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Warning: Spiking Oil Prices Could Crush These Sectors

Wednesday, June 18, 2014 - 10:00am

Four decades ago, a move by OPEC to curtail exports led to a surge in oil prices that pushed the global economy into recession.

And history repeated itself six years ago when the demand side of the equation led to a similar "super spike" in oil prices. West Texas Intermediate crude (WTIC) oil briefly moved above $140 a barrel in July 2008, which some economists believe was a key catalyst behind the sharp economic slowdown later that year.

As we head toward the midpoint of 2014, both the supply and demand part of the picture are starting to look worrisome. And though crude oil has made a fast move toward (and past) the $100-a-barrel mark, it won't take much to push prices past $120 a barrel -- and investors should be thinking about the ramifications of such a move.

Libya And Iraq Heat Up
The downfalls of Libya's Muammar Gaddafi and Iraq's Saddam Hussein were great news for democracy advocates, but we're now seeing that these countries have very troubled futures.

Both countries now have very weak central governments, and their ability to meet their oil export quotas is becoming a key concern. In Libya, for example, daily oil output had moved above 1.5 million barrels per day in the wake of Gaddafi's downfall, but stands at just 250,000 barrels a day right now. As The Wall Street Journal recently noted, "In 2010, before Libya blew up, the IEA (International Energy Agency) forecast that country to produce more than 2 million barrels a day in 2015. Now, it isn't seen getting anywhere near that even by 2019."

Political troubles in Nigeria and Venezuela could further muddle the supply outlook. Taken together, Libya, Iraq, Nigeria and Venezuela account for more than 40% of OPEC's proven crude oil reserves, according to a 2012 IEA analysis.

Meanwhile, as the U.S. economy strengthens in coming quarters, demand for oil is expected to accelerate. The IEA notes that global oil demand, which has risen from 89.2 million barrels of oil per day in the first quarter of 2012 to 91.4 million barrels of oil per day in the first quarter of 2014, is expected to surge to 94 million barrels a day by this year's fourth quarter. If the IMF is correct that the U.S. economy will grow at a 3% pace in 2015, boosting economic activity among our trading partners in tandem, then global demand could rise past 96 million barrels of oil per day.

One of the most obvious impacts of rising crude oil prices is at the gas pump. Back in 2008, gasoline prices moved above $4 a gallon, which led directly to a slowdown in discretionary spending. Industries that focus on middle-income consumers, such as fast-casual dining chains, couldn't maintain sales levels when consumers ended up spending more money at the pump. Right now, gasoline prices are about $3.64 a gallon, according to GasBuddy.com, but a $15-per-barrel move higher in crude oil would likely push that figure toward the $4-a-gallon mark.

Many of the fast-casual dining chains are already wrestling with rising food costs. Chipotle Mexican Grill (NYSE: CMG), for example, has seen its 2014 earnings per share (EPS) outlook trimmed from $12.92 a share three months ago to $12.58 today. (The fact that shares trade for 47 times projected 2014 profits makes Chipotle especially vulnerable to any gas pump shock that impacts consumer spending.)

Speaking of rising gas prices, GM's (NYSE: GM) failure to deliver major efficiency gains in its new line of pickup trucks, while both Ford (NYSE: F) and Chrysler have, could portend market share losses if gas prices reach $4 a gallon. (Ford's new aluminum truck will go on sale later this summer.)

Perhaps no industry is more vulnerable to rising crude prices than the airline industry. Analysts have yet to alter their earnings estimates as oil prices have risen, but if prices stay in triple-digit territory as earnings season unfolds a month from now, prepare for a raft of downward earnings revisions. And against that macro backdrop, its best to steer clear of the industry's most troubled carrier, United Continental (NYSE: UAL).

Back in March, I suggested shorting UAL, noting that "a $0.15 move in jet fuel prices could negatively impact EPS by roughly $1.50." The 2014 EPS outlook for UAL has been trimmed by about 10% since then (to $3.90 a share), but that's mostly due to tepid revenue gains for the carrier.

To be sure, surging crude oil prices would create an opening for solar and natural gas stocks. The Guggenheim Solar ETF (NYSE: TAN) is making a fresh push towards its 52-week high. In a just-released report titled "Dawn of a new solar era v.2," analysts at Goldman Sachs predict that "the potential upside for solar appears significant, particularly as costs continue to move lower and solar can address more utility territories." The days when low fossil fuel prices undermined the case for solar appear to have passed.

Natural gas stocks are also seeing fresh interest as crude oil surges. Natural gas engine maker Westport Innovations (Nasdaq: WPRT), which has been dogged by concerns over the pace of industry adoption over the past year, has rebounded nearly 30% since May 1. Natural gas filling station operator Clean Energy Fuels (Nasdaq: CLNE) has rebounded 25% in that time. Both of these stocks are far from their all-time highs, though the steady rise in crude oil prices means that they deserve a fresh look.

Risks to Consider: Rising crude oil prices have a built-in self-correcting mechanism: Higher energy costs would slow the global economy, which would curtail demand for energy.

Action to Take --> Although near-term crude oil prices have surged, long-term delivery contracts have barely budged in price, highlighting a high degree of complacency. Yet with demand rising and supply interruptions increasing, such complacency appears unwarranted. Make your portfolio adjustments now, before the prospect of higher energy costs starts to take its toll on various industries.

In contrast to the halting production in Iraq and Libya, my colleague Dave Forest just returned from a fact-finding trip to what could be the world's first $1 trillion boomtown situated in the center of massive new oil and gas deposits. Several oil and resource mining companies -- including one that's up 1,500% in the past year -- are poised to make billions from this under-the-radar hotspot. To get access to some of the stock names and ticker symbols Dave's recommending, follow this link.

David Sterman does not personally hold positions in any securities mentioned in this article.
StreetAuthority LLC does not hold positions in any securities mentioned in this article.