Cimarex Energy Is Heading South

| About: Cimarex Energy (XEC)
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Cimarex Energy Inc. (NYSE:XEC) is an oil and gas E & P company. It has properties in the Permian, the Mid-Continent, and the Gulf Coast. From these it produced 603.5 MMcfe/d in Q1 2012. Its production was 59% natural gas, 20% oil and 21% NGLs. It has good production growth in most areas. This ranges from 20% - 35% depending on the area. Unfortunately, it has not protected itself very well from price downside. It has oil hedges on 14,000 bpd at a floor of $80.00. This leaves about 6,800 bpd currently uncovered. Any growth for the rest of the year will also be uncovered by hedges. I could find no mention of any hedges on either NGLs or on natural gas. XEC has gone down as oil prices have fallen recently. However, the hedges on about two thirds of the oil production will be at their floor soon. WTI Nymex oil is currently at $83.08/barrel. The downdraft in oil production revenue will slow by two thirds if oil prices continue to fall. However, the current downward momentum in both natural gas and NGLs will likely still continue to worsen considerably as these fall, especially since natural gas is 59% of total production.

When the U.S. natural gas futures reached a near term bottom of $1.90/MMbtu in late April 2012, the HFT/momentum traders decided to push XEC back up on the natural gas price rally. They did this for a little while. Then oil prices started to fall and natural gas prices resumed their fall from their new near term high of $2.75/MMbtu. Natural gas prices have since fallen to $2.30/MMbtu at the time of this writing. With the world economic picture getting worse by the day, U.S. natural gas prices seem destined to fall still further in this leg down.

Is the U.S. natural gas glut really that bad? Yes, it is. The EIA Monthly Update of May 29, 2012 stated that natural gas use for electricity was up in March by 39.6% year over year. Many people harped on this as a signal that demand was catching up with supply. Not so. This increase amounted to +0.2Bcf greater use of natural gas year over year during the month of March 2012. Some might say this is a lot. However, the data for the first three months of total U.S. natural gas production in 2012 show that U.S. natural gas production has increased 449 Bcf over the first three months of production in 2011. If every month increased electricity generation use by the +0.2Bcf in March 2012, that would only amount to +2.4Bcf for the entire year. The increase in total U.S. production from 2010 to 2011 was approximately 1.67Tcf. Extrapolating from the first three months' data, the increase for 2012 stands to be about 1.8Tcf. This supply increase is almost three orders of magnitude more than the increase in demand from electricity generation. Without a Congressional Natural Gas For Transportation Act, the adoption of natural gas for transportation will be a very slow process. XOM's CEO has been quoted as saying XOM is waiting for clarity from the government before it invests large amounts of money in natural gas infrastructure. After all, how many of your neighbors have a car or truck running on natural gas? Very few people can say they even know of one. Very few people can say their city bus system or a local trucking company uses natural gas powered vehicles.

Some might point to the increase in NGL production as a big bonus. However, these prices have been falling too, even before oil prices began to fall. Some producers have cut back on natural gas production. However, this week's storage gain makes it clear that this is not stopping the increases in supply. The total in U.S. storage is 2,877 Bcf as of June 1, 2012. This is up substantially from the 5-year average of 2,164 Bcf for this week. Much natural gas drilling has had to continue as many leases are HBP. Plus the rush to move away from natural gas drilling resulted in many moving into WetGas drilling. This in turn resulted in a lesser, but growing, glut in NGLs. Natural gas is typically produced along with the NGLs. On top of that the drilling for oil often yields gas as an ancillary product. When you count up all of the natural gas drilling, the WetGas drilling, and the oil drilling in the U.S., the number of active rigs has risen 126 year over year to a total 1980 active rigs in the U.S. as of June 1, 2012. The natural gas glut is alive and well.

XEC is not a bad company. However, with oil, NGLs, and natural gas prices all trending downward, XEC revenues and earnings are going to be hurt. A few of its other weaknesses are:

  1. It has a Levered Free Cash Flow (TTM) of -$731.52M.
  2. It has down trending Gross Profits and Net Income for the last four consecutive quarters.
  3. It has taken little or no write downs on its natural gas reserves in the last year as prices have fallen dramatically. It will inevitably have to do this. Those will show up as sizeable losses on the Income Statement. Usually this is done on a rotating 12 month price basis,. With natural gas prices continually falling, this has to occur.
  4. Institutions sold XEC heavily in Q1 with ownership down -5,440,860 shares quarter over quarter. This is a trend you can take advantage of if you wish to short XEC. It has approximately 95.8% institutional ownership.
  5. Investors are short XEC 6.20% of the float.
  6. Analysts' EPS estimates for FY2012 have fallen in the last three months from $5.50/share to $5.02/share. The EPS estimates for FY2013 have fallen from $6.98 to $6.25. XEC missed on earnings slightly in Q1 2012. Earnings are forecast to shrink -37.10% for Q2 2012, -17.90% for Q3 2012, and -18.00% for the full year. Even the next 5 years per annum growth is only forecast at 5.41%. This makes XEC a big risk, since its revenues and earnings may shrink much more than estimated. Some have suggested natural gas prices may make a run at $1/MMbtu this summer as U.S. natural gas storage fills up or nears completely full status.
  7. The U.S. Congress is considering a new "Anti-Fracking Bill". If this passes, it is sure to cause extra expenses.
  8. XEC has a Beta of 1.71. It is a smallish market capitalization of 4.30B. This is the kind of stock that will get beaten up badly in an overall market downturn. Dr. Bernanke's talk to Congress on Thursday June 7, 2012 indicated there would be no help coming from QE in the near future. Dr. Bernanke also released a proposal to enact an international agreement on higher capital standards for banks (Basel III). This would tighten credit. It will be phased in from 2013 to 2019.It will require banks to maintain top-quality capital of 7% of their risk bearing assets (about three times current requirements). The biggest, "systemic" banks will be required to maintain and additional 2.5%. The quality ratings on assets will be those assigned by the OECD.
  9. The current EU and world economic growth has a negative trend to it. The EU crisis is threatening to become a very severe crisis at any time. Greece may leave the euro soon after its election on June 17, 2012. Many think this will cause a run on banks in Greece. They think it will also cause a Greek asset value crash of 50% or more. Such an eventuality could hurt Greek banks and many of the other EU banks.
  10. Some are saying that Spain may be the first to leave the euro. Spanish 10 year bond yields are above 6.2%. This is close to 500bps above the comparable German bond, and it is generally considered an unsustainable rate. Italian 10 year bond yields are at 5.77%. Stock markets do poorly in times of extreme economic uncertainty. Smallish mid cap energy stocks get beaten down especially badly. XEC falls firmly into this weak category. Energy stocks are very cyclical. You can take advantage of this. I recently wrote an article which more fully covers the above situation, "How Much Trouble Is Spain In? The EU?"

The five year chart of XEC provides some technical direction for this trade.

(Click to enlarge)

The slow stochastic sub chart shows that XEC is oversold. This may mean that you might be better off if you wait for it to rebound a bit before you sell or short it. The main chart shows that XEC is in a strong down trend. The 50-day SMA has just crossed the 200-day SMA moving downward. This is a technical SELL signal. This trade should have a ways to run. It has a long way that it could run from the current approximately $49 to the 2009 recession low of approximately $16. There are a number of places it could stop in between. The economic situation still has a good ways to fall. As the economy falls this smallish cyclical should fall with it. The gluts in natural gas and NGLs should help this along.

Note: Much of the fundamental fiscal data above came from Yahoo Finance.

Good Luck Trading.

Disclosure: I have no positions in any stocks mentioned, but may initiate a short position in XEC over the next 72 hours.