E&P vs. OSX -Goldman - bullish on nat gas says overweight...
I think many people unfortunately are taking a very simplistic interpretation on the E&P comments I made in comparing the upside to the risk vs. reward equation of the E&P's here vs. driller & service stocks.
We went through this during the initial rally druing the spring of 1999. The E&P's led the % breakout early on, were a tremendous play and I posted many comparison charts of these stocks vs. the OSX index during that run - in case some have forgotten, or simply once again chosen to use selective memory.
I also think I made my points on the OSX. 2 times of late when we dipped down sub OSX 70 - I commented that the driller & service stocks were "then" the play - the likes of $32 SII, $9-10 FLC, $15-$16 ESV etc were the time to load up for traders, or buy & hold investors. Many E&P's have returned , or still are close to levels reflective of OSX 65-70ish - while the OSX has broken out to near prior resistance levels & on that note, resistance is usually broken via the reporting of upside surprises in earnings, backlogs/new orders, revenues, equaling postive fundamentals - which are not really at an accross the board level in the OSX yet, nor are they predicted to be untill Q2 2000 in most cases.
The E&P's - especially selected small caps had tremendous runs this past spring, the sold off and resumed the summer rally as did the OSX - peaking at their YTD high's in Septemeber. My main point here that was some stocks - like FGH in particular, disconnected from both the OSX & the E&P rally and did not participate in the summer to Sept rally. - imo, those stocks are the problem stocks that the Street will take a show me attitude towards. Certainly the have deadcat bounce ability - but, the valuation levels for the E&P's in comparison to the actual fundamentals and historic valuation multiples - allow one a more "logical" (not emotional) expectation of upside appreciation - and very, very importantly - with much, much less RISK imho.
The "RISK" factor is the other side of the investment/trading equation of risk vs. reward - and many here seem to ignore that half of the equation of late.
Imo, the E&P's now exceed the driller/service stocks on both metrics - having both less risk and more reward potential.
Presently - the OSX has rallied to near its recent highs with many OSX components near 52 weeks highs - this is not the case with the E&P's - who have remained oversold due to the softness and the retrace in Nat Gas prices.
Where the Superior value in the E&P's comes into play is on the fundamental side. These stocks like OEI PXD UPR NBL EOG XTO had, or still have as much as 50% upside to their recent highs of this September - that is not the case of the OSX. The OSX broke out earlier - there are very few real no-brainer plays and many of these stocks are at resistance points and will need strong fundamentals to move them higher, but many will still continue to post declining fundamentals in backlogs, new orders, earnings etc. - that is not the case with the E&P's as commented on by Petrie Parkman and other analysts of late. - of note, stocks many of us have followed & commented on like VPI, FST etc have just in the last few days broken out 30-50% - let alone the one day pops in stocks like RRC of 25% etc. - this type of "coiled spring" does not exist across the board in the OSX arena imho.
One subsector is getting earnings, cash flow targets upgraded, while many OSX components are still getting downward rivisions to earnings here and the next few quarters forward; but most importantly - are no where near the numbers posted in 1997, 1998 - the E&P's shortly will be and are trending upward in a positive qtr over qtr and year over year comparison basis ! - THAT is the BIG STORY here & the OSX stocks are NOT showing that same qtr over qtr & year over year improvement - quite the OPPOSITE actually... again, that is the story here and THAT is my main point !
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One sector (EYP's)has dramatic fundamental momenteum -is showing huge qtr over qtr and year over year improvement and the analyst community is starting to really point that out - and the other (driller/service) is no where close to posting these year over year,or qtr over qtr positive earnings comparisons.
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The E&P's have not rebounded like the OSX here due to the softness in Nat Gas prices; which are still 25% above last year (creating an anomaly) - hence we have a subsector that will post near 100% earnings upside to last year (dramatically outperforming driller & service sector stocks !) and also, have fundamentals which are dramatically more positive than the OSX stocks. Commodity prices here are double for crude oil and 25% higher for Nat Gas;but yet these stocks are still giving us 50%, or more upside to merely their recent highs, or their highs last year with oil prices 1/2 of current prices and nat gas prices 25% lower than current prices !?!?!
E&P's are offering an "anomaly" buying opportunity that is fundamentally and historically supported right here and right now ! & the driller & service stocks have allready broken out and are priced ONLY on their forward looking positive expectations here and are not undervalued by ANY historic valuation multiples, or their present fundamentals.
Driller & service stocks will not reach the fundamentals earnings levels of the 97-98 boom untill 2001 in most analysts estimates here; for the E&P's - many are now at those levels, or will be during the next few quarters on an annualized qtrly basis.
That fundamentals to price basis allows appreciation opportunity that dwarfs that of the driller service stocks imo. The entire analyst community is presently commenting on this "Fundamental" valuation separation - unlike many on this thread who trade "emotionally" - the entire analyst community is picking up on this story. There is NO arguement on this story on the street - we just had many 15-25% pops on E&P's over days here and we will continue to see those shortly, I don't think we will see many breakouts in the OSX stocks to those levels.
I simply can not see anyone running ESV NE MRL, or CAM WFT SII BJS up 35-50% in the next quarter perhaps; but the likes of NBL EOG XTO PXD UPR XTO have outstanding expectations of doing just that. Some like VPI & FST - allready have broken out nearly 30%-50% in weeks. The micro & small caps have been cut in half from their recent highs - some doubles for savy stockpickers are very realistic - the likes of RRC with a one day 24% move etc.
Few doubles look realistic in the driller, service sector imo; and few will be fundamentally supported by historic valuation multiples that the E&P's will be.
This is not to say that there will not be "some" individual stories in driller & serivce stocks - of course there will be. But, they will be far & few between - while the E&P's are still in a "throw a dart" mode.
The E&P's on their historic valuation multiples easily support 40% upside nearly as a sector; SSB, Petrie Parkeman, Merrill and others have commented on this. They are not talking about the driller & service stocks in the same % basis at all here. SSB actually in an earlier report, graphed a breakout history showing that 4,5 times in the recent past when E&P's reached these valuation multiples - that they had a documentd history of quickly (within weeks) rebounding 30-40%. They look for a near 40% sector breakout possibility in the very short term - we saw signs of it in individual stocks during the last few days.
The story is that no one is calling for a "historic valuation multiple" - fundamentally supported breakout call for the driller & service stocks. The driller & service stocks are very fairly valued by any prior valuation multiple used. These stocks simply do not have the earnings, cash flow and fundamentals drivers at levels to support the upside that the E&P's do.
I would gladly match the upside to UPR PXD OEI EOG NBL here for example to BJS SII CAM NE MRL for example. But, again - this is not just a REWARD upside equation; it is the downside RISK part of the equation that also is more favorable to the E&P's that make this such an outstanding opportunity.
As far as Big Bull's concept on taking the stance that the E&P's will be looking at higher dayrates for drilling; many companies have locked in longterm contracts at present levels which are historically still at bargain basement levels ! - and if anyone does their homework (VBG); simply look back at the history of the Oilpatch cycles, when dayrates reach these "peak" levels.
But, even for the sake of arguement - that "concept" is not really a high impact one; because once production comes online - those drilling cost disappear on a daily basis - and drilling costs only go up in a high capex/high commodity price enviornment. For that to happen - means the E&P's are receiving strong prices for their past drilling -present, or future production - that factor dwarfs any dayrate volatility. What also happens - is in order for this to be happening, Cap Ex spending must be at peak cycle levels - and it will not be at those levels unless commodity prices support those levels; and when they do - this "peak" cycle of the Oilpatch rewards E&P'w with greatly expanded valuation multiples because commodity prices are positive and they have strongly trending earnings, cash flow & production profiles.
This supposed "factor" of higher drilling dayrates throwing a monkey wrench into the E&P story is simply non-existant, and is not reflected in any historic sense in the review of prior cycles. Valuation multiples expand #1, and the increased cost of drilling is not a $ for $ related cost to production. Another $10,000 in dayrates for an offshore rig is not connected to $10,000 in production - the $ per day drilling cost is a fraction of the $ per day production revenue on a forward looking basis. Increased production, cash flow & earnings absorbs these dayrates increases easily - and the "peak" cycle nature of these dayrates increases is also totally negated by the Market applying greatly expanded - peak cycle multiples to the E&P's.
We have 5-9 x cfps being the historic range in these larger cap E&P's - with many only trading near 3 x cfps here like UPR OEI PXD XTO. At the return to 5-7 x cfps - these stocks will absorb increased dayrates like a hiccup for an elephant - allways have, allways will. The expansion from 3 x cfps here to just 5 x cfps would allow a dramatic increase in drilling dayrates to be absorbed ! - a non factor in the big picture.
Dayrates are STILL in the historic cheap sweetspot for the E&P's - that is the REALITY here - THAT should be yet another reason why the E&P's offer vastly superior risk vs. reward than the driller, service stocks. Dayrates have a long, long way to go before that are anywhere near the levels to support Big Bulls's concept...
Only time will tell; but do not underestimate the analyst community and all the commentary on this valuation anomaly that exists in the E&P's here. Goldman is just the latest to jump on this story - this "Valuation anomaly" & fundamentally supported story is NOT being pushed on the driller & service stocks presently... there simply is NO arguement anywhere in the marketplace other than on this thread where emotion and sadly, not logic rules...
Beat the crowd to the party ...
* the only caveat for active traders, or those using margin is to trade these E&P's off of the Nat Gas chart - & weather reporting - as that is how they are trading presently... may get a week of buying opp here with the warm weather - use it to beat the crowd to the party imo.
- It will be interesting to see the API reports during the next few weeks; this could really create some upside suprise, as many expect Y2K builds to negate any serious drawdowns over the next few weeks... Some analyst have commented that the rate of decline in supply is reflective of OPECs current production being the real equivalent of an "Embargo" - triggering the near certainity of $30+ crude to be seen. We shall see... |
