COMMENT
Speculating On The Small-Cap Oil Boom

By Maynard Paton (TMFMayn)
February 25, 2005

Booming fuel prices have done wonders for the shares of small-cap oil explorers. Top performers over the past year include FirstAfrica (LSE: FAO), gushing 580%, Desire Petroleum (LSE: DES), spurting 360% and Global Energy Development (LSE: GED), surging 212%.

The stellar gains have prompted a stampede of other fledgling companies looking for oil in strange lands to join the stock market. Newcomers include BowLeven (LSE: BLVN), drilling in Cameroon, Medoil (LSE: MDL), prospecting in North Africa, Taghmen Energy (LSE: TAG), exploring in Guatemala, and Egdon Resources (LSE: EDR), surveying in, um, Dorset and Yorkshire. The common theme amongst these sorts of companies is talk of what could be in the ground and management track records, but little in the way of sales, profits and, er, actual oil.

Despite the obvious risks involved, figures from the London Stock Exchange (LSE: LSE) highlight how investors have rushed to fund smaller oil and gas explorers. This table summarises the amount of money raised by AIM-listed sector players since 2001:                             

Year	AIM Oil & Gas funds raised	% of all AIM funds raised
2001	£9m	0.8
2002	£52m	5.3
2003	£221m	10.6
2004	£703m	15.2

Are things getting out of hand? Well, one classic sign of an overheated sector is when colourful start-ups emerge on the market. The recent flotation of White Nile (LSE: WNL) is good example. Here's a rundown of events so far at this particular firm:

* Thursday, 10 February 2005: Lists at 10p per share. Shares close at 75p.
* Friday, 11 February: Shares close at 99.5p.
* Monday, 14 February: Shares close at 125.5p.
* Tuesday, 15 February: Shares close at 138.5p.
* Wednesday, 16 February: Announced agreement with the Government of South Sudan to acquire certain oil assets. Shares suspended. Further details due by Friday, 18 February.
* Friday, 18 February: Further details postponed to Friday, 25 February at latest. Reports emerge of London Stock Exchange concerned at level of disclosure so close after listing.
* Friday, 25 February: Further details yet to emerge.

At the moment, White Nile is valued at £225m, yet its only assets are £9m of cash raised at flotation, an office in Jersey, a vague deal with the South Sudanese authorities and an ex-cricketer as boss.

Tinpot oil companies such as White Nile have always been ripe for rampant speculation. The operations take place far away, nobody really knows how much oil (if any) is in the ground and there's little accounting information to help keep a lid on valuations. The time to buy into such explorers must surely be when the sector is out of favour -- such as in late 1998, when the oil price was just one fifth of today's $50 a barrel -- and not when the sector is awash with hopeful start-ups backed by a buoyant market.

No doubt sector speculators can defend their investments by reeling off some spiel about a 'new era of high energy prices' and how oil will reach $100 a barrel and so on -- as if any of them were predicting $50 a few years ago. Remember, the last time people remarked about any 'new era' was five years ago during the dotcom boom. And looked what happened to them after they lapped up a deluge of dubious Internet flotations.

More: Beware The Internet Flotation

Maynard owns shares in the London Stock Exchange.