Opportunities in the Oil Sector

Kathy asks:

I just read your recent post on Seeking Alpha discussing opportunities in the energy sector. If you had 10K would you put it in COP or one of the major integrateds now? Or where? RIG or SLB?

Thanks for writing, Kathy. I won’t be making any specific recommendations but I’ve put together a little spreadsheet on some of the major oil companies with some interesting statistics I pulled from a recent issue of S&P’s Creditweek: Major integrated oil company comparison spreadsheet.

These tables contain some clues as to which of the big oil companies are most efficient. I’ve provided some additional financial metrics which may provide some help if you wanted to determine which company’s stock is relatively cheaper. Here is a link to a Google Finance chart showing the performance of these stocks in the last year in case relative performance is important to your portfolio. No surprise that ExxonMobil (XOM) performed best among these stocks but that also means a premium is built into that stock.

Generally, while the financial heft and high dividend yields of the big oil companies are attractive, the more enterprising investor may want to look at some of the major independents for better future returns. While I do own one oil-service company, Ensco International (ESV), my personal preference is to avoid that sector as free cash flow and dividend yields are rather paltry. But some of those stocks are very popular in the investment community and could enjoy great returns despite my reservations.

You mentioned two of the most well-known names, Schlumberger (SLB) and Transocean (RIG). Two other names I’ll throw out there are National Oilwell Varco (NOV) and Diamond Offshore (DO). NOV was a popular hedge fund holding last year that got tossed out along with everything else but it generated lots of free cash flow and is situated in a more resistant part of the industry. DO is part of the Tisch Loews (LTR) empire and has paid out “special” dividends in the last few years. They do have an older fleet though so take that into consideration as well.

Finally, passive investors may want to consider an ETF and avoid stock-picking altogether. The Energy Select Sector SPDR Fund (XLE) is among the largest of these, yields 2.5% and holds a variety of companies across the industry spectrum.

Any stocks mentioned here are for informational purposes only and are not recommendations. Please check my portfolio spreadsheet for disclosures. Also note that even if I own one of these stocks, that does not necessarily mean I would recommend buying it today.

I have to reiterate that nothing posted on my blog should be construed as personalized financial advice. Readers are advised to consult a qualified financial advisor for help with their investments. I am pretty much required by law to say this — it is up to you to determine whether that course of action is best for you. Bottom line is that you, and only you, are responsible for your investment decisions.

Disclosure: Author holds long positions in BP and ESV

Comments

[Conan the B...:]

Great Caveat.

Any OPINION on the small caps?

Mar 11 05:24 AM

[long_on_oil:]

Yesterday I received my 9.8% dividend check from BP. Based on my average cost BP is by far the best kept secret of the oil companies. I keep reading about BP going to cut the dividend but it hasn't happened yet. If you look at BP history they do not cut dividends. They may keep the dividend the same but I can't forsee a cut. (famous last words...lol) Just look at the table the author mentions at the beginning of the article. BP looks pretty good.

Mar 11 09:03 AM

[gemstar:]

After some serious research I felt that XOM was the best oil and gas investment - excellent returns, minimal debt, well managed, diverse, etc. Unfortunately the average investor cannot realize the real full value XOM creates - it does not pay a substantial dividend nor can you expect to see the movement in stock price (increase or decrease) associated with smaller oil & gas firms. Other majors (including CVX, COP, BP, RDS.A) were scratched from my list because, in my opinion, they did not come close to matching the overall quality of the XOM business.

But there is a Canadian company, Imperial Oil Limited (IMO.T), which is partially owned by XOM, and operated as if it was XOM (minimal depth, diverse, well managed, etc.). It is a mini XOM with serious exposure to the oil sands industry. Compare and/or chart XOM against IMO over the past 5 and 10 years - isn't that a huge difference in the appreciation of their stock price? Also, if you are American and buying IMO now, you potentially get an additional 25% discount on the price of IMO stock.

My other purchase was OXY. I wanted exposure to a smaller oil and gas company with both USA and international assets. Again, in my opinion, OXY came out on top. It has minimal debt, it is well managed, and has a record of consistent long term growth, etc. I also considered SLB and RIG as a vehicle to gain international exposure, but the SLB and RIG stock price track OXY, OXY gave comparable 5 year stock price growth, OXY provided much higher and consistent stock price growth over the longer term (10 yr, and the OXY business is more diverse. In my opinion, buying SLB or RIG would have been redundant.

You'll notice I have emphasized stock price appreciation. In my opinion, while the numbers for a particular company may be superb (i.e. revenue growth, consistent earnings growth, low debt, high return on equity, etc.) that doesn't help the individual stock owner if he/she cannot extract that value through dividends or by selling the stock at a higher price. IMO and OXY, in comparison to their peers, have demonstrated consistent long term growth in their stock price.

Mar 11 09:09 AM

[Chris B:]

RIG represents the future of oil exploration, and can be bought right now for dirt cheap. I'm more inclined to use this market crash to obtain rare discounts on the world's best-run companies than to chase the older, land-based majors with their declining production and increased geographic risk. That said, there's probably a lot of appreciation potential baked into most oil stocks right now. Is a PE of 5 low enough for you?

I was an oil bear 9 mos. ago (bought DTO in July and sold too early - in August - argh!) but now I see oil as an essential holding. In the next 3 years, the following will happen:

-Israel's hawkish new government will reinvade Gaza.
-Iran will test a nuclear weapon.
-Nuclear armed Pakistan will either disintegrate into civil war or start to resemble the Taliban.
-China will add tens of millions of cars to their roads.

I'd like to own RIG during these events.

Mar 11 11:15 AM

[bobbobwhite:]

Don't forget the tankers that transport all that oil around the world. TK is one; lots of others. And, the pipelines.........

Mar 11 12:30 PM

[David White:]

Good News in this area: (DJ) the Conoco CEO said today that he expected the price of oil to rise to $60 to $70 (not $80) per barrel.

Two other oil service stock with excellent fundamentals and at good chart entry points are NE and ATW. NE was recently added to GS's Conviction Buy list (usually a good near term sign).

Mar 11 12:48 PM

[Doc 224899:]

Why don't we simply and inexpensively recover the 2,000,000,000,000 barrels of oil in the Bakken Formation (a.k.a. Williston) in Montana and North Dakota, as ordered by the president 3 years ago?

I hope nobody is so mad about "Red State" dissent that the whole nation is being made to suffer, but that's sure what it looks like.

Mar 11 01:18 PM

[carbonates:]

I too am convinced the best place to be in the oil and gas sector is in the majors and internationals for the next few years. The political climate in the US is forcing most domestic independents to slow down or stop drilling, resulting in falling production and reserves for those companies. Currently Federal leases are being revoked in some areas, some states are planning to raise severance taxes, higher Federal royalties are being imposed on some leases in the Gulf of Mexico, and the Obama budget has some large hits for oil and gas in the form of lost tax deductions. All of this will tend to shrink domestic production. Add to that the current oversupply of the US gas market, and low prices that for many operators are approaching the cost of finding and development, and the US independents will be feeling pain for a year or more.

International operators (majors and independents) will actually benefit from the current US political climate, being able to operate outside of the US restrictions while supplying the US market. The primary result of the current policies that are being imposed is that the US will rely much more heavily on imports in the future.

I am not bullish on service companies like RIG. Right now the drilling and service companies are looking at a major downturn in work. While they have still got some work continuing from last years high priced market, as soon as those contracts end, they are likely to be laid down. Just about every oil and gas producer out there is dramatically reducing costs, and the first place they will look will be service companies.

Mar 11 02:52 PM

[Mifflin:]

Have the major oils bottomed?

Mar 11 08:44 PM

[Chezfrederick:]

Can someone recommend the best ETF invested in oil that truly approximates and tracks the spot price but is not into the futures? USO, HOU...and the likes are not an option... they are day tading and not investing tools...

Thank you in advance for your insights.

Mar 12 07:27 AM

[Mmarrkk:]

First, there is no "simple" and "inexpensive" way to recover the 2 trillion barrels you speak of. The Bakken is not simple and its not cheap. And the oil volume you speak of is known as Oil-in-Place. That means total volume stuck in the rocks. In conventional reservoirs, only 20-50% of the oil ever gets produced. In shales like the Bakken, it is far lower than that.

And I think a lot of folks would argue that the 2 trillion number is too high!

Finally, EOG, one of the leading Bakken players, has dropped a lot of rigs up there and is shutting in wells as the costs are higher than the returns.


On Mar 11 01:18 PM User 224899 wrote:

> Why don't we simply and inexpensively recover the 2,000,000,000,000
> barrels of oil in the Bakken Formation (a.k.a. Williston) in Montana
> and North Dakota, as ordered by the president 3 years ago?
>
> I hope nobody is so mad about "Red State" dissent that the whole
> nation is being made to suffer, but that's sure what it looks like.

Mar 12 08:45 AM

[PeteK:]

To get that kind of oil, we must LEARN from the Canadians.
They have a way of doing it.
Alberta, Canada is one place to learn.

Mar 12 10:20 PM

[Jeez:]

Did you count your zeroes correctly? How about some reference to this information?


On Mar 11 01:18 PM User 224899 wrote:

> Why don't we simply and inexpensively recover the 2,000,000,000,000
> barrels of oil in the Bakken Formation (a.k.a. Williston) in Montana
> and North Dakota, as ordered by the president 3 years ago?
>
> I hope nobody is so mad about "Red State" dissent that the whole
> nation is being made to suffer, but that's sure what it looks like.

Mar 12 10:38 PM

[bassmaster17:]

NOV has very strong financials/healthy backlog to keep it going in these turbulent times. The Credit Suisse downgrade has no merit. They have been wrong everytime.

Mar 13 10:38 AM

[bassmaster17:]

The downgrade happened right at its breakout point. Makes me wonder if they have a committed short position or if their buddies do. In a Madoff world this stuff happens. NOV should do well as PBR will need their service.

Mar 13 10:57 AM