Oil Stocks Will Bounce Back

Energy prices will rise again -- you can bet on it. But it may be a year or two before we have to worry about that problem. Meanwhile, you can diversify your portfolio now by patiently accumulating some energy stocks or a small position in a natural-resources fund.

But first, you should understand why the price of oil crested at $147 a barrel last July, then plunged to the neighborhood of $50 by the end of November.

Oil's swift ascent was driven by a speculative bubble, not the laws of supply and demand. To diversify their stock-and-bond portfolios, pension funds invested directly in energy. That was all hedge funds needed to get their motors running. With as much as 20-to-1 leverage, hedge funds moved the markets fast and far.

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Charles Ober, manager of T. Rowe Price New Era (symbol PRNEX), says that many hedge funds sold short financial stocks (that is, bet that they would fall), then bought oil and other commodities as a way of betting against the dollar. The trade worked -- for a while. "What the hedge funds missed was that the dollar was becoming a safe haven during the financial crisis," says Ober. (Because oil is priced in dollars, their prices tend to move in opposite directions.) As a result, many hedge funds imploded. "By the end of the year, there will be a pretty good shrinkage of hedge funds," Ober says.

Prices also declined because people began to conserve. Now that the price of gasoline has dropped, that trend may well reverse, unfortunately, and alternative energy may well be forgotten until the next energy crisis. "Energy policy has become secondary," says Ober. "It has taken a back seat to the economic problems."

Ober says the demand for oil will outstrip supply beginning in 2010. The price of oil, he predicts, will begin to rise in the second half of 2009 as the market anticipates the supply crunch; he predicts it will go to between $80 and $100 a barrel by 2010 and will rise further in 2011.

Energy stocks will recover along with oil-and-gas prices, Ober says: "Two years from now, we'll be talking about the great buying opportunity we had in energy stocks."

At age 58, Ober knows energy inside out. He's been covering it -- first as an analyst and then as manager of New Era since 1997 -- for 30 years. He's seen booms and busts in natural resources before, so it pays to listen to his advice.

Over the past ten years through November 30, New Era returned an annualized 9.3% -- putting it an average of 0.8 percentage point per year ahead of Standard & Poor's Natural Resources index. So far this year, however, the fund has fallen 49%, trailing the index by eight percentage points. All of those losses occurred from midsummer on as oil prices collapsed. The Price fund is broader-based than most of its competitors, and it has tended to lag in bull markets but excel in bear markets -- a commendable trait in a volatile sector.

Ober isn't optimistic about all industrial materials. He likes copper but says supplies of most mining and mineral commodities are growing rapidly. Consequently, New Era holds more energy stocks than it usually does.

But Ober is bullish on agricultural stocks. "Demand is not going to go away," he says. His favorite is Potash Corporation of Saskatchewan (POT), the giant Canadian fertilizer producer.

Among energy stocks, Ober's favorites include Schlumberger (SLB), the oil-services provider. "It's the technology leader in oil services," he says. Schlumberger has longstanding relationships with oil-producing nations around the world.

Ober is also bullish on BP (BP), the British energy giant. The company has several huge oil fields coming on line. Likewise, Petrobras (PBR), the Brazilian oil company, "has an incredible resource base to be developed."

Alternative-energy stocks have fared worse than traditional energy stocks during the market's sell-off. As an alternative-energy play, Ober likes Quanta Services (PWR), which assembles, installs and maintains the high-voltage lines needed to power the electric grid. That grid will have to be significantly expanded to deliver alternative energy to consumers.

Steven T. Goldberg (bio) is an investment adviser and freelance writer.