Postcards: One Simple Rule for Energy Traders (And Investors)

Have we cracked the energy code? Or was everyone drinking before the close again?                                                                                                                                                                                                                                                                                                                                                                                                                 Forwarded this email? [Subscribe here]() for more You are a free subscriber to Postcards from the Florida Republic. To upgrade to paid and receive the daily Republic Risk Letter, [subscribe here](. --------------------------------------------------------------- [Postcards: One Simple Rule for Energy Traders (And Investors)]( Have we cracked the energy code? Or was everyone drinking before the close again? [Garrett {NAME}]( Jan 5   [READ IN APP](   Market Update: As predicted, topsy and turvy. There was a squeeze, a selloff, an algo-driven pop, and another selloff. Welcome back to the 2023 chaos trade. This is why we largely advised investors to hedge starting last Friday and why the calls grew louder throughout the week. We’ll get the CPI next week as earnings season begins. Dear Fellow Expat: Greetings from Ruxton, Maryland. On Thanksgiving, it rained at my parents’ house. Around 9 pm, I stood in their kitchen as my daughter looked in the refrigerator. I turned to my left… only to see a bolt of electricity sail through the air… and hit a dining room chair. The water dripped through the ceiling and the walls, ultimately short-circuiting the chandelier. It looked like that scene in National Lampoon’s Christmas Vacation where the uncle smokes a cigar and lights the entire Christmas Tree on fire. So… that was awkward. Speaking of electricity… it’s time to talk about the best way to trade and invest in energy - and why it’s time for you to start studying our [Equity Strength Signals.]( The Top Energy Trade of 2024 This afternoon, we saw upstream and downstream energy take another hit. This is surprising, given that technology stocks and energy stocks are BOTH down at the same time. Over the last two years, we’ve largely seen a rotation from energy to tech and back to energy, depending on the macro-narrative and rate questions. It’s odd to see both heading in the wrong direction simultaneously. Typically, that’s a sign of funds dumping positions and taking gains - longer-term gains on tech stocks and short-term gains from energy in the wake of the Red Sea events. We’ve already gotten to work in the energy space as investors and traders. We tapped into several oil tanker and shipping companies that benefit from the recent spike in daily rates and route time. But we must look to last year for ways to trade in this sector. Last year, we relied on one trade in the energy space consistently. We sold put spreads below the levels where Berkshire Hathaway (BRKA) buys shares in Occidental Petroleum (OXY). Buffett has consistently purchased a large stake in OXY every time the stock falls to $56 to $58 per share. And that was a great trade… one that deserves a toast. Jamison loves a good hat… But we’re looking for more upside this year. Understanding the Energy Supply Chain. Before discussing the best place to trade energy, I’d love to show you the various oil and gas supply chain segments. We can better identify our favorite places to invest, trade, and speculate by digging into each. Get to Know the Upstream  The upstream sector of the oil supply chain is where production begins.  This upstream part has three critical parts: Exploration, drilling, and extraction. These various elements are VERY closely linked to the price of oil. So, if sentiment improves and demand increases, oil prices may rise. That means the upstream is your best place to speculate on and exploit oil prices. - Exploration: Before drilling starts, companies must find oil that can be extracted. This includes using geological surveys, seismic studies, and exploratory drilling. Companies use advanced technology and data analysis to find potential oil fields. - Drilling and Production: The drilling may commence after a company finds a field with oil. Companies drill both on land and offshore. Once a drill is completed, engineers extract the crude oil and bring it to the surface. Engineers must maintain and optimize the well during this period, ensuring that costs and production remain stable. - Reservoir Management: Companies have to determine the best way to extract oil. So, they use oil recovery techniques, like water injection or chemicals, to maximize recovery rates. There’s Always Money in the Midstream  The midstream part of the oil supply chain focuses on transporting and storing crude oil from production sites to refineries. This segment is crucial for ensuring a steady oil supply in the world. This is my favorite place to “invest” in the energy sector. The reason is that these companies gain very attractive cash flows and collect money regardless of the price of crude. The world still needs oil and gas - and this segment keeps crude pumping through the lifeblood of the global economy. - Transportation: Companies transport crude oil through pipelines, railroads, tankers, and trucks. Pipelines are the most common and cost-effective method, while tankers are used for long-distance and offshore transport. The movement of this crude is a big money-making operation, which is why these companies tend to have solid cash flows.  - Storage: At various points in the supply chain, companies must store crude in tanks or facilities. These storage facilities act as buffers to ensure a continuous supply of oil to refineries, especially during seasonal changes in demand.  - Refined Products: Midstream operations also include separating oil into its various components, such as gasoline, diesel, jet fuel, and petrochemical feedstocks. These products are transported to downstream facilities for further processing. Profits in the Downstream The downstream segment of the oil supply chain centers around refining crude oil into various products and their distribution to consumers. Because of the changes in oil prices, the downstream is the last part of the segment and benefits from shifts in crude prices and broader sector sentiment. If downstream companies can buy crude cheaply and benefit from higher end-product prices, they can increase their margins and generate better returns for investors. What we know is that as the energy signal turns positive, this is the sector that benefits greatly from capital inflows. - Refining: Crude oil is subjected to a refining process, transforming it into valuable products like gasoline, diesel, lubricants, and petrochemicals. Refineries use distillation, cracking, and other processes to make these byproducts. This is an essential part of the supply chain that has been reduced by government policy over the last few decades.  - Distribution: Once the refined products are finished, companies transport the products through a network of pipelines, trucks, and ships to distribution centers, wholesalers, and retailers.  - Retail: At the retail level, consumers purchase refined petroleum products like gasoline at service stations. Convenience stores, auto repair shops, and other businesses are part of this end-use segment. There’s Big Money in the Downstream Whether it’s options or just buying the stock, we want to look to the downstream sector, home of the refineries and end-products for consumers and businesses. That brings us to Valero (VLO), a multinational petroleum refining and marketing company headquartered in Texas, USA. It is one of the largest independent refining companies globally, focusing on refining and distributing oil products. As I explained in the i[naugural 2024 Republic Risk Portfolio Letter]( the refinery giant Valero has been a heck of a play whenever our sector reading turns positive. The energy signal has aligned beautifully with Valero’s performance and appears to align with the movement in oil prices due to refinery crack spreads in the market. The most recent signal switch for energy in December saw VLO jump 10% in a week. And we had an even bigger run from early June 2023 to the end of September - before the [epic counternarrative crash we predicted.]( You can see the four circles below that accompany large inflows - even for two-week periods. There were multiple signal switches last year, but the ones below align with positive crossovers on the MACD. I don’t think anyone would complain if, just once, we could replicate the June to September run from $107 to $148. Given geopolitical extremes and global supply and demand questions, energy prices will be volatile this year. But if you’re looking for a liquid stock to trade with strong fundamentals and solid technicals that align well with our signals, look at Valero. We’ll be trading Valero at [Republic Risk Letter]( our Energy Signal all year… in addition to another refinery with similar fundamentals and metrics. It’s time to get active in this market. You don’t need to trade, buy, sell, or talk options. You just need to know what day to buy Valero… and that’s where [Republic Risk comes in.]( Stay positive, Garrett {NAME} Secretary of Defense Disclaimer Nothing in this email should be considered personalized financial advice. While we may answer your general customer questions, we are not licensed under securities laws to guide your investment situation. Do not consider any communication between you and Florida Republic employees as financial advice. Under company rules, editors and writers cannot recommend their positions. The communication in this letter is for information and educational purposes unless otherwise strictly worded as a recommendation. Model portfolios are tracked to showcase a variety of academic, fundamental, and technical tools, and insight is provided to help readers gain knowledge and experience. Readers should not trade if they cannot handle a loss and should not trade more than they can afford to lose. There are large amounts of risk in the equity markets. Consider consulting with a professional before making decisions with your money.   [Like]( [Comment]( [Restack](   © 2024 Garrett {NAME} 548 Market Street PMB 72296, San Francisco, CA 94104 [Unsubscribe]() [Get the app]( writing]()