The Oversold Oil Patch

By Dr. Duru written for One-Twenty

June 23, 2006

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Sometimes I wish I could write these "missives" full-time or at least on a more regular basis. This week was case in point. All week I am noticing that gas prices and oil have pretty much stabilized right below recent highs. Yet, almost everywhere I looked in oil & gas patch I saw broken down stocks. Many that have beaten up much more than the general market - like tech stocks! Anyway, on Wednesday night, it finally dawned on me to check on the percentage of stocks in the oil & gas patch that were below their individual 200 DMA's. I chose the 200 because most of these stocks had long since dearly departed below the 40 and the 50 DMA. (You will recall how checking in on the "T2107" and "T2108" statistic can tell you how oversold, or overly negative, the market has gotten. TraderMike also periodically reviews this indicator. Click here for a review of T2108 during the last bear market.) Sure enough, I discovered that the select universe of oil & gas stocks I look at were well below the market's average. The general market had rebounded a bit to around 40%, but my stocks were languishing at 25%! I did not report on it at first because I thought there could be bias given my partial view into the patch. Next, I took a look at the IYE, iShares US Energy Sector. I found similar results. I thought I might be onto something, but I neither had time or inclination to think through what to do about it. And I am not alerting you until after the oil and gas patch made a monster move today. This move is particularly significant because it happened on a day when the major indices closed flat. It lends credibility to the notion that the negativity in the oil & gas patch was finally overdone.

So what happened? Escalation in the Iranian nuke crisis? A refinery blow up? Hurricances? A coup in an oil-rich land? Nope! The price of oil even remained relatively flat on the day. Instead, it was Anadarko's (APC) monster acquisition of two oil & gas companies: Kerr-McGee (KMG) and Western Gas Resources (WGR). APC is paying some large premiums too. KMG soared 31% on the day, and WGR grabbed another 46% out of thin air. This is the clearest signal you can get that this sector is currently under-valued. Do not make any nonsense predictions like "peak oil" as many of the bears and skeptics did when Chevron paid up for Unocal and the like. Sure, oil may still be in for a big correction given the constant reports of building supplies and inventories. But the stocks of the related companies seem to have been getting ahead of this possibility. So, at least right now, many of these stocks look way too cheap. APC has jumped at some bargains. Who might be next?

Just based on the price and technical moves today and my general knowledge of these companies, I will give you a handful of names to look into: UPL, SWN, ESV, PXD. There are many more, and I am not giving any specific recommendations here, so please do your own research. And finally, here is an interesting oddity. Omni Energy Services (OMNI) is actually scraping at multi-year highs. In direct opposition to the rest of the oil & gas patch. For the month of June, I noticed that the stock has sold off on Mondays and Tuesdays only to come roaring back for the rest of the week (recall that the oil inventory report comes out Wednesday mornings). I realize that just by noting this pattern, I may also be calling an end to it. But I thought I would mention it just in case you can benefit! (See my disclaimer here)

Be careful out there!

DrDuru, 2006