Energy Sector

[Viking]

13 hours ago, Parsad said:

 

 

Highly unlikely we see $200 per barrel.  

 

The only oil and gas stock I bought in the last 18 months was XOM around $54 and sold out at $96.  

 

Gas prices in Vancouver hit a peak of $2.42 a liter a couple of weeks ago...today down to $2.069 a liter based on recession fears.  

 

The recession, or perceived recession, may cool demand enough to keep oil at these levels for a while.

 

Cheers!

Oil averaged about $120 for about 7 years (2007-2015 or so). Adjust for inflation and you get something like $135 today. So not very long ago oil averaged around $135 for close to a decade.
 

Today demand continues to grow at 1 million barrels/day every year like clock work (people in China, india, indonesia etc all want a better life and that is ONLY POSSIBLE with increased use of hydrocarbons = oil). The supply picture today is much worse than 15 years ago. So i think $150 oil is a pretty reasonable expectation. Not my base case. But it also would not surprise me. What is interesting is gas prices recently actually reflected $170 oil (if you normalize current $60 crack spreads) and consumption did not miss a beat (people complained but did not materially change their behaviour). I think the demand destruction argument is overplayed at oil under $150. 
 

$200 oil is also not my base case. But i would not rule it out. Especially given war in Europe and the high uncertainty what happens to energy prices in Europe as winter approaches. Putin is no dummy and he has Europe over a barrel. Saudi Arabia hates Biden/Democrats (and their calling out of Khashoggi affair etc) so they are going to do the US no favours. The third big producing region is US/Canada and ESG will ensure muted production growth there FOREVER. Clearly, the risk to oil prices is skewed big time to the upside. 
 

A mild recession will do little to slow demand. The only solution that i can see to high oil prices (in the near term) is a bad recession (like 2008). And i don’t think that is in the cards. Regardless, post recession we would likely be in the exact same demand/supply imbalance mess we are currently in.
 

How governments are responding to to high inflation/oil prices is also very instructive. Populism is driving the political response:

1.) stimulate demand: lower gas taxes. Cut more checks to the poor.

2.) constrain supply: demonize producers. Tax producers (windfall tax). Double down on ESG practices (do nothing to incentivize oil companies to make necessary long term investment decisions to grow production).

Bottom line, governments are doing nothing to either reduce oil demand or increase oil supply. Or accelerate the energy transition to renewables. In fact they are doing the opposite. This will result in higher oil prices in the future. Which of course is good for oil company profitability. 
—————

The really interesting thing is the stocks of most oil companies (and i am talking about the Canadian producers as they are the only ones i follow closely) are priced today for about $65-$70 oil. And as they aggressively de-lever they will all soon have fortress balance sheets (little debt). +$100 oil and they are making obscene amounts of money. $90 oil and they are making greedy bastard money. $80 oil they are making great money. $70 oil they are making very good money. $150 oil? They will be making King Midas money.

Edited July 3, 2022 by Viking

[Viking]

Here is an interesting article reviewing Buffett’s investment history and oil. A picture is sometimes worth 1,000 words…

Buffett Buys Oil & Gas Stocks

- https://bisoninterests.com/content/f/buffett-buys-oil-gas-stocks

 

Today, Chevron and Occidental are generating enormous free cash flow, have upside to higher commodity prices, offer inflation protection, and are returning part of their free cash flow to shareholders via buybacks and dividends. These companies generated strong cash flow in 2019 and 2020, when Buffett initially bought preferred shares of OXY and common stock of CVX. By the time Buffett added massively nearly 40B to these positions, making oil & gas one of the largest positions on the Berkshire book, their free cash flow yields had increased substantially.

 

In the past, Buffett saw oil and gas businesses as beneficiaries of inflation, subject to attractive valuations, at times where he saw very few other similar opportunities in the market. Buffett appears to have the same approach this time around, buying inexpensively while embracing inflation protection from oil price exposure, stating that these purchases are “a bet on oil prices over the long term, more than anything else.” 
 

And in contrast to the prevailing green transition narrative, Buffett’s partner, Charlie Munger, made his view on oil clear in their most recent shareholder conference in Omaha: “I like having big reserves of oil. If I were running … the United States I would just leave most of the oil we have here and I would pay whatever the Arabs charge for their oil, and I’d pay it cheerfully and conserve my own. I think it’s going to be very precious stuff over the next 200 years.” 

 

[Ulti]

http://www.gasprocessingnews.com/news/exxon-signals-big-gains-in-second-quarter-oil-and-gas-production-in-securities-filing.aspx

[nwoodman]

This probably belongs in the politics section but it did make me laugh

 

 

[Sweet]

This is why generalists stay away from energy.

 

Some names are trading below November levels now.

 

[Spekulatius]

58 minutes ago, Sweet said:

This is why generalists stay away from energy.

 

Some names are trading below November levels now.

 

I mentioned this before, I think crude goes back to $80-90/ brl which is where it was before the Ukraine invasion. Russian oil has not disappeared from the oil market, they export about the same quantities than before, just to different destinations A lot bulls are getting high on their own supply here.

 

The money here is likely made on the short term we see the same nonsense playing out again and again (looks at semis ) and it’s not better than betting on COVID-19 winners.

That said, I do think energy prices will end up higher than before the epidemic , but not as much than bulls think.

Edited July 5, 2022 by Spekulatius

[lnofeisone]

Eh, I hate seeing urinary Olympics like this for public to consume. What O&G industry needs to hammer away is this - we are here to help and here is what we need from the administration. I think the onus is on the industry to show its ESG efforts (carbon capture, whatever but have the administration be a bit friendly) and at least appear friendly. Put this administration in a position of choice and they will do whatever is needed to help them survive elections.

 

As far as companies trading below November, I'm fine with that. I'll keep nibbling away. These companies are close to having pristine balance sheets, massive (albeit reduced with WTI going sub-100) cashflows, buybacks, dividends, ESG trend. I wouldn't want to own this scenario at 10-15x FCF, but at 4x it's a no brainer. 

[Spekulatius]

34 minutes ago, lnofeisone said:

Eh, I hate seeing urinary Olympics like this for public to consume. What O&G industry needs to hammer away is this - we are here to help and here is what we need from the administration. I think the onus is on the industry to show its ESG efforts (carbon capture, whatever but have the administration be a bit friendly) and at least appear friendly. Put this administration in a position of choice and they will do whatever is needed to help them survive elections.

 

As far as companies trading below November, I'm fine with that. I'll keep nibbling away. These companies are close to having pristine balance sheets, massive (albeit reduced with WTI going sub-100) cashflows, buybacks, dividends, ESG trend. I wouldn't want to own this scenario at 10-15x FCF, but at 4x it's a no brainer. 

The US  oil industry is making a huge mistake here, politically. This sort of stuff does not get them anywhere. Furthermore, Biden could actually bring down prices at the pump by bringing down excessive refining margins  by slapping on an export ban for refinery products.? Turn out we are huge net exporter of refined Refinery products . Might be quite popular with the average Joe Sixpack.

 

Its not the first time either we had something like an export ban. For a long time, we had a ban on crude exports in place that benefited the refining industry. 
 

[Viking]

1 hour ago, Spekulatius said:

I mentioned this before, I think crude goes back to $80-90/ brl which is where it was before the Ukraine invasion. Russian oil has not disappeared from the oil market, they export about the same quantities than before, just to different destinations A lot bulls are getting high on their own supply here.

 

The money here is likely made on the short term we see the same nonsense playing out again and again (looks at semis ) and it’s not better than betting on COVID-19 winners.

That said, I do think energy prices will end up higher than before the epidemic , but not as much than bulls think.

@Spekulatius my read is today we have a demand / supply imbalance (requiring US to draw down SPR). Demand continues to increase, driven by India, China, indonesia etc. I see little new supply coming on line (unlike the past). I think people underestimate how broken the supply side of oil is today. 
 

Oil trading at $90-$100 is the best outcome for oil companies over the medium term. At that price demand will continue to grow. And little new supply will be coming on stream. And oil companies will continue to print money. Low debt targets will be hit in next 6 months. What to do with all that cash? When stock price is low? Not rocket science… share count will be the next big use of free cash flow. 
 

The more the politicians demonize the industry and enact stupid short term policy they will simply ensure the supply response is less than it otherwise would be.
 

And oil equities will be SUPER VOLATILE. investors have to be able to handle this.

Edited July 5, 2022 by Viking

[Spekulatius]

You can buy similar FCF yields with companies that have very little commodity risk, Examples : GEF-B, WRK and to a lesser extend CE.

In my opinion, these may turn out  to be better investments in the long run. They have much less ESG headwinds and I would argue secular tailwinds from industry consolidation and substitution (WRK) and electrification (in the case of CE)

 

Or if you like real cash returns ( not promises of cash returns ) look at the miners BHP or RIO. They are currently distributing double digit dividend yields. Those dividends are variable , but they own world class resources (iron ore for BHP etc) that place them as the best quality and lowest cost on global scale. BHP builds a potash mine that is going to be a 100 year life - think about an inflation protected asset here (it will require continued reinvestment but the initial outlay is one time >$7B). It could become a tremendous asset if it operates well (which is TBD).

 

All the above are a much less crowded trade than energy and they have come down a lot from the peak, as have some commodity prices. However I can see that one can get high single digit returns from cash distributions alone without any multiple expansion or price change with inflation at all.

Even with modest increases in equity value the returns through the cycle should be double digits.

 

People go gung ho on energy because makes a lot of headlines sind performed well, but there is a lot of stuff out there  that seems to scream value and nobody seems to care much.

 

( I own GEFB right now, but looking at WRK and CE as well). The miners are for later…

 

Edit - if I do invest in this sector, the Canadian oil sands producer would be at the top of list (CNQ, SU) due to have long life resources and likely strong FCF.

Edited July 5, 2022 by Spekulatius

[Sweet]

1 hour ago, Spekulatius said:

I mentioned this before, I think crude goes back to $80-90/ brl which is where it was before the Ukraine invasion. Russian oil has not disappeared from the oil market, they export about the same quantities than before, just to different destinations A lot bulls are getting high on their own supply here.

 

The money here is likely made on the short term we see the same nonsense playing out again and again (looks at semis ) and it’s not better than betting on COVID-19 winners.

That said, I do think energy prices will end up higher than before the epidemic , but not as much than bulls think.

That is a realistic scenario.

 

However worth noting that the these moves are very influenced by financial markets.

 

The physical market is still displaying large deficits - I’ve explained what I mean by deficits before.

 

It’s not the average price that is putting off investors but the enormous swings.

Many energy stocks are down nearly 40% in one month, what generalist wants to invest in that?  It’s got more volatility than some crypto.

 

I see some oil watchers on Twitter questioning the usefulness of financial markets because of these swings - both up and down.  I’ve not seen any solutions though.

[Viking]

12 minutes ago, Spekulatius said:

You can buy similar FCF yields with companies that have very little commodity risk, Examples : GEF-B, WRK and to a lesser extend CE.

In my opinion, these may turn out  to be better investments in the long run. They have much less ESG headwinds and I would argue secular tailwinds from industry consolidation and substitution (WRK) and electrification (in the case of CE)

 

Or if you like real cash returns ( not promises of cash returns ) look at the miners BHP or RIO. They are currently distributing double digit dividend yields. Those dividends are variable , but they own world class resources (iron ore for BHP etc) that place them as the best quality and lowest cost on global scale. BHP builds a potash mine that is going to be a 100 year life - think about an inflation protected asset here (it will require continued reinvestment but the initial outlay is one time >$7B). It could become a tremendous asset if it operates well (which is TBD).

 

All the above are a much less crowded trade than energy and they have come down a lot from the peak, as have some commodity prices. However I can see that one can get high single digit returns from cash distributions alone without any multiple expansion or price change with inflation at all.

Even with modest increases in equity value the returns through the cycle should be double digits.

 

People go gung ho on energy because makes a lot of headlines sind performed well, but there is a lot of stuff out there  that seems to scream value and nobody seems to care much.

 

( I own GEFB right now, but looking at WRK and CE as well). The miners are for later…

Yes, there are lots of opportunities out there for investors. The narrative for oil has shifted… the new narrative is oil is going to $60. Even though it is $100.

I think it is pretty clear demand for oil will grow minimum about 5 million barrels over the next 5 years. Where will that incremental supply come from? What countries? In a world that has been under investing for 8 years.  I cannot find any plausible answer to this question. If anyone has read anything that lays out where all this oil is going to come from please share it. (And ‘the cure for high oil prices is high oil prices’ is not a very sophisticated answer). 

[james22]

2 hours ago, lnofeisone said:

I think the onus is on the industry to show its ESG efforts (carbon capture, whatever but have the administration be a bit friendly) and at least appear friendly.

 

Nah, I believe ESG is something the public pretends to care about only when they can afford to.

 

The industry need only demonstrate it can deliver in way alternative sources cannot, ESG be damned.

[lnofeisone]

I agree that ESG is something the public only cares about when they can afford to. The challenge for O&G industry is that they are in a very unfriendly administration environment that can do a lot to bring on the pain. As Spek pointed out, Biden can impose tariffs on exports (personally, I'm skeptical of that as we would be pissing off a lot of our neighbors, allies, and areas where we have geopolitical interests). They can also be particularly attentive to maintenance as they are doing with Freeport LNG terminal (again, here, Freeport LNG screwed up majorly and should've done better). I am more than happy to take oil in $100-$110 range, gasoline in low $4s so that's enough to print $ but not enough to hurt the consumer and trigger the administration. 

[Spekulatius]

On 7/5/2022 at 2:05 PM, Sweet said:

That is a realistic scenario.

 

However worth noting that the these moves are very influenced by financial markets.

 

The physical market is still displaying large deficits - I’ve explained what I mean by deficits before.

 

It’s not the average price that is putting off investors but the enormous swings.

Many energy stocks are down nearly 40% in one month, what generalist wants to invest in that?  It’s got more volatility than some crypto.

 

I see some oil watchers on Twitter questioning the usefulness of financial markets because of these swings - both up and down.  I’ve not seen any solutions though.

I would go as far as ignoring the futures prices for oil if you invest in oil equities. I am not sure how useful they are to predict. it is pretty clear to me that prices should have never shot up $140/ brl because Russian oil is gone from the market - well it isn’t.

 

There we’re some idiots saying that gold would go to $3000/ oz because of banning Russian gold in the EU. That‘s totally ignoring how the Gold market works (totally fungible) and ignoring that new Gold supply is minuscule compared to Gold in circulation.

 

Besides the oil, I think NG is actually the energy source with the larger strategic relevance  and probably the higher for longer term pricing.

 

Some companies like SHEL have a huge integrated gas business that will benefit, but SHEL seems to be run in such a value destructive manner that it’s still not really worth investigating until it get much cheaper, Imo. 

Edited July 9, 2022 by Spekulatius

[Spekulatius]

5 minutes ago, lnofeisone said:

I agree that ESG is something the public only cares about when they can afford to. The challenge for O&G industry is that they are in a very unfriendly administration environment that can do a lot to bring on the pain. As Spek pointed out, Biden can impose tariffs on exports (personally, I'm skeptical of that as we would be pissing off a lot of our neighbors, allies, and areas where we have geopolitical interests). They can also be particularly attentive to maintenance as they are doing with Freeport LNG terminal (again, here, Freeport LNG screwed up majorly and should've done better). I am more than happy to take oil in $100-$110 range, gasoline in low $4s so that's enough to print $ but not enough to hurt the consumer and trigger the administration. 

Yep, Export ban for refinery products  would hurt the refining industry but also our trade partners. I think a lot of gasoline is actually going to Mexico, so they could potentially see shortages which could put their already suffering economy over the edge.

 

It is something  that would bring prices at the pump in thr US down in the short term, but probably do a lot of damage long term.

[LearningMachine]

Reminder of a quote from Buffett in 1979 letter:

 

"One friendly but sharp-eyed commentator on Berkshire has pointed out that our book value at the end of 1964 would have bought about one-half ounce of gold and, fifteen years later, after we have plowed back all earnings along with much blood, sweat and tears, the book value produced will buy about the same half ounce. A similar comparison could be drawn with Middle Eastern oil. The rub has been that government has been exceptionally able in printing money and creating promises, but is unable to ... create oil."

 

Source: https://www.berkshirehathaway.com/letters/1979.html

Edited July 5, 2022 by LearningMachine

[james22]

1 hour ago, lnofeisone said:

The challenge for O&G industry is that they are in a very unfriendly administration environment that can do a lot to bring on the pain.

 

Sure, I just think there are limits to even the current administration.

 

Maybe wishful thinking, I admit. Progressives seem convinced approval ratings reflect only a communication failure or that they've not gone far enough.

[SharperDingaan]

All I hear, are addicts screaming for the economic put.

A recession is coming!, my portfolio is down many % !! I can't handle the volatility! make it go away!! Cut gas prices!, stop the cost of living hikes !!, stop the interest rate hikes !!! GIMME the put !!!! 

 

The reality is that a wall of sky high CF is about to be reported, along with massive shareholder distribution. 

"Exxon could post about $18 billion in profit when it reports second-quarter earnings later this month, according to Wells Fargo. A year-ago second quarter, Exxon earned $4.7 billion, or $1.10 per share, which beat estimates."  https://www.barrons.com/articles/exxon-earnings-stock-analyst-51657031089

... and it's not just Exxon, it's the entire industry

 

Sure, WTI fell $8-10 today. $95-105 is still a very good number, and was pretty much the average for Q2,2022. Record cashflows can absorb a lot of volatility.

 

O/G is volatile, that's why people invest in it - it can go up just as quickly as it can go down.

However, I would put if to you that if you did NOT have an o/g exposure in your portfolio, your 2022 YTD return would be a lot closer to the S&P500 return, or -18.9%.

 

Sure, you're down today, but are you down the -18.9% YTD ? Probably not.

Take a powder.

 

SD

 

 

 

 

Edited July 5, 2022 by SharperDingaan

[Spekulatius]

Elevator up and down Syndrom:

 

If oil prices go from $60/brl to $100 brl, underlying oil stock  trades at price A

Then oil goes to $120, and after that  oil goes back to $100 and underlying oil stock trades at B

I can almost guarantee you that B < A, most likely significantly so.

The reason is simple - probably half the people who owns this don’t have a clue and just play the momentum or the story. They would actually pay more for a oil stock with crude at $80 on an uptrend than the same oil stock with crude $100 and trending down.

Edited July 5, 2022 by Spekulatius

[Viking]

1 hour ago, Spekulatius said:

Elevator up and down Syndrom:

 

If oil prices go from $60/brl to $100 brl, underlying oil stock  trades at price A

Then oil goes to $120, and after that  oil goes back to $100 and underlying oil stock trades at B

I can almost guarantee you that B < A, most likely significantly so.

The reason is simple - probably half the people who owns this don’t have a clue and just play the momentum or the story. They would actually pay more for a oil stock with crude at $80 on an uptrend than the same oil stock with crude $100 and trending down.

@Spekulatius so let’s test your theory with reality. Let’s look at CNQ the largest Canadian oil company (i focus on the Canadian producers). Looks like you are right! Investors ARE able to buy CNQ today at a much lower price (company also has much less total debt) than the last time oil crossed $100 (Feb 28). 

1.) when did oil hit $60? Feb 20, 2021. CNQ share price was US$27.29

2.) when did oil hit $100? Feb 28, 2022. CNQ share price was US$$55.83

3.) when did oil fall back to $100? July 5, 2022. CNQ share price was US$51.33

 

And over the past 4 months CNQ has earned about US$3.50/share in free cash flow that was used to pay down debt, buy back stock, pay dividend and grow future production (management has been exceptionally rational and shareholder friendly). 

—————

As an investor what i care about is earnings. CNQ is projected to earn about US$10/share in free cash flow in 2022. 1/2 of the year is in the bag. Do i think they will hit the annual number? Yes. Forecasts for 2023 are for slightly higher free cash flow. This is based on oil of $96/share (i use RBC). My guess is there is at least an equal chance oil trades over $96 the next 18 months as below it. So buying CNQ today at $50 (which is what i did) there is a reasonable chance i will see $15 in free cash flow over the next 18 months. To me that looks like a reasonable risk/return (on an extremely simple back of the napkin analysis).

 

And i am learning to love the volatility. I think of Graham’s Mr Market coming to my door each day with a price… sometimes wicked high and other times wicked low…

 

 

Edited July 6, 2022 by Viking

[Spekulatius]

@Viking What I wrote is nothing else than Mungers Elevator up or down concept in a specific framing. I would guess that it works about 80% of the time.

 

I think one mistake people make is that they buy something with certain issues and after they buy, they think that this issue is going away and multiples increase. In fact, at least with commodity plays, the opposite is happening and as fundamentals improve, the multiple gets lower. It is exactly the opposite that happens with growth stocks (as fundamentals improve, the multiples  increase).

This makes for a power full Feedback loop with growth stocks, but rarely not with value stocks, especially commodity plays.

 

With commodity plays, you should be comfortable if you can live with just the cash distributions without any multiple expansion or much price improvement over and entire cycle (trough to top). If you get a good return on this, you probably bought at a good value.

 

On CNQ, I agree with everything you said and think it will probably be OK above $80/brl or thereabouts.

[Viking]

@Spekulatius i appreciate the back and forth… great way to test drive ideas and get other perspectives. 
 

What i am also learning with commodity plays is the importance of management… and what they do with the buckets of cash when times are good. Especially to hold through the cycle. CNQ has increased the dividend for 22 consecutive years (which had many years of terrible oil markets). Pretty solid track record (balancing growth, dividends, share buybacks, debt).
 

Stelco is back on my watch list. Shares are down to C$32. Market cap is $2.3 billion and my guess is they will have about $1.3 billion in cash after they report Q2 earnings (assuming the land sale has closed). So company has an enterprise value today of about $1 billion (forgetting about the pension liability) which is getting pretty attractive. Especially if steel prices stay well above historical averages (which i think they likely will). BUT it all depends on ones confidence level in Mr Kestenbaum and his capital allocation skills.

Edited July 6, 2022 by Viking

[Spekulatius]

I agree on capital allocation and it gives me pause many commodity plays. I suspect that a lot of bad decision will be made yet again if they feel flush.

With those, I really would like to see a clear capital distribution plan. BHP and RIO for example have that, they just distribute cash.

 

For example going back to RIO which does a lot of copper, it seems that both Copper and RIO are back to 2020 prices. However, before make a sad face for RIO shareholders, you have to account for almost $15 in dividends you have received from them. Nobody can take these away. So if you hold those in an IRA or tax deferred account, they are good investments even with the stocks going nowhere.

Edited July 6, 2022 by Spekulatius

[Ulti]

And that’s why I keep adding to Rio Also  I feel that we will get thru this rough patch ( as well as China) and Rio has the most cost effective exports to China in certain metals due to their proximity.