By William Patalon III
Executive Editor
Money Morning/The Money Map Report

When Morgan Stanley (MS) predicted that oil prices would reach $150 per barrel by mid-summer, its analysts certainly didn’t mean it would happen all in one day.

But a confluence of powerful catalysts – that aggressive prediction, some militant interest-rate language from the European Central Bank, Middle East conflict worries and a lousy employment report – launched oil prices into their biggest one-day gain in history, setting a new record high in the process.

Make this bet: All eyes will be on oil prices today. And depending on what happens today, it’s entirely possible that oil prices will be the story of the week – all week. Let’s watch and see [Check out the related special-investment story elsewhere in today's issue of Money Morning by clicking here].

On another note, can anyone save Lehman Brothers Inc. (LEH)?  With the challenges the brokerage house faces, are we looking at another Bear Stearns Cos. Inc. (BSC)? Or have the “gloom-and-doomers” – who wage war using rumor and innuendo as their weapons of choice – gone too far, a reality that would only benefit short-sellers and speculators?

With U.S. Federal Reserve Chairman Ben S. Bernanke having run his mouth a tad more than necessary last week, central-bank watchers over-analyzed his views on the greenback, the inflationary period of the 70s, and the impact of the stimulus package.

The dollar took yet another beating on Friday. And that downward trend may well continue.

Economic reports will keep investors on their toes this week. Coming up this week: Trade balance tomorrow (Tuesday); Fed Beige Book (Wednesday); retail sales (Thursday); consumer price index (CPI) (Friday).

The Beige Book release will allow Fed watchers another look into the mindset of Bernanke and Co., though, by now, most “experts” expect the next rate move to be higher (although that was before the weak unemployment report, and before the ECB threatened to raise its rates, too).

The recent positive news about consumer activity will be confirmed (or denied) as the May retail sales report provides more insight into the initial effects of the stimulus package. While discounters will reap the biggest benefits, the bigger test will come when we see how the “big-box” department stores and the luxury retailers manage to fare.

The late-week CPI release will give economists a good feel for just how much the escalating food and energy prices are feeding into inflation – meaning we can no longer buy into the Fed’s whole spiel about looking past the overall number to focus on the so-called “core” numbers, which exclude “volatile” food-and-energy prices.

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Market Matters

With Sen. Hillary Clinton’s Saturday withdrawal from the Democratic presidential campaign, it’s all over but the shouting (and the backstabbing, political spinning, name-calling, negative ads, rumors, polls, debates and everything a good residential campaign season needs). Both parties having finally made their choices, and the American people now can begin dissecting the differences between senators John McCain and Barack Obama. Among those differences:

• Taxes: McCain plans to make recent cuts permanent and reduce the corporate rate. Obama will keep cuts in place (unless you make over $250,000) and will probably raise the capital-gains-tax rate.
• Health Care: McCain will focus on the individual and will incentivize folks to get insurance.  Obama will turn to the government and install company mandates to bring costs down.
• Gas Prices: McCain flirted with the economically worthless (and perhaps damaging) idea of a “gas-tax holiday.”  Obama, like most economists, opposed such a measure.  So let the campaign season (and partisan bickering) begin.

Financials were again in the news this week (what a shock) with Lehman, Merrill Lynch & Co. Inc. (MER) and Morgan Stanley – as well as bond insurers MBIA Inc. (MBI) and Ambac Financial Group Inc. (ABK) – all suffering the wrath of Standard & Poor’s Inc. through ratings downgrades.  Bank of America Corp. (BAC) and JP Morgan Chase & Co. Inc. (JPM) may not be far behind.  

Of all the companies in this group, Lehman, in fact, seemed to be in the weakest position, inviting comparisons to Bear Stearns as rumors circulate that Lehman’s management team is looking to sources in South Korea for a capital infusion of $4 billion.

Write-downs and losses prompted a few executive casualties as Wachovia Corp. (WB) said bye-bye to its chief executive officer and Washington Mutual Inc. (WM) stripped its CEO of his chairman’s title.  From an earnings perspective, Thomson Reuters Corp. (TRI) projected that aggregate profits of Standard & Poor’s 500 Index companies declined by 17.5% in the first quarter with financials leading the way.  On a more optimistic note, transactions seem to be back in favor as Verizon Wireless is acquiring Alltel Communications for $28 billion, and The J.M. Smucker Co. (SJM) will to buy Folgers from The Procter & Gamble Co. (PG) for just under $3 billion.  (Apparently, nothing goes better with some dark roasted java than strawberry jam.)

Oil fell during the early part of last week on declining demand before reversing course Thursday and Friday en route to a two-day, $16 surge to a new high – at one point Friday actually trading north of the $139 a barrel mark – due to a weak dollar, Mideast turmoil and a Morgan Stanley prediction of $150 a barrel oil.

As drivers in more states find $4 gasoline becoming a reality (weekend cable news reports stated that $5 a gallon gasoline would seem be a reality in California), the RBC Capital Markets Group of the Royal Bank of Canada (RY) released a survey that showed that 90% of Americans are altering their spending patterns to cope with the new price realities. The Cheesecake Factory Inc. (CAKE), Brinker International Inc. (EAT) – the owner of the Chili’s Bar & Grill chain) and Starbucks Corp. (SBUX) are among those companies suffering ill-effects of “bargain dining.”  General Motors Corp. (GM) plans to cease production at four domestic truck plants and may be selling its once-popular Hummer line (a combination SUV/urban-assault vehicles.

Continental Airlines Inc. (CAL) became the latest airline to fall victim to the energy crisis, announcing 3,000 job cuts and reduced routes. 

For four days, volatility ruled the day as investors experienced drastic mood shifts amid favorable retail data and continued financial company woes.  On Friday, however, the bears returned in a big way.  The weak May unemployment data and dramatic oil surge instilled widespread panic with the Dow falling almost 400 points.  Expect a continuation of the daily volatility throughout the summer as investors try to mix in a vacation (or two), while making heads or tails about these energy and labor trends.  But does anyone deserve an extended vacation more than Hillary?   

Economically Speaking
     
As noted above, Fed Chair Bernanke returned to the limelight last week with a few Greenspanesque comments that “rattled” economists and investors alike.   His surprising mention of the weak dollar seemed to confirm that inflation is much higher than recession on his radar screen these days, and put prospects for a future rate cut somewhere between “slim” and “none.” While Dr. B. sees price pressures as “unwelcome,” he does not expect a repeat of the double-digit inflationary times of the 1970s.  Bernanke also believes that the $168 billion fiscal stimulus package, as well as the Fed’s own rate cuts, will positively impact the economy in the second half of the year (though his “somewhat better economic conditions” comment was not quite as strong as many would have liked to hear).  

While manufacturing activity increased slightly in May, the ISM index still revealed overall sector contraction.  On the other hand, stronger-than-expected factory orders helped put a positive light on the future of the sector.  Housing continued to offer little reasons for optimism as construction spending declined again, while the rate of foreclosures climbed to a record high in the first quarter and potentially claimed another victim, Ed McMahon, who is $644,000 in arrears on his $4.8 million mortgage.  (Maybe the Publishers Clearing House Sweepstakes folks will ring his doorbell with some good news, soon).

Consumers took those government rebate checks straight to Wal-Mart Stores Inc. (WMT) and Costco Wholesale Corp. (COST) last month as both discounters reported better-than-expected same-store sales.  In fact, the UBS AG (UBS) International Council of Shopping Centers sales survey showed that retail activity soared 3% in May, well in excess of prior projections.  On the labor front, the unemployment rate surprisingly soared to 5.5%, its highest level since October 2004, and the biggest one-month increase in 22 years. The economy lost 49,000 jobs last month, its fifth consecutive decline and another sign of continued sluggishness.

Weekly Economic Calendar

News and Related Story Links:

• Bloomberg News:
  Oil Rises to Record on Weakening Dollar, Morgan Stanley Outlook.

• Bloomberg News:
  Clinton Concedes Race, Throws `Full’ Support to Obama.

• Wikipedia:
  Publishers Clearing House.

• International Council of Shopping Centers:
  U.S. chain store sales jumped 3 percent in May.

By Jason Simpkins
Associate Editor

Russian authorities have issued a summons to Robert Dudley, Chief Executive of BP PLC’s (ADR: BP) regional joint venture TNK-BP Holding, as part of a tax probe into OAO TNK’s activities between 2001 and 2003.

While BP was quick to write the summons off as a “routine procedural matter,” analysts see it as yet another attempt to drive BP from the country’s treasured energy sector.

A source close to the situation told Reuters that the investigation will take place next week.

“The questioning was planned for this week, but for some reason they have already postponed it to early next week,” the source said.

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The timing of the summons is precarious in that it comes just a week after BP’s Russian partners demanded Dudley’s removal – an overture BP has rebuffed citing Dudley’s strong performance.

However, Mikhail Fridman, Vikto Vekselberg and Len Blavatnik lead a group of billionaire shareholders who have accused Dudley of favoring the British company’s interest. Dudley worked at BP before assuming his current position as the head of TNK-BP in 2003.

The summons also follows a series of other setbacks that have bedeviled the venture.  Earlier this year, 78 Federal Security Service (FSB) officers raided the Moscow offices of BP and TNK-BP. The raid resulted in the arrest of one TNK-BP employee and his brother, who will both face charges of industrial espionage.

Soon after the raid, the Natural Resources ministry said it would check TNK-BP’s largest oil field for environmental violations and the Interior Ministry accused the company of breaking visa rules, a charge that left some BP staff stranded outside the country.

Russia’s history of wrangling control of oil projects from foreign oil majors has many analysts anticipating BP will have its role reduced to that of a minority shareholder.

“We are all worried there is going to be some political maneuvering in order to relieve BP of the stake,” Colin Morton, a fund manager at Rensburg Fund Management who owns BP shares, recently told Reuters. 

Two years ago, OAO Yukos Oil Co., formerly one of the world’s largest private oil companies, went out of business after Russia’s Federal Tax Service demanded the payment of $30 billion in back taxes.

Soon after, Royal Dutch Shell PLC (RDS.A, RDS.B) was forced to relinquish control of its Sakhalin-2 oil and gas project to OAO Gazprom for $7.45 billion when the Russian government threatened to block investment plans by canceling building permits on environmental grounds.

And just last year, TNK-BP was talked into selling its 62.8% stake in one of the world’s largest gas fields, the Kovytkta field, to Gazprom, after Russian authorities threatened to revoke the company’s license to develop it. 

So it’s perfectly reasonable to believe that TNK-BP, Russia’s third-largest oil producer, could be Gazprom’s next takeover target. It’s also reasonable to expect that Gazprom may want more than to simply replace the Russian oligarchs as junior partners in the venture.

RBK Daily recently reported that Gazprom is seeking a 1% stake in the joint venture from BP, while at the same time buying out TNK-BP’s three Russian shareholders, thereby giving the state monopoly a controlling stake in TNK-BP.

Meanwhile, a source close to BP told the Wall Street Journal, that the company believes the Russian shareholders are putting pressure on Dudley in attempt to strengthen their hand in negotiations with a state-owned company like Gazprom. The Russian shareholders want to rein in long-term investments, such as enhanced oil recovery, health and safety, and privileged dividends, because they are aiming to sell their share to a state-run firm, the source told the paper.

BP Chief Executive Tony Hayward recently arrived in Moscow in part to attend the annual shareholders’ meeting of Russia’s OAO Rosneft, the country’s largest oil firm of which BP is a minority shareholder, Reuters reported.

“BP is committed to Russia,” Hayward said addressing the meeting. “Russia, alongside the Middle East, is one of the world’s great hydrocarbon provinces. Russia is a great nation in the process of economic transformation.”

While BP may remain committed to Russia, however, it doesn’t seem as though Russia is equally committed to BP. And so far, the process of undermining foreign oil companies and surreptitiously consolidating Russia’s energy sector under state control has not ended with Vladimir Putin’s presidency.

“This is exactly the kind of issue that is making Medvedev’s life so difficult as he tries to rebrand Russia as an attractive investment location,” Chris Weafer, chief strategist Moscow-based investment bank OAO UralSib, told Reuters. “The fate of TNK-BP is a major test for how the government views the investment climate.”

News and Related Story Links:

• Reuters:
  Russia summons TNK-BP CEO for questioning

• Wall Street Journal:
  TNK-BP CEO Questioned In Corporate Tax Probe

• Money Morning:
  BP Caving to Kremlin Pressure Over Joint Venture

• Money Morning:
  The New Cold War: How Russia Has Turned Its Energy Exports Into Weapons of Diplomacy