Brutal Weather Hurting Oil Producers, Benefiting Natural Gas Producers

by: Josh Young

Editors' Note: This article covers a stock trading at less than $1 per share and less than a $100 million market cap. Please be aware of the risks associated with these stocks.

Unless you are here with me in sunny Southern California, or perhaps in southern Florida, you have likely noticed colder than normal weather in the past few weeks. This cold weather, accompanied by unusually severe winter storms, has had two investment implications in the world of investing in oil and gas producers. It has hurt the prospects of highly valued, rapidly growing oil companies; knocking down their stock prices and potentially negatively affecting them further, as production growth is slowed down by the inclement conditions. And it has benefited natural gas producers, as the price of natural gas has spiked and the oversupply situation is balanced at least in the short run by weather driven demand.

The largest market cap change has been Pioneer Natural Resources (NYSE:PXD), which is down 20% from its October peak, representing more than $6 billion in market value lost from lower valuation driven by poor weather. Pioneer has publicly acknowledged that weather will negatively affect its 4th quarter production (and thus its revenue and EBITDA). It is still trading at ~14x EV/EBITDA which is a higher multiple than many of the large cap E&P companies. If there is further weather impact and production slows more than expected, there is potential for the stock to fall further.

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Another company active in the same basin as Pioneer, Approach Resources (NASDAQ:AREX), has seen an even larger stock price decline of 39%. Due to its smaller size, this represents $482 million of lost market value, which is less than 1/10 of the loss to Pioneer's stock. Approach however has suffered from a combination of poor well results and potential production impact from weather. Barrons recently profiled Approach as a potential buyout candidate, but due to Approach's poor well performance and less compelling valuation than other E&P companies, this seems unlikely.

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Another E&P company that could be negatively affected by weather is north of Approach and Pioneer, up in the Niobrara shale play in the DJ Basin in Colorado. Synergy Resources (NYSEMKT:SYRG) trades at high EV/EBITDA compared to other E&P companies, and as its growth is negatively affected by weather and an increasingly unfavorable regulatory environment, its stock could continue to trade down closer to the valuation of other comparable E&P companies. The stock is down almost 20% from its recent high, and could see a similar movement as Approach if production is further impacted.

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On the other hand, natural gas producers are benefiting substantially from the recent bad weather, as prices of natural gas (NYSEARCA:UNG) spike. Here is a recent chart of natural gas prices.

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And of course UNG, the natural gas ETF, has tracked the price for natural gas higher:

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Certain natural gas company stocks have benefited substantially from this movement already, while others have lagged:

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Until recently, Quicksilver (NYSE:KWK) had been the big beneficiary of rising natural gas prices, as sentiment in the highly levered natural gas producer led to an almost 80% increase in the price of the stock in the past 3 months. Ultra Petroleum (NYSE:UPL), which is less levered, has not seen a significant price movement. This is possibly related to a recent oil production acquisition, which may have been seen by investors as capitulation by Ultra; Ultra had been a pure play on natural gas until the acquisition, and the timing seemed to coincide with maximum pessimism in the natural gas price market.

The big winner in the past day or so is the most levered natural gas stock that I am aware of, Geomet (OTCPK:GMET). As explained here (link) Geomet is liquidating, and bids were due on December 12th for its last set of assets. If the last set of assets sell for a similar valuation as the previous assets, GMET holders could net $0.24 or more per share, versus a 5 cent share price prior to that article and a 10 cent share price currently. And given the recent weather and trend of gas prices higher, it is possible that valuation could be exceeded, which could lead to a substantially higher value per share than $0.24. Geomet is tiny and highly levered, making an investment substantially risky. But it is the most levered "play" on natural gas, and could be the best performing natural gas stock through the end of the year depending on the liquidation process and announcement of bids.

Another potential winner is Exco (NYSE:XCO). I would personally not buy this stock, as the CEO's recent departure is a negative signal to me that there may be more problems there than low gas prices. However, XCO has historically traded with a high beta to natural gas, and despite fundamental issues the stock could trade up as traders use the stock as a proxy for natural gas prices. And if weather is really awful and natural gas inventories are rapidly drawn down and the price surges even briefly above $5 per mcf, XCO could trade up substantially, outpacing stocks like KWK that have already run and outpacing stocks like UPL where the underlying company is less levered and has refocused capex away from natural gas.

In short, there are some interesting ways to benefit from the recent inclement weather. Highly valued oil company stocks like PXD, AREX and SYRG could have further to fall, and levered natural gas stocks like KWK, UPL and XCO could rise. GMET could trade up to a reasonable expected liquidation value once tax loss harvesting has ended. And of course the natural gas etf UNG could trade up further if the weather stays colder than normal.

Disclosure: I am short SYRG. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: I am also long GMET. GMET is a micro cap stock, with associated risks. I may buy or sell any position mentioned with no further notice.