However, despite an oil price still above $50 per barrel at the time of writing, oil stocks and royalty trusts have meaningfully declined in the past several days. The equity market is once again disconnected from the commodity market as the futures markets suggest higher prices over the next few months. Oil prices have averaged roughly $48 per barrel in the first quarter. In order for oil prices to reach consensus averages for 2005, oil prices would have to immediately fall to $38 per barrel and stay there for the rest of 2005. We think that this pricing scenario is unlikely for the following reasons.

Three weeks ago, Chinese authorities reported surging consumer confidence and a 24% increase year over year in fixed asset investment. Essentially the message was that a great deal of pent-up demand remains in the Chinese economy despite monetary efforts to cool activity off. Chart Seven depicts China’s ever-escalating thirst for oil imports.

OPEC cannot meaningfully increase production, as its members are essentially running flat out. This fact is vastly different from previous tight oil markets that were ‘engineered’ by OPEC attempting to restrict production. Additionally, any incremental supplies that Saudi Arabia can bring to market, are by nature, from the heavier end of the crude slate with high sulfur content. The majority of U.S. refineries are not technically equipped to process this type of crude oil. The result is that the cyclicality of oil prices has shifted from supply-based to demand-based cyclicality.

It has long been suggested that Russia has the potential to add significantly to global oil production. Yet in our view, Russian production has peaked in the near term and without substantial re-investment in infrastructure (pipelines, loading facilities etc.), production levels will likely remain flat over the next several quarters. The Youkos affair only serves to highlight the inherent risks of investing in Russia.

Indeed, production growth outside of OPEC and Russia appears to be very challenged as evidenced by Chart Nine.

The reality is that the entire global energy market remains captive to Saudi reserves as Chart Ten demonstrates.

And Saudi reserves themselves are largely dependent on one field in particular, the Ghawar field, discovered in 1948, as depicted below.

Interestingly, no new significant fields have been discovered in Saudi Arabia despite the tremendous progress in seismic technology that has been made in the past twenty years. While minimal re-investment may be partially to blame, one would think that if worldclass reserves remain, they would have been uncovered.

And no further major discoveries are projected as Chart Thirteen shows.

For years, the Saudi’s have not re-invested the capital necessary to maintain production. Going forward, they will be required to inject vast sums of capital just to keep production level as shown in Chart Fourteen.

On a short-term bearish note, product inventories have finally risen above the 10-year average as shown in Chart Fifteen. It should be expected that meaningfully higher oil prices result in a build in inventories. Higher inventories are also necessary in order to stay in balance with higher levels of demand. And finally, there is a normal seasonal build that occurs in the spring and summer months. We do not expect this build to continue in the second half of this year.

As Chart Sixteen shows, even the world’s largest energy company, Exxon Mobil, cannot increase production levels and as a consequence is losing market share. A corporate acquisition or two by Exxon is likely in the cards. We suspect a wave of consolidation lies ahead for the global industry. The acquisition of Unocal by Chevron Texaco is likely only the beginning.

In summary, we believe that the global oil market is today in a precarious position and the oil price will remain highly volatile due to massive hedge fund speculation and the tight nature of the market. Small changes in demand will have a large impact, up or down, on price. Price movements are likely exaggerated as a consequence. Surprisingly strong demand from China, continued high U.S. consumption levels, and a lack of reinvestment over the past decade by the majors have combined to cause a paradigm shift in oil prices for the foreseeable future. We believe that a sustained price of $40-$45 per barrel is necessary in order to ensure that new supplies of oil and natural gas are brought to market in order to balance supply and demand. And we suspect that we will see consolidation and share buybacks before the industry commits to finding new reserves.

Barring a complete global recession, we do not foresee a meaningful reduction in demand. To date, there has been limited consumer response to higher fuel prices. SUV sales have slowed by as much as 25%, but the vehicles have yet to be parked. Unless and until American drivers lose their love affair with large SUV’s, U.S. gasoline consumption will stay strong. And somehow we can’t imagine President Bush sporting a cardigan and telling Americans to turn down their thermostats.

We continue to believe that our clients should take the longer-term view and be overweighted in high quality, growth energy stocks.

DENISON MINES INC.
Denison is one of only two publicly traded companies with uranium production in Canada. With reserves in excess of 10 years and annual production of 1.35 million pounds, Denison provides direct leverage to the uranium market, which we expect to be attractive for several years to come.

PROEX ENERGY LTD.
ProEx Energy was created in mid-2004 as a result of the reorganization of the reorganization of Progress Energy and Cequel Energy. The exceptional management team has successfully run and sold two oil and gas companies and is currently focused on exploration and production in northeast British Columbia. Highlights for 2005 include approximately 100% production growth in six months, as well as finding and development costs that should be in the top quartile for the industry.

WESTERN PROSPECTOR GROUP LTD.
Western Prospector has interests in three key areas, the most significant of which is the Saddle Hills uranium project in Mongolia, one of the most advanced mining projects in the country. The deposit was fully developed by Russian interests with extensive shaft sinking and 10,000 metres of lateral development that was conducted on eight levels.

The property hosts a resource base of some 42+ million pounds of uranium and the company’s stock trades at US$1.56 per pound of in situ uranium – a deep discount to the peer group’s average of US$3.35 per pound. Exploration potential remains explosive and the company could potentially double stated reserves. We believe that the price of uranium has significant upside do to decreasing supply, increasing demand and very long lead times fore development. We are very bullish on the commodity.

BEAR RIDGE RESOURCES LTD.
Bear Ridge Resources was formed via the strategic merger between Ketch Resources and Bear creek Energy. The company is prospect rich for lower risk, shallower to medium depth development and exploration targets, and higher risk, deeper exploration that provide significant upside potential. Bear Ridge has a focused land position in west central Alberta and the Peace River Arch. Management has extensive experience in these regions with the momentum carried forward from its predecessor company, Bear Creek Energy.

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