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CHK and the Red Queen Effect
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By RedneckRoleModel
February 27, 2007

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Six months ago, I posted some thoughts on the price of oil.

Oil was in the mid 60s at the time. I thought the price should be higher. By January, oil was bouncing around $51. It took me a while, but I finally figured out the part of the puzzle I had missed. I posted my thoughts here.

With oil in the low $50s, my hypothesis was that we weren't finished with the effects of passive investment, the contango curve, and insufficient storage. I said oil prices could have further to go down. A month later, oil is now back around the $60 level.

That makes my record 0 for 2. Not too impressive. It just goes to show how insanely difficult it is to analyze a problem as complex as the price of oil.

By the way, for anyone interested, I have liquidated my CHK holdings. The latest quarterly report shows the problem clearly. CHK is battling the Red Queen effect* of declining wellhead productivity and flat to declining North American production, just like its competitors. They're doing a pretty good job of this, though the pace of growth is slower than it was a year ago. But CHK stock holders are battling a second Red Queen effect, this one against CHK's own balance sheet. The dilution of the common stock -- which I had hoped would stop by now -- continues unabated. This makes it hard for stockholders to benefit, even as the company increases production and reserves. So I'm out. This has been a good investment for me, generating an IRR in the 20 - 30% range. But it wasn't nearly the home run I was expecting for most of 2005 and 2006.

Best,
Redneck

PS Wouldn't it be hilarious, now that I've sold, if CHK finished the year at $55. No, it wouldn't be hilarious.

*http://en.wikipedia.org/wiki/Red_Queen_effect


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