With energy having been on a huge run lately, we have been worrying about some of our allocations within various portfolios. It is time to finally make some adjustments to rebalance risk, lock in some profits and add plays with some near-term upside due to their current value propositions. There is risk in making these moves from long-time winners, but there is also risk in doing nothing, so we have decided to become proactive.
The oil market is beginning to behave much as we thought it would, and that is a good thing as we feel that we have a handle on it for the time being. Our attention has wandered away from the energy complex recently and we are watching the metals, both precious metals and base metals, as we think that might be the next area investors look for a move higher.
Chart of the Day:
It's hard to read the headlines of the past several years and not come to the conclusion that the world, or at the very least the United States, is awash in oil. In fact, the Energy Information Administration announced last week that oil inventories in the United States are approaching an all-time high. Meanwhile, last year, thanks to shale drilling, U.S. crude production rose to the highest level in a quarter century. The United States is set to overtake Saudi Arabia as the world's largest producer of energy.
By most fundamental measures, oil prices should be declining. So why is Brent Crude at nearly $110 a barrel, close to multi-year highs?
As I write in my new weekly commentary, there are a couple reasons that, despite the surge in domestic production, oil prices have reverted back to the upper-end of a multi-year trading range:
The last time I commented on crude (USO), the fundamentals had mixed with wild speculation to make it likely that the prices were headed significantly lower. They did, dropping by 15% or so over the next few months. Since then, most of the carnage was again recovered, and again we're witnessing wild speculation.
Interestingly, this presents a setup where, again, the most likely outcome will be lower prices. Let me explain why.
Much like during 2013, in the chart below we can see that large speculators and managed money are overflowing with oil, at or near historic records (Source: Barchart.com)
(click to enlarge)
Every time this type of speculation peaks, crude peaks as well. It's easier for it to peak again now because, as we'll see, fundamentals are turning against long crude positions in a visible way.
U.S. production keeps increasing