A year of flat oil prices might feel like a welcome respite. Oil was volatile at the end of 2018: Prices in the U.S. dropped from nearly $77 per barrel to $42 in eight weeks from October to December, a 45% decline that was eerily similar to the market collapse that began in late 2014.
Back then, of course, OPEC was boosting output to win back market share lost to U.S. shale-oil producers. Now, OPEC is the one cutting output to try to prop up prices because U.S. oil production just keeps growing.
If the cartel succeeds in keeping supply and demand more or less in balance, 2019 could be a much quieter year for the oil market.
That could be a challenge in investing terms. It can be difficult to put money into companies such as miners or energy producers when prices are flat or falling. The shares are often correlated with commodity prices, and price declines, or a lack of upside, can appear to be an insurmountable block for investors looking to put new money to work.
The Stifel energy team says investors should look past that cloud, buying stock in larger, better-capitalized oil-and-gas companies that are more able to weather a weaker energy market. Companies with better balance sheets are likely to be more attractive to buyers if, as Stifel expects, low oil prices lead to a flurry of merger activity.
Two of the exploration-and-production stocks the broker recommends are Pioneer Natural Resources (ticker: PXD) and Cimarex Energy (XEC). Both companies have low financial leverage and both trade at a 50% discount to their historical valuations. Stifel has a $303 price target on Pioneer shares—more than double the current price. Stifel has a target price of $174 a share for Cimarex, for a potential gain of some 130%.
The Energy Select Sector SPDR ETF (XLE) has fallen 0.6% to $64.75 at 10:06 a.m. today.
In energy services, Stifel advocates owning “U.S. completion leveraged names.” That’s a mouthful, but it means owning companies that do the final work involved in bringing new oil wells into production. Stifel’s report points out that the tally of wells that are “drilled but uncompleted,” or DUCs, is up. That bodes well for providers of pressure-pumping services.
Analyst Stephen Gengaro says Keane (FRAC) and ProPetro (PUMP) offer a way to capitalize on the DUC phenomenon. He sees gains of 45% and 64% in those stocks, respectively.
Stifel also reminds investors to be aware of “IMO 2020,” an International Maritime Organization rule that reduces the level of sulfur allowable in the bunker fuel that powers ships, effective next year. Increased demand for lower-sulfur bunker, a value-added product, would benefit U.S.-based refiners.
Investors would probably like to see oil prices rising before investing in oil stocks. If they take that approach, they may miss out on some of the value Stifel sees in the sector.
The author of the Stifel note is Stephen Gengaro, not Stephen Gegaro.