Most every headline, value and technical indicator shows that this market is headed for the toilet.
GDP for the recent quarter just got cut from 3.5% to 2.8%… Real unemployment is nearly one in five… Consumer Confidence is below the critical “50” threshold for the second month in a row… Freddie Mac loan defaults just spiked to an all-time high at 3.54%… Banks are failing at a record rate and the FDIC is flat broke… P/E for the Dow Jones Industrials is over 18%… Blue Chip chart momentum is falling and MACD is calling for a major dip…
Yup, most every indicator but one really stinks right now: price. The S&P 100 (OEX) has set a new 52-week high three out of the past ten trading days.
What All this Economic “Gibberish” Means
There’s a couple of different ways to explain the apparent disparity between sanity and reality.
GDP may have been cut some 20%, and even that paltry growth was purchased by taxing our great-grandchildren. But it is up, and that’s something we haven’t been able to say for the past year and a half.
Mortgage defaults are still climbing, but home sales were up for the second month in a row in October. In fact, they are now at a 2 1/2 year high point. And the tax credit that drove them up that high just got extended out to next spring.
Consumer confidence may only be 49.5, but it is up compared to the previous month’s reading of 48.7. That awful unemployment figure? Well, it’s probably the only thing that’s keeping inflation at bay right now, ’cause the dollar hasn’t been this low since the summer of 2008.
As for those technical sell signals, we’ve seen the same set up five times since mid-July. Each yielded about ten down days, before returning to the same crazy angle of attack that has been in place since that big long-term buy signal confirmed this rally.
And quite frankly, every time we have shorted this thing, we have gotten spanked. We are still holding onto two sets of DIA puts with strike prices at $95 – the rough equivalent of DJIA 95,000. The Dow is currently around 10,400 as I sit to write. I don’t regret suggesting them. After all, that incredible economic overhang could catch up to us at any moment. An occasional put is simply prudent.
But somehow, I am just not in the mood to step in front of that bus again right now.
Going long in a market that has risen pretty much nonstop for the past nine months becomes a bit of a challenge, though.
Why There’s Still Money to Be Made on Energy
But one sector that I think you need to focus on right now is oil and gasoline.
The usual suspects, like Exxon Mobil (XOM:NYSE) and Chevron (CVX: NYSE), have already priced in oil at $80. The trick here is to find a latecomer, a company that has drunk the “Happy Days Kool-Aid” just yet.
Recently in one of my Taipan Daily issues, “Oil May Look Placid on the Surface – But It's Roiling Underneath,”I wrote how several American gas refiners were shutting down operations, while overseas, China was looking to secure their supply against an expected 1.54% increase in global consumption come 2010.
Seems that many of the older inefficient refiners have been unable to adjust to the swings in Stateside demand, and are losing millions of dollars a day. Unfortunately, these permanent closings are leaving them stranded on the shoulder as Americans return the roads. And they are returning: AAA is already forecasting a 1.4% Y-O-Y increase in trips over 50 miles this Thanksgiving.
So what have we got here? Shares for the whole sector have been punished, volume is reversing, and the weak hands have stepped aside. Now that’s an opportunity.
How to Profit Today From the Energy Sector
At the suggestion of WaveStrength Options Weekly’s co-editor Bryan Bottarelli, I took a look at the chart for Tesoro (TSO:NYSE)… and I must say that it has all the elements of a sweet play: price is indeed down, but we have a nice rounding bottom and the beginning as a new rising trend. It took a while, but we even have a confirmation signal from Money Flow.
I’ve marked off a rally to $25.68 as a Black Swan event, but I must point out that this is NOT some kind of crazy break out, just a relatively strong move within the already established rising trend.
What’s really cool is that TSO’s beat down price means that we don’t need even that move to make remarkable profits. And unless I’ve calculated something wrong here, a mere cyclic uptick to $20.17 could put investors into a nice double-digit gain relatively quickly.
Background on Oil Refiner Tesoro
When it comes to Tesoro, the best way to describe it would be that of a “fallen angel.” I’ll explain why in a moment, but for now…
In the most simplistic form, refining companies (like TSO) buy crude oil, process it into refined products, and attempt to sell these refined products for more than their entire production costs. In terms of their business, Tesoro operates in two segments: Refining and Retail.
- Refining: This segment processes light and heavy crude oils into gasoline, jet fuel, and diesel fuel. To accomplish this, TSO operates seven petroleum refineries in the United States with a combined crude oil capacity of 665 thousand barrels per day.
- Retail: This segment sells gasoline and diesel fuel through a network of 389 retail stations - which operate under the names Tesoro, Mirastar, Shell, and USA Gasoline. They also have 490 branded stations that are operated by independent dealers.
If you look at TSO’s recent earnings, you’ll understand why the stock trades for only $13 per share.
For Q3 2009, Tesoro earned 24 cents a share - compared to $1.86 a year ago. So obviously, refining margins remain depressed right now – which can be attributed to restricted industrial environment and high unemployment. But if we see any sort of recovery in 2010, TSO can come roaring back. That’s why today’s $13 share price looks so attractive.
For example, TSO shares currently sell for less than 25% of anticipated 2009 revenues. They also sell for nearly half of their book value. Since no oil refinery has been built in the U.S. for decades, TSO has a competitive advantage that cannot be overlooked. And don’t forget, the refining business remains an extremely valuable way of life. Unless you feel that people will stop driving, the need for gasoline will remain fixed for years to come.
Some Valuation Metrics on Tesoro
With a market cap of $1.8 billion, TSO’s trailing P/E of 13.18 looks extremely undervalued. With an income statement that shows trailing three month revenues of $16.06 billion, that amounts to $116.49 in revenue per share. And remember, we’re talking about a stock that currently trades for only $13!
Now I admit, their quarterly revenue growth (year over year) has declined -45.80%, as I noted above. This is why the stock is so cheap. But when you consider the fact that TSO has gained 53% over the last 52 weeks (far outpacing the 29% gain of the S&P 500), you can see that any sort of recovery can blast shares higher very quickly.
What’s more, TSO’s operating margins are the best in the business. Tesoro's 2.2%, margin is better than Sunoco and Valero, who each come in at 1.8% and 1.7% respectively. And it blows away Frontier Oil's margin of 1.1%.
Put it all together, and it’s easy to see why our WaveStrength Options Weekly charting system has forecasted a move up to $20.17. And from its current price, that could offer you a cool 50% gain.
Action to take: Consider Tesoro (TSO:NYSE) for your portfolio.
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