Oil's Ascent Keeps Majors on the Offensive

Analysts like the big oil stocks even when they think the price of crude is due to decline.
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Talk about $50 oil is starting to sound so yesterday.

Ending months of speculation -- and misplaced warnings about a severe "correction" -- oil broke through the $50 barrier this week and, in fact, kept barreling right toward $51 on Tuesday. Oil stocks, still shunned by some on Wall Street, followed that same upward path.

ConocoPhillips

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, which offered a sneak preview of its third-quarter performance on Tuesday, surged to an all-time high. Other super majors, including

BP

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and

ChevronTexaco

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, approached fresh records of their own.

Oppenheimer analyst Fadel Gheit says that investors are simply chasing winners now. He says that oil stocks have risen 30% in a year when the market has remained largely flat. But he still worries that the "energy bubble" will burst.

"People are convinced that they are going to be smart enough to bail out before the crash," Gheit said. "But that's the same thinking of people who invested in Internet stocks a few years ago."

Like many, Gheit has been wrong about oil prices so far. He believes that unfounded fears about supply disruptions have driven oil to unreasonable -- and unsustainable -- levels. Thus, he continues to forecast a major price reversal even as oil keeps climbing higher.

Gheit notes that dot-com doubters were considered wrong for years before they were finally proven right.

"Trees don't grow to the sky," he said simply. "Fifty-dollar oil is like an uninvited guest. You may have to put up with it for a while. But eventually, it will leave."

Better Company

Still, even Gheit recommends buying the super majors right now.

He calls it "the lesser of two evils." He believes that energy prices will crash and, when they do, investors will bail out of the exploration and production sector -- most influenced by energy prices -- and into the more diversified super majors. Therefore, he suggests buying companies like ConocoPhillips ahead of that shift.

Even Prudential analyst Michael Mayer -- who is neutral on other oil majors -- likes ConocoPhillips. He says the company has "fully delivered on the merger synergies" it promised when Conoco and Phillips united. He, therefore, expects the company to begin trading more in line with its peers.

Just last week, Mayer actually raised his price target on the stock from $85 to $87 after ConocoPhillips announced its successful bid on a stake in Russia's largest oil company. He noted that the acquisition will increase ConocoPhillips' exposure to promising oil markets in both Russia and Iraq. He expects the acquisition to boost the company's earnings by 25 cents a share next year alone.

In the meantime, ConocoPhillips has issued an update about its third-quarter performance. The company said on Tuesday that it benefited from higher worldwide crude prices during the latest period. However, it also said that production fell from second-quarter levels, "as anticipated," along with refining margins and natural gas prices.

The news -- largely expected -- took a back seat to oil prices, however, as the company's stock jumped 2.1% to $86.45.

But

Marathon

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missed out on the industry bounce after publishing an update of its own. The company warned that third-quarter production would fall below previous guidance due to hurricane damage in the Gulf of Mexico and other unplanned events. It also said that volatile gas prices in the U.K. have led to another big mark-to-market loss. Mayer blamed a similar loss for an earnings miss in the second quarter.

Going forward, Marathon said it now plans to classify such mark-to-market changes as special items. Marathon's stock -- a rare loser in the group -- slipped 12 cents to $41.57 after the report.

Mayer is neutral on the stock because he believes the company, like other energy players, could suffer if oil prices fall. He, therefore, suggests that investors wait for that decline before they plunge into the stocks.

Waiting Game

But investors may need patience. Many people -- including some inside the industry -- expect oil prices to remain high.

"The price where we have been the last three or four months is not an anomaly anymore," says Mickey Thompson, president of the Oklahoma Independent Petroleum Association. "It's not a record, either. ... Nobody talks about record coat prices or record shirt prices. They just talk about record oil prices -- even though, adjusted for inflation, oil prices would have to be around $75 a barrel to be a record right now."

Still, Gheit insists that oil prices must fall. If nothing else, he says, the cure for higher oil prices may prove to be "higher oil prices." When oil prices rocketed in the past, he says, big users found ways to consume less of the fuel. He says that refiners, for example, modified their equipment to cut their consumption in half. And he says that "big smokestack energy guzzlers" are already in the process of employing similar upgrades.

"We are seeing very clear signs of demand destruction," Gheit says. "The horse has already left the barn."

Thus, Gheit believes that the familiar energy cycle -- busts and all -- will continue. But Thompson, for one, has his doubts. He says that worldwide oil demand is "just about to outstrip our ability to produce." During past booms, he says, companies enjoyed the manpower and equipment necessary to simply ramp up production and increase oil supplies. But he says that oil busts wiped some of those resources out.

"The roller coaster has caused a good bit of the oil industry to go away in this world," he says. So "the roller coaster may be over."