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Mathew Ingram

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No brakes on crude’s wild ride

Mathew Ingram


TORONTO (GlobeinvestorGOLD) - After the kind of ride that crude oil has had - climbing by more than 60 per cent in just the last year alone - many investors are no doubt wondering whether it's time to take some profits and move on to greener pastures. After all, not that long ago investment bankers and stock analysts all seemed to be saying that the oil price was being driven primarily by hedge funds, and would therefore soon collapse back to the $35 or $40 (U.S.) level a barrel. That hasn't happened, of course - apart from a few brief setbacks, crude has continued its climb to almost $70 (a price it briefly hit during trading in August, after the effects of Hurricane Katrina in New Orleans).

Obviously, when any commodity rises at that rate, it pays to be cautious - and taking some profits if you own a lot of oil stocks or commodity-related mutual funds is probably wise regardless of what you think crude will do in the future. That said, however, there are a lot of people betting that oil will remain high - if not move higher - over the next few years, including the International Energy Agency, the U.S. Government and several major investors such as Pimco, which is one of the world's largest institutional investment funds.

A recent Reuters poll of 30 energy analysts arrived at a consensus price forecast of $57.31 per barrel in 2006. While that is lower than the current price, it isn't lower by much - and for oil producers that are still using internal forecasts of as little as $25 a barrel (as some are), $57 a barrel would still represent a substantial boost to the bottom line. The Reuters forecast is higher than the average trading price for crude in 2005 of $56.70, which in turn was the highest average since light U.S. crude (known as West Texas Intermediate) began trading on the New York Mercantile Exchange in 1983.

Although its target is somewhat lower, the IEA also recently raised its price forecast for 2010 substantially from its earlier target. The agency now expects the "nominal" price of crude to be $40 a barrel in four years, up from a previous forecast of just $24. "We had thought that in real terms the IEA import price would be around $24," said Fatih Birol, director of the agency's crude forecast study. But while prices may go down in the next few years "they will go down in a limited manner, and to a much higher level than we had thought," he said.

And if Middle Eastern and African countries do not invest enough in developing their reserves, the IEA said, the price could spike as high as $86 a barrel by 2030. The agency said that Algeria, Iran, Iraq, Kuwait, Libya and other OPEC countries would have to invest more than $480-billion over the next 25 years in order to meet rising demand.

Much of this may not be spent, it said, because of political and economic factors in those countries. Nigeria has already been criticized for not investing enough in its oil production to keep up with demand.

The U.S. government has also raised its price forecast by more than 60 per cent. In December, the Energy Information Administration (EIA) released its 2006 outlook and said it was now using a crude price of $54 a barrel for the year 2025, compared with the $33-a-barrel target it used in its report last year. The department previously forecast that crude prices would gradually fall over the next few years, declining to $33 by 2025, but now it expects prices to remain high for the foreseeable future - and that forecast includes a prediction of declining demand as a result of higher prices. If demand doesn't decline, the EIA said, prices could go even higher.

Even if you exclude the forecasts of the so-called "peak oil" crowd - those who argue that global production is close to peaking, at which point it will begin its inevitable decline - there are some fairly high forecasts out there. Goldman Sachs, for example, has a 2006 target of $68.50, and that's the average, meaning it could spike higher than that at certain points. Analyst Arjun Murti has said that crude could rise over $100 a barrel if there is increasing unrest in Nigeria, Iran and other oil-producing nations. Murti sees oil trading between $50 and $105 over the next three years. Bob Greer of Pimco's CommodityRealReturn Strategy Fund says the "outlook for the next three to five years has not changed," and that crude will continue to be under pressure.

What all this means for investors is that crude-related investments - whether they are stocks, income-trust units or crude futures - will likely continue to do well for the next several years at least. The bulk of the move has already occurred, but that doesn't mean the action has ceased. Oil sands-related investments such as Suncor and the Great Canadian Oil Sands trust, for example, could become even more attractive as global attention continues to focus on new sources of North American crude. In other words, take some profits by all means; but don't cash out of the crude market just yet.

Mathew Ingram joined The Globe and Mail's online news team in June of 2000, after spending four years as the Western business columnist, based in Calgary.

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