In some way relevant to HDR......?One of the highest-octane...

In some way relevant to HDR......?One of the highest-octane stock market performers of recent years has been Cairn Energy, the oil and gas explorer which struck it very lucky indeed off the shores of India. And behind Cairn, Tullow Oil has become the UK's No 2 independent exploration and production group thanks to a combination of clever acquisitions and solid management effort across its portfolio of oil and gas fields.

The Anglo-Irish Tullow was set up in 1985 and was overwhelmingly focused on gas production in the North Sea until last year, when it doubled in size with the acquisition of Energy Africa, bringing it a portfolio of producing assets and exploration prospects in West Africa.

We tipped the stock at 106.5p in 2002 and again at 136.5p last year, and yesterday's results were stonking thanks to a combination of high oil and gas prices and improved production levels. The company produced an average of 57,350 barrels of oil or equivalent every day in the first half of the year and, with reserves estimated at 338 million barrels, is confident of getting that up to 70,000 per day by the end of 2007.

Yet we think it is time to sell out of Tullow.

It is a contrarian view, and a risky one. Even the analyst at Oriel Securities, a lone bear of the stock, recently changed his view to neutral. Oil prices will stay high, and some calculations of Tullow's asset value still factor in too low a price for its output. But we think these factors are broadly reflected by the stock market value of the shares, well above most asset calculations, and the medium-term downside risk is significant.

Why? Firstly, the market is too optimistic about the results of high-risk drilling projects in Mauritania and Uganda later this year. Second, the high oil price has obscured rising costs across the natural resources sector, both in terms of materials used in rigs and the wages of skilled personnel. And third, Tullow's North Sea acquisitions this year have magnified its bet on UK gas prices, which may not stay as high as the company expects. Although the country is now a net importer, several projects to set up terminals for the importation of liquefied gas will come on line in the next few years, suggesting that future demand will be well met. Sell.