Buy Into the Energy Conundrum

This column was originally published on RealMoney on Aug. 17 at 10:00 a.m. EDT. It's being republished as a bonus for TheStreet.com readers.

There's a conundrum in the energy sector.

Most energy traders and strategists project that Nymex crude oil will eventually rise to $100 a barrel. At the same time, Wall Street analysts say that energy stocks are cheap, with many companies trading at levels associated with $50 oil, or lower.

My models agree with the analysts, and suggest that this is a good moment to add to holdings of several oil-related names on weakness.

My model also suggests that crude oil may have peaked at $78.40 on July 14. The number of energy stocks rated a strong buy according to ValuEngine is declining and the slide in share price of buy-rated energy stocks both support my view that crude oil is more likely to trend toward $50 than $100.

I have a contrarian view of the commodities markets.

Most economists and strategists say that the rally in commodities over the past five years is the beginning of a new cyclical uptrend.

I say that the spike in commodity prices is a one-time speculative bubble, caused by low interest rates set by central bankers around the world in response to the 9/11 attacks. This would explain why bubbles in many commodities popped immediately following the Federal Reserve's rate hike to a 5% fed funds rate on May 10.

This also would partially explain the energy conundrum. My model shows semiannual support for Nymex crude oil futures of $70.89. That has become a pivot now that crude has traded below that level.

The change isn't a significant negative unless the contract ends the week below that price. My model also shows quarterly resistance at $77.56 and at the July 14 high of $78.40. Monthly and quarterly resistances are $81.10 and $84.53, which are projected to be the best-case highs; if those prices aren't achieved this quarter, it will suggest a market top.

If you take away the speculative forces still in place because of Fed policy and the oil premium caused by geopolitical risks and the hurricane season, crude oil might now be trading right at my annual support of $51.87 -- in line with where energy stocks are trading.