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Energy: Follow the Invoices

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Follow the money. In this case, follow the petrodollars.

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In answer to any question about good versus evil in the markets, one of the best traders I know likes to say "That all depends on where you look". He and I caught up with each other this weekend and chewed once again on a trade we each have on in a few different flavors – that despite how crowded the Energy sector may have become after an almost-market-quadrupling outperformance year-to-date return of +29%, there remains an underestimated consequence or two in our view.

Friday Night Lights

From a press release I got e-mailed to me Friday night, which got my weekend off to a good start…

Motiva, a joint venture between Shell and Saudi Aramco, has announced plans to double the processing capacity at our Port Arthur Refinery to 600,000 barrels a day. This expansion, which is expected to be operational in 2010, would make Motiva Port Arthur (Texas) the largest crude oil refinery in the country and one of the largest in the world. The 325,000 b/d expansion at Port Arthur is equivalent to building the first new refinery in the U.S. in more than 30 years.

This project is expected to generate about $17 bln of new economic development in Southeast Texas. Construction will require about 4,500 jobs in the first estimate I have seen (I'm taking the 'over'). So, we interrupt our regularly scheduled broadcast of the housing collapse with another reason why all real estate prices are simply not heading down. The amount of petrodollars being printed around the world is game-changing for some areas and certain investments for a large group of bidders flush with cash.

Collateral Rally

I have never been disagreed with as much as earlier this year when I shared a simple story ironically with very little op-ed attached, about pockets of real estate not declining but actually appreciating, particularly around the Energy corridors that I had a front row seat for in Houston. I made no bold calls, rather I just shared an example (one of many I've witnessed) of a friend who was trying to buy a seven-figure home after offering full price, paying for all closing costs, and waiving any option period. He came in third place.

Several folks pointed to all the areas where that was not happening. That is precisely why I shared it. The crowded trade is, by definition, obvious. I am no real estate expert. During any number of pasta-induced comas this summer in Italy, Professor Zucchi forgot more than I'll ever know about real estate. His opinion and many others much sharper than my own are far more important to people than mine is. Just don't forget to keep some predictions in proper context if they cluster around the Northeast, where there has been a net outflow of population.

I am a trader, nothing more, and I shared something I saw that I believe was and still is underestimated – the length and strength of the Energy rally spilling into a few pockets not often discussed nationally. If my minority opinion and examples were helpful to anyone looking for an inconsistent view in a consistently deteriorating macro lens then I am glad I shared, and I'll do it again. That same friend offered yet another conflicting set of data this weekend. He built a beach house near this refinery project above, along a completely unremarkable stretch of coastline. With no sign in front, he answered a knock on the door and received an unsolicited bid. The all-cash buyer owns an energy equipment company, and now a beach house. My friend owns a tidy profit.

How good is business for these guys? It was not but a few hours later that I was playing hoops with a guy in the same business just up the road a bit who told me, "The cost doesn't matter at all now, my customers just want delivery and will pay anything." I share this admittedly very narrow window because I believe if you substituted my two conversations with a few good ole country boys down here in Texas with a few countries from the Middle East instead, and added several zeroes to swelling treasure chests, then you might believe, as I do, that potentially explosive bids are coming soon to an industry, building, toll road, or stock market near you - from petrodollars that may be substantially underestimated by bears on each.

Engineering a Bigger Backlog

Unless you know a broker in Beaumont/Port Arthur that has a run-down icehouse they are looking to sell for a song (call me) then let's move back into the only area where I really know what I'm talking about, and to the industry that remains the most direct beneficiary to projects like this one above.

While the attention remains on the refineries on Wall Street, understand that ultimately news like this will result in an increase in much needed supply of gasoline – which speculators in these shares would have you believe has no chance of ever increasing. Instead, I'll stand by the position and positions I shared here that there may be a better trade – the engineers hired to do all the work in the refineries.

I shared the fact that backlogs of orders could be found that were worth more than the entire market capitalizations of certain stocks. I believed that the firms hired to work at the refineries provided a better trade than the refineries themselves, only made better by the fact that they were lightly followed on Wall Street. Since the day MV ran that article, April 10, 2007, those seven engineering firms are up an average of +65% each. The most popular refining stocks Valero (VLO) and Tesoro (TSO), by comparison, have together turned in a 0.0% return since then. The engineering work on the Motiva project just announced was awarded to Jacobs Engineering (JEC) which remains my longest position in the space.

I shared this past Friday that the cleanest take-away from the Fed rate cut, in my book, may prove to badly miss the two targets many believe were helped the most – Banks and Borrowers (I remain under-weight or short each) – rather it may fuel further rallies in "stuff" instead. Natural resources that are sold in dollars-just-made-cheaper may be more expensive in a few months and if I had to guess – a lot more.

Follow the money. In this case, follow the petrodollars. They may create their own bull markets in many markets, towns, and stocks.

Position in JEC.
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