Oil prices are on the run again thanks to the improving prospects or global recovery and the recent rise in geopolitical tensions with Iran. Exxon (XOM), as the world's largest publicly traded oil company, is likely to see investor interest. However, I believe Exxon can under perform the broader oil & gas sector in this run and one should avoid it.
My main worries with Exxon's stock price are its premium valuations, low production volume growth and high leverage to natural gas fundamentals.
Challenging Natural Gas Fundamentals
Exxon has the second-largest exposure (in terms of mix) to natural gas among the large cap oil & gas group. Natural gas prices in the U.S. are near the lowest levels of the past few years. However, it's not just the low natural gas prices that are making me bearish on the stock. It is Exxon's bullish outlook on natural gas demand, which worries me more. Most of the oil & gas majors including Chesapeake Energy (CHK) and ConocoPhillips (COP) have announced natural gas drilling cuts and yet Exxon has increased its focus on natural gas by increasing its production in the U.S. The company has also acquired XTO Energy, a pure-play natural gas company. Exxon's gearing toward domestic natural gas has increased to 16% from 8% prior to the acquisition. Clearly, Exxon's focus on natural gas is likely to be a headwind for the stock until the natural gas fundamentals turn bullish again, which I believe is unlikely in the near term.
No Near-Term Catalysts for Production Growth
I expect Exxon to post flat production volumes in 2012, and a modest 2% growth in 2013. The significant uptick in volume growth will begin only in 2014 when production in Gulf of Mexico, Papua New Guinea, Banyu Urip in Inodnesia and West Qurna-1 field in Iraq is expected to start. That clearly is some time away and bulls will not have much to cheer in 2012 at least.
XOM is currently trading at 115% of NAV with a forward P/E of 9.67 and trailing P/E of 10.31. This is a premium over its oil and gas peers. Here is a table indicating P/E multiples of oil and gas majors.
Suncor Energy Inc.
Marathon Oil Corp.
Valero Energy Corp.
With the pay-off from higher capex including accelerating volumes several years away, flat production volumes and higher leverage to natural gas over its peers in the near term; I don't think XOM warrants any premium. I see a good chance of Exxon underperforming other oil & gas companies in the near term.