Stocks not floating upward on rising tide of energy prices - Investors drill oil companies
By JIM KENNETT
Houston Chronicle, February 2
It used to seem so logical: Oil and natural gas prices go up, energy-sector stocks go up; oil and natural gas prices fall, energy- sector stocks fall.
For almost nine months, however, investors have bucked that historical trend, despite crude prices that topped $30 a barrel on Feb. 14 and 1999 earnings for the industry that have grown faster than those of any other sector in the Standard & Poor's 500.
Analysts blame glitzy technology stocks for soaking up investors' interest. They blame investors' irrational expectations for the oil sector. They even blame high crude prices.
The fact is, no one can make sense out of what's going on.
"I have never seen the disconnect between industry fundamentals and the stocks as bad as it is today," said Stephen Smith, oil analyst with Dain Rauscher Wessels in Houston.
The disappointment isn't limited to shareholders. The equity markets have dried up for many oil companies just when they want to raise money to buy the flood of properties that other big oil companies are expected to sell in the near future, said Todd Maclin, group executive of Chase Bank's Global Oil and Gas group.
The promise of gas-powered electric plants would seem to demand that investors also take advantage of that expanding market, but that is not happening, either.
One estimate placed the need for capital in the oil and gas industries at $1.5 trillion over the next 15 years.
The head-scratching about the discrepancy between energy prices and stocks begins with a look at the commodities markets.
Since May 8, one month after a major production cut by the Organization of the Petroleum Exporting Countries took effect, oil prices have maintained a steady climb from $15.83 a barrel.
On Feb. 14, light sweet crude for delivery in March peaked at $30.25, the highest price since the 1991 Gulf War, though it closed the week at $29.51.
Gas prices have risen in recent weeks after winter finally descended upon the Northeast.
Yet investor interest in energy is lackluster at best.
Analysts and bankers give two key reasons for the disparity between commodity and stock prices -- the public's insatiable interest in technology firms and disbelief that oil prices can remain in the upper $20s.
"This has been a market that is all about tech," said Phillip Pace, managing director of equity research at Credit Suisse First Boston, noting the massive returns available to technology investors through initial public offerings.
"How does any sector in the market compete with that kind of IPO sector?" Pace said. "Capital ignores the (oil) sector and stays with what's working, and techs are what's been working. ... Portfolio managers can't ignore short-term performance, and if they do, they do so at their peril."
Lack of respect for energy shares is particularly painful considering that oil and gas companies have trimmed costs to the point that they enjoyed phenomenal earnings growth last year -- far better than in the rampant tech sector.
Investor expectations are the key to understanding what is happening in both sectors, analysts said. Expectations are that technology stocks eventually will pay off, and that crude prices eventually will fall.
Which brings investors and analysts to the strangest facet of the oil market: For share prices to go up, many believe crude prices must come down.
Investors are still wary after watching a two-year rebound that sent oil from $10 a barrel in 1998 to $30, and they're unlikely to feel better until prices have found some middle ground.
"The 30-dollar oil thing is more of a negative than a positive, because it's not sustainable at these levels," said Pace, adding: "You used to be able to argue that a falling price will hurt the stock. I say, how do you explain the fact that they didn't do good in a rising price environment?"
Beginning Feb. 14, shares in both integrated and independent oil firms finally jumped, with Exxon Mobil rising 7.4 percent to 80 over three days and Anadarko 9.1 percent to 32 7/8 over two days. These fillips were the result of investors raising their estimates for a stable crude price, analysts said.
But the gains were short-lived. By Friday, Exxon Mobil shares had fallen to 75 and Andarko shares to 30.
What's needed, some say, is a drop in oil prices that brings a stabilization in the mid- to low $20s. Although exploration and production stocks would fall in the short term, some analysts predict they would rebound in the mid-term.
"Even based on 20, the E&P stocks are undervalued," said Smith of Dain Rauscher Wessels.
Saudi and Mexican officials last week gave their support to a possible $20 to $25 trading band for oil.
The price of natural gas, production of which has come to dominate the North American energy market, is another problem. Although it has been strong in recent weeks, rising as high as $2.89 per thousand cubic feet on Feb. 2 because of cold weather in the Northeast, a decade of warm winters has left long-term prices erratic.
"Even when it looked like supply and demand for natural gas was going to be very tight, all of a sudden you had an extremely light winter and the expected tightness didn't happen," said Smith. "It has been a sector that's been frustrating for that reason ... and what it's done is produce a real skepticism."
If there is a positive side at all to the energy investment picture, it's that exploration and production companies still are able to tap debt capital markets for their needs. Chase's Maclin noted that his firm expects to raise $3 billion soon for one client, principally using debt markets.
A recent example of the divide between the equity and debt market picture is Kerr McGee, a large Oklahoma-based oil and gas company with strong chemical operations that went to capital markets with an equity offering last week. The company succeeded in raising almost $1 billion, but to do so, it had to offer less equity and more debt than originally intended.
In the end, Kerr McGee raised $375 million through an offer of 7.5 million common shares -- 1.5 million shares less than planned -- and made up the difference by increasing the size of its offering of 10-year convertible subordinate debentures -- debt securities convertible into stock -- to $600 million. They were placed at 5.25 percent.
Demand for the convertibles was strong, according to Skip McGee, managing director and co-head of Lehman Brothers' energy group in Houston, which underwrote the offering.
"The ultimate goal was to get $900 million, and we got it through a little bit different path than we thought," said McGee. "The convertible was hugely popular with investors ... (and) we realized that the common side was not going to be as easy to grow, and that the entire peer group (of stocks) had traded off."
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