The Globe and Mail: Merrill raises oil target

The Globe and Mail: Merrill raises oil target

Tuesday, January 24, 2006 Posted at 1:44 PM EST
Globe and Mail Update
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Merrill Lynch & Co. raised its oil price targets Tuesday, saying that the nuclear standoff with Iran and other supply constraints will keep crude prices at an average $57 a barrel (U.S.) in 2006.
The brokerage's global energy group cited Iran and continued tight supply-and-demand fundamentals as the drivers of the bullish forecast. Merrill raised its 2006 oil target by $5 or 9.6 per cent to $57 a barrel and boosted its 2007 target by $5 or 12 per cent to $47 a barrel. Its 2008 oil price estimate was left unchanged at $42 a barrel.
Oil prices have soared to five-month highs recently amid fears of supply disruptions. Iran, the second-largest OPEC producer, has been at the centre a standoff with the U.S. and its European allies over its nuclear ambitions. The possibility of UN sanctions over its nuclear program has threatened to curtail supplies.
“The challenge for energy investors in 2006 is gauging how much of the good news and rosy outlook for oil and gas pricing is already priced into the shares” of major Canadian oil and gas companies, Merrill analysts Andrew Fairbanks and Kieran McCabe wrote. “We estimate that the companies could start missing 2006 numbers if oil and gas prices sustain below $58 a barrel.”
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Crude oil for February delivery dipped 75 cents to $67.35 a barrel Tuesday the New York Mercantile Exchange. Prices jumped to $69.20 on Monday, the highest since Sept. 2.
Natural gas for February delivery climbed 14.6 cents to $8.72 per million British thermal units on the Nymex. The consensus 2006 target for natural gas prices — $8.95 per million British thermal units — is already above the current spot price, the Merrill note said.
The Merrill Lynch currency team also forecast a weaker U.S. dollar, which in turn raised their Canadian dollar target to 86 cents (U.S.) in 2006 and 85 cents in 2007, from a previous estimate of 83 cents.
The longer-term forecast for the Canadian dollar rises to 89 cents from 83 cents, which “will offset a portion of the oil price increase as the Canadian Oils' costs are largely Canadian dollar-based, while revenues are U.S. dollar-denominated,” the Merrill report said.
Merrill said it will incorporate its new oil and dollar targets into corporate earnings estimates as companies report their fourth-quarter results. Nevertheless, they expect their 2006 profit targets will remain below the consensus Wall Street expectations.
“Part of this stems from our below consensus natural gas price forecast of $6.75 per million British thermal units, part of it is due to a higher estimate of the pace of operating cost inflation and basis differentials in the industry,” the Merrill report said. “We estimate that the share prices of many companies are implying 2006 prices of nearly $58 a barrel for oil and $10 per million British thermal units for gas.”
If oil prices ease this spring, investors could get hit with “a degree of unease,” a situation that Merrill said could be a good buying opportunity.
In the long run, however, Merrill said there is more room for the energy sector to rise, and that there are select energy companies that remain attractive buys, even at current trading levels.
“We believe that many energy stocks are only partway through a potential 15-year up cycle. Longer-term fundamentals continue to suggest that tight supply-demand conditions will prevail over the next decade,” the Merrill report said. “Nonetheless, we expect there will be mini-cycles within this macro trend and that 2006 could witness weakening fundamentals and earnings expectations, especially if oil prices stop going up for a couple of quarters.”
Its top pick among the Canadian integrated oil companies is Petro-Canada. Shares of Petro-Canada fell $1.10 (Canadian) or 2.07 per cent to $52.08 in Toronto Tuesday. The stock has soared 71 per cent in the last year.