who buys typewriters these days?

Extract from the manufacturer's official website:
http://ecat.com/ecat-questions/where-can-i-get-an-ecat

Where can I get an ECAT?
You can get it right here, on this site, by filling out the inquiry form and specifying what type of product you are looking for. ECAT.com in Association with Andrea Rossi and Leonardo Corporation will then get back to you shortly regarding ECAT 1 MW Plant pre-orders and later in 2012 regarding ECAT Home pre-orders when enrollment plans for ECAT Home has been decided. The small ECAT Home unit will not be available in all countries in the beginning.
The first generation of products offers two choices:
ECAT 1 MW Plant unit. (Available now, delivery time 3 months)
ECAT Home unit ranging from 5-10kW. (Available in 2013)

apprenticeDRL 17 Nov 2011 , 1:56pm

Are you on commission :)

martynmf 17 Nov 2011 , 2:16pm

Re apprenticeDRL

No, I wish!

Just want to see this given a chance to succeed.
With the high cost of energy these days we could all do with a boost.

If anything, some of my investments are in unit trusts that include oil companies so I might actually lose out a bit.

(JPM Natural Resources and Neptune Russia & Greater Russia)

econ103 17 Nov 2011 , 9:36pm

North Falklands Basin

Rockhopper RKH

Sealion, new commercial oil field.,Oil quality compared to Brent crude,talk of new North sea type of development.

Desire DES

Missed on commercial oil on all drills(some gas) ,hope that they strike this week on Sealion that is thought to stretch into their area.
Bombed out stock, but could jump, speculative.

Paul10k 18 Nov 2011 , 2:13pm

If you really believe this cold fusion then make sure you can't reach your cheque book. It's a total scam. Just becasue someone puts some words together doesn't mean its real. If this was really viable the worlds energy problems would be over - they're not.

Paul10k 18 Nov 2011 , 2:15pm

Just look at http://en.wikipedia.org/wiki/Energy_Catalyzer and keep a tight hold of your money ;)

john10001 18 Nov 2011 , 3:10pm

A good well written article that I certainly hope doesn't come true any time soon.

I am still optimistic that we will see relatively cheaper oil in a few months, six months, a year from now and we will question what all the fuss was about. If we are likely to see a decade of stifled growth and high unemployment as a result of the economic troubles in recent times and more troubles that lie ahead especially with the Eurozone then I believe demand for oil will weaken even taking into account China, India and emerging economies in South East Asia with high populations.

I also am not so much a believer in peak oil and think there is a heck of a lot more of it in the ground and under the seas and oceans that we've not yet discovered or tapped into.

As we advance and new technology comes to the fore we will be able to extract oil in more difficult locations that previously was not possible. Oil is a renewable form of energy IMHO and it doesn't necesserily take that long for it to be made. Even thinking of worst case scenarios and if I were to buy into peak oil and the doom and gloom of much higher oil prices, I certainly think that we would adapt and all future cars would then become hybrid so we would need a lot less petrol as our fuel economy would be so much greater.

I think we will certainly see electric motors in a larger percentage of cars in the future a la Prius and Insight etc, maybe even the Kers system they use in Formula One!

Something very interesting the Chinese are working on with their Pebble Bed reactors is these Nuclear Power plants produce a lot of hydrogen as a byproduct of generating electricity to power their cities. They are investigating ways to collect and store that hydrogen safely to use for powering cars all over China. That really would be a perfect solution to our future energy needs.

I still remain an optimist though and think there is a lot of life left in the black stuff yet and also that it wont remain expensive all the time. Supply and Demand is really the key and I think the whole process will be somewhat self regulating and not anything like a doomsday scenario.

I briefly skimmed through a lot of the comments but one company I don't think was mentioned but definitely should be is Suncor and what they are doing with the Oil Sands in Canada.

emptybarrel 23 Nov 2011 , 11:46pm

$200/barrel...hmmmm....try $1,000 a barrel or $2,000 a barrel.

The Arab Spring has yet to migrate to Saudi.

TMFTheSnake 25 Nov 2011 , 9:21am

emptybarrel

The shock value of that many zeroes is bigger, but the economic implications aren't that much different. Perhaps in terms of how fast the transition from the oil age is made, but $200 will already cause significant demand destruction - enough that alernative choices will quickly be adopted.

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