What is the global state of oil stocks? And should you be investing in futures now while the price is low? – and I mean REAL low.
With the outbreak of COVID-19, the oil consumption has been at an all-time low, while yields are at a high. This is not very good news for investors and giant companies such as ExxonMobil (NYSE:XOM), BP (NYSE:B), and Royal Dutch Shell (NYSE:RDS.A)(NYSE:RDS.B).
This article does not try to sugarcoat anything. The Oil Industry is in real turmoil -please enjoy the pun. But eventually, the world and the market will start to become recognizable, so it is worth considering certain companies to invest it.
The Ugly Truth
As of April 2020 demand for oil dropped by about 25%, with 76 million barrels a day, compared to 102 million barrels prior to lockdown orders around the world.
COVID-19 came at a challenging time for the oil industry, as it has exacerbated many of the issues it was already facing due to consumer and policy changes. Since 2014, companies have had to manage liquidity, reduce costs
All of these major groups are in the midst of a serious downturn. Since the start of 2020, Shell has lost $22 billion in assets, BP has lost $17.5 billion. The problem is global, as COVID-19 keeps most people in most countries in lock-down.
For the first time in history, the price of US oil is negative, which means that oil producers are actually paying buyers to take oil off their hands. Why? Well, with record low consumption, paired with high yields, there will soon be nowhere left to store all of the oil that has been extracted.
West Texas International fell to minus $37.63 a barrel, which means that by June 2020, bares were trading just about $20. WTI is the American benchmark for US oil.
The news is no better in Europe and the UK, the Brent Crude, their benchmark, is down 8.9% at less than $26 a barrel.
Below is a chart that depicts Oil and Gas bankruptcy sales, with 6 deals totalling over USD $370 million in 2020.
Solutions and Responses
In response to the all-time-low price for a barrel of oil, companies have been working to reduce output, Opec has reduced output by 10%. The US President has agreed to buy oil for the country’s national reserve. While this will be a helpful temporary measure, a major crisis all oil companies face, and soon the national reserve, is adequate and affordable storage of the commodity.
Where to Put Your Money
You may still be wondering if you should buy oil while it is low; and if the barrel will recover?
If you are considering buying shares, then your best bet will likely be with “Big Oil” as well as with small groups will less overhead. That is because, while the major companies are set to manage downturn, smaller companies are not suffering the same kind of losses as they have comparatively lower overhead and yields.
All of this means that when lock-down orders are lifted and air travel starts to resume the price of the barrel will rise. And the companies that were able to hold on, will have a lot more value.
That being said, this is not going to happen quickly. So if you are considering investing in oil, then do not expect quick returns. These are shares you will need to hold onto for a couple of years.
Worth the Price of Admission
Here are a few companies that are worth taking a second look at.
Big oil is worth considering, because, despite the current price of a barrel, these are strong, diversified operations that have been built to survive a disaster.
These companies are ExxonMobil (NYSE:XOM), Chevron (NYSE:CVX), BP (NYSE:B), and Royal Dutch Shell (NYSE:RDS.A)(NYSE:RDS.B), along with mega-producers such as ConocoPhillips (NYSE:COP) and other names such as Phillips 66 (NYSE:PSX).
The above 6 companies are not only oil giants, but they are also giants when it comes to refining, pipelines, and petrochemicals. As a result, they are likely the safest investments in the oil patch. With their eggs in multiple baskets, these companies are in the best position to survive a downturn.
That means that when a need for fossil fuels returns, and eventually it will, your futures will payout.
Worth A Second Look
Before you rush to the market, it is important to have a realistic level of optimism. Of the above companies, all five of the largest have announced spending cuts in 2020. This is an effort to maintain cash in order to pay dividends.
These big companies have strong balance sheets, as they have low operating costs as well as large-scale operations. However, that does not mean that they are impervious to these losses.
Paying dividends is a tactic that was successful in 2014-2017, as shares were low, while yields were high. We are in a similar predicament now, with the very real caveat of COVID-19, and the uncertainty that leaves everyone in. Nevertheless, BP and Shell are both have yields in the double digits, while ExxonMobil’s yields in 2020 are at all-time highs for the company.
For example, Occidental Petroleum (NYSE:OXY), slashed its dividend to stay balance the books. This happened because of the debt it took on to acquire Anadarko Petroleum from Chevron last year.
Again, dividends are a good short-term plan, but it is important to note that BP and Shell have double-digit yields at the moment, which means that overhead costs are creeping up.
ConocoPhillips has spent the last few years selling off high-cost assets. This maneuver has put them in a position where they have an $8.4 billion cash flow, which means that they are the second-lowest leverage ratio in the sector.
Moreover, they have adjusted to lower oil prices by reducing cash expenditures by $5 billion. They have also decided to hold back oil supplies until the price improves. These intelligent strategies put the company in a good position for recovery.
Other Companies Worth Considering
Diamondback Energy (FANG)
Diamondback Energy is a smaller operation that is worth an investor’s second glance. These oil producers have taken advantage of the oil boom in Texas’ Permian Basin, turning the basin into North America’s top oil producing region. They produce more than 130,000 barrels of oil a day.
RBC’s Scott Hanold says:
“The company is one of few that have amassed a combination of quality assets, strong economic growth, minerals ownership, and a water business, which collectively help provide a competitive advantage. We believe FANG has one of the lowest cost structures in the basin and a corporate cash flow break-even (including dividend) that is among the best in the industry.”
Scott Hanold believes that shares in FANG are worth buying, as they started 2020 very strong. Their stock is down by nearly 50% since its bear market in late 2019. However, this means there is a low entry point with the potential for a high-yield dividend.
Nevertheless, the company has a solid base of productive assets, and shares are selling for $36.34. The future average price target is at $55.65, which would mean a bullish recovery for a gutsy investor.
Noble Energy, Inc. (NBL)
Nobel Energy is based in Texas, with stakes in the Permian Basin, (just like FANG) and large natural gas reserves in Cyprus and Isreal. The Texas oil fields provide the majority of Noble’s current operations. However, the Israeli Mediterranean gas fields are estimated to hold as much as 43% of the company’s current reserves.
As with the others, NBL’s recent quarter has taken a real blow. NBL’s share price is down 56% since late February. The optimism is based on the fact that the economy still oil and that demand will return.
Scott Hanold’s review of Nobel Energy is:
“NBL developed a strong, diverse portfolio of US shale and international asset base with a balance of commodity price exposure. We believe NBL is able to rely on its low-decline production base and strong balance sheet to navigate the low commodity price environment.”
Pioneer Natural Resources (PXD)
The theme here is Texas oil companies that are working in the Permian Basin. The rich resources of the Permian have transformed the US from a net importer to a net exporter of crude oil products.
Pioneer’s land holdings in the region have over 1 billion barrels worth of reserves, with a slim majority of 53% being crude oil. The rest is divided between natural gas and natural gas liquids.
Before the pandemic, Pioneer had very strong quarters in 2018 and 2019. The previous production has allowed oil stock earnings, which proved PXD to maintain its reliable dividend.
With an expansive control over resources in the Permian, the company is still in a good position to recover, as they started out 2020 with a good balance sheet.
Are the Best Days for Oil Behind Us?
As Travis Hoium reminds us, Big oil stocks have not offered the returns investors want over the last 10 years. The oil industry has faced many challenges and changes, with competition from multiple companies to keep prices low, and different consumer demands.
What is more, new technologies such as shale drilling and ultra-deepwater extraction have a low margin comparatively. As such demand for shale and deepwater are not growing the way it used to. The result is that the market is not as robust as it once was, and it is unlikely to see it return to a pre-COVID state.
Moreover, consumer needs and policy demands have changed the demographic of the oil industry even before stay at home orders were in place. Renewable energy and electric vehicles are steadily gaining market share. Commuters have made changes as well, moving closer to work, or working from home.
The result is the consumer needs no longer fit the model that Big Oil banked on. Without a doubt, there is still a need for fossil fuels, however, the market demand for them has been diminishing steadily. And it is unlikely the energy industry will ever recover fully.
Are Any Oil Stocks Really Worth Buying?
It is impossible to say exactly what the oil market will look like in the next 2 or 3 years. However, it is not going to be as fat as it has been in previous years. It is also difficult to say how long you will need to hang onto your oil stocks before you see productive returns.
So if you hope to sell your shares in 12 or 18 months, it is too soon to tell what their projected value might really be. But if you are still keen on oil, then consider the suggestions made in this article. There is no way we will be free of fossil fuels in 2 or 3 years, despite the fact that things will never look the same again; people still need to heat their homes and transport food.
A word of caution is not to be too enticed by companies like Occidental. With a stock that is down 75%, you may be convinced to hang in there for major returns in a few months.
That is unlikely.
Occidental, like other big guys, will have to spend billions just to stay afloat over the next few years; it could be 2021 before oil prices have risen above production costs. So exactly when prices will be profitable is a major uncertainty.
Oil stocks from service companies for oilfields, such as Baker Hughes, may also be enticing, but keep in mind that they rely on producers exclusively. The result is that they will suffer just as much, and may have to file for bankruptcy sooner than others.
If you are still keen on investing in oil, integrated majors such as Schell and Philips 66 deserve a second look as well. Shell has a large natural gas business which helps to offset some of its still substantial exposure to oil production, and Phillips 66 does not produce oil.
Both companies will suffer serious losses from refining operations because of the crash in demand for motor fuels. However, they remain strong in natural gas and petrochemicals, as well as hold sizable cash balances. Thus, both are poised to ride out the downturn and may well be profitable when the recovery finally begins.
This is a difficult time for the oil industry and investors. If you can afford to hang in there with shares in big oil, or in smaller Texain projects, then within a few years you may well start to see steady returns.
But the days of big oil returns are probably on their way out. Over the next few years, producers will have to focus on financial returns rather than growth. That means that shareholders may need to get comfortable with $40 a barrel as the new standard.
Oil stock investing has always been a bit risky as it is very volatile. However, in the past, you could hope for recovery; that no longer seems likely.
No one knows how long lockdowns will last in a world of COVID-19. And the longer the pandemic goes on the more people are forced to adjust their behaviors. That means we can expect much less air and sea travel for the foreseeable future.
And as other companies try to manage the crisis, many are shifting to working remotely as a new norm. That means that we may never see the return of the pre-COVID commuter.
All of this sudden change may mean it is time to start putting your money in future projects, rather than traditional industries. There is no doubt that investing in communication technology could be fruitful, as cities and towns work to bring remote locations and urban centers together – while staying far apart.
Those who bought early stock in Zoom; I bet you are feeling pretty smug now.