Interesting comments this morning from Raymond James.
For the last six months, we have been pounding the table on E&P stocks and valuations to no avail. Essentially, our view of the rosy commodity price outlook has not translated into investor interest and share\price appreciation. Last week, investor interest in E&P stocks improved dramatically, with the XNG index up 12% for the week. A number of factors seem to have contributed to the change in attitude regarding E&P stocks, including {i) increasing confidence in the strength and sustainability of current oil/gas fundamentals, {ii) rotation out of high flying "new" economy stocks due to valuation concerns, {iii) clear evidence of positive pricing momentum in the E&P sector, and {iv) given the bullish outlook for oil/gas fundamentals, compelling E&P valuations. Furthermore, the increased oil market visibility after the OPEC meeting and the string of NASDAQ Composite losses last week seem to have provided the catalyst for movement into E&P stocks. But frankly, that's last week's news. The real question is, "What lies ahead?
Despite Recent Move -Valuation Multiples Remain Below Historic Averages Historically, E&P stocks have traded in a price-to-cash flow range of 4.0x to 7.0x forward 12-month cash flow. Until recently, E&P companies were trading at the low end of that range. What is amazing is not that E&P stocks were trading at about 4.0x forward cash flow, but that they were trading at that level with the NYMEX 12-month crude oil futures at roughly $25 per barrel and NYMEX 12-month natural gas futures around $3.00 per mmbtu. Placed in a historical context, E&P stocks should be trading toward the high end of their range. Even with E&P stocks now trading in the neighborhood of 5.0x cash flow, there is reasonably 30% upside remaining in these stocks based on historical valuation multiples. Historically, the XNG, which is an Index of natural gas producers, correlates relatively well to the NYMEX natural gas futures strip.The XNG index will need to appreciate another 26% to match the appreciation in the NYMEX 12-month natural gas futures strip.
Sector Rotation Has Created Momentum in Value-Oriented E&P Stocks. In late February, with the increasing likelihood that there would be less gas in storage at the end of the withdrawal season compared to a year ago, the XNG index began to move higher. In early March, the XNG index met resistance at around 150 and traded in a range for about three weeks. Last week, probably as a result of greater oil market visibility subsequent to the OPEC meeting, and sector rotation out of high flying "new" economy stocks, the XNG broke out of its recent trading range. Its interesting to note that on Friday, March 31, the XNG moved up only marginally, while the NASDAQ Composite rose 114 points, suggesting that sector rotation is very likely a key contributor to the performance of the XNG. As shown in the graph below, the break out of the XNG above its recent trading range and above near-term resistance at 150 and longer-term resistance at 160 suggests that from a technical perspective, the index is capable of moving higher. Furthermore, the recent slope of the 30-day moving average is increasing exponentially.
Comstock Resources (CRK/$5.50}
Comstock Resources, headquartered in Dallas, Texas, is an independent oil and gas production company.
Comstock is engaged in oil and gas property acquisitions, exploration, and development, primarily in Texas, Louisiana, and the Gulf of Mexico. At year-end 1999, the company had 375 Bcfe of proven oil and natural
gas reserves. The fourth quarter of 1999 was an inflection point for Comstock as the Company returned to profitability
and continues to ramp up capital spending and drilling activity. Going forward, Comstock has a sizeable inventory of drillable locations scheduled for 2000, which should allow the Company to increase production and reserves.
The recent drilling successes at the Double A Wells Field have provided a new leg of growth for the Company. As one of the lowest cost producers in the industry, Comstock is highly levered to the current strong commodity price environment. Comstock is currently trading at 2.3x and 2.0x our 2000 and 2001 cash flow estimates of $2.39 and $2.72, respectively, and represents one of the most compelling valuations in our universe of coverage
Jim |
