Oil - Slip Slidin' Away

Rising oil prices can be either positive or negative depending on the reason for the high price. High oil prices due to a shortage or production and supply can be catastrophic. Currently there is enough oil production, albeit with not a large margin for error. But in fact world oil production is increasing and inventories are robust. In fact, oil prices have risen due to the strong, synchronized economic growth around the world. This strong growth is extremely positive and can absorb high oil prices.

Oil topped $90 a barrel last week. In no way do the fundamentals of supply and demand support $90 oil. There continues to be a $15 to $20 terror premium on the price of a barrel of oil. But even backing out the terror premium oil is still too high.

Tensions between Turkey and Kurdish radicals in northern Iraq continue to be extremely high. Secretary Rice has managed to get Turkey to hold off on military intervention in northern Iraq - for now.

Hopefully Nancy Pelosi's stupidly lame attempt at foreign policy with her "Armenian Gambit" will not inflame matters further than than it already has. Perhaps Nancy does not know that an important oil pipeline transporting oil from Iraq runs through Kurdish Iraq and Turkey. Perhaps she also does not know that the heavy armored vehicles needed by our soldiers are reaching Iraq primarily over land routes through our NATO partner Turkey. Perhaps she does not know that the Ottoman Empire no longer exists.

Barrons this week highlights an opinion by Oppenheimer & Company that argued oil prices are primed for a downturn. They also anticipate that an attack on Iraq by the United States could come within a number of months. Of course this would result in a spike in oil, but as Oppenheimer stated, "Iran needs oil export revenues more than the world needs its oil exports."

I am strongly considering shorting oil via the USO ETF Monday and perhaps shorting Exxon as well. I believe oil has overreached and is due for a pullback.

I am also hopeful that refining margins will improve. After a nice move up after the late summer lows refiners have pulled back a bit. Cracking spreads are under pressure because gas prices have not kept up with oil prices. A pullback in oil could actually increase cracking spreads and give a lift to refiners. The period from September to June is historically the be time to own refiners.

Disclosure: at the time of this posting the author was long DVN, VLO and TSO.