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5 ways to play oil's renewed strength
The commodity's price is climbing again, but many energy stocks have already had a good run. Still, there are ways to find winners in the sector.
By Jim Jubak
Oil is back flirting with $50 a barrel. And now, the commodity isn't showing any signs of wanting to stop at that level.
This means it's time to buy oil and oil equipment stocks again, if you can find some with enough fundamental oomph to justify their high prices. In my regular Wednesday appearance on CNBC's "Morning Call" I picked three oil sector stocks that fit that description. I'll tell you about them in more detail here, and I'll finish off with two exclusive picks just for CNBC.com on MSN readers.
During last year's oil rally, the closing price of a barrel of oil raced ahead of the long-term trend line called the 200-day moving average. As the rally went along, the pace of the increase in the price of a barrel of oil kept on increasing, showing that more buyers were coming into the market even as the price of the commodity climbed. A pattern like that is solid evidence that a rally will roll on for a while.
That pattern came to an end in December as the commodity began to sink back toward its long-term average. Buyers were finding that higher prices were a reason to sell, or at least not buy, rather than motivation to jump in with both feet. Finally, the closing price of a barrel of oil fell below the 200-day moving average and the rally was officially over.
Now it's back. The price of oil crossed back above the 200-day moving average on Jan. 3, and it's been putting space between itself and the average ever since. At the close Friday, the 200-day average was $48.53, almost $5 a barrel above the 200-day moving average that day of $43.76.
Unfortunately for investors looking to pick up a bargain on the dip, oil stocks didn't drop nearly as much as oil did. Exxon Mobil (XOM, news, msgs), for example, dropped just 4.7% from its December closing high to its January closing low. Schlumberger (SLB, news, msgs) declined 5.5%. With so many energy stocks trading at or near 52-week highs, it's hard to find any that combine positive price momentum with a fundamental story that justifies an increase in stock price.
But I've found a few. Here are the three that I recommended on CNBC's "Morning Call."
Drilling prospects galore
XTO Energy (XTO, news, msgs) had a great year in 2004. It likely recorded a 25% or more increase in natural gas production. The actual number will come out when the company reports fourth-quarter results, set for Feb. 9. 2005. And 2005 could be just as good.
Thanks to some acquisitions made early last year that weren't finalized until the fourth quarter, 2005 gas production could climb by 20% or better. In fact, the company lists enough drilling prospects to support double-digit gas production rates for the next few years, Lehman Brothers estimates. The company also built a new pipeline, three processing plants and added new compression equipment in 2004 that increased production capacity.
Analysts figure the company's earnings per share grew 60% last year and will climb another 32% this year. The stock trades at 15.3 times projected 2004 earnings per share and 11.6 times projected 2005 earnings per share. Our StockScouter rated the stock a 10 out of a possible 10 on Jan. 26.
Help from a merger
Varco International (VRC, news, msgs) is in the picks and shovel business, or in this case the drilling system, rig instruments, drill tubing management and drill cuttings disposal business, for oil drillers. The more wells the oil companies drill, the more business that Varco International sees. And now the oil companies are drilling wells as fast as they can in areas with proven reserves. (In contrast, the oil companies aren't spending hand over fist to look for new reserves.)
Analysts project that earnings per share will climb by 32% in 2005. (The company is scheduled to report fourth-quarter results on Feb. 1.) The company is set to merge with National-Oilwell (NOI, news, msgs) sometime this quarter. That deal will create a true pick-and-shovel power able to offer everything from drill cutting disposal to drilling motors to supply chain management. Under the terms of the deal, each Varco share will be exchanged for 0.8363 National-Oilwell shares, so investors buying Varco now will get a slight 1.6% premium when the shares are exchanged. Our StockScouter rated the stock an 8 and National-Oilwell a 5 on Jan. 26.
A bet to beat expectations
Cal Dive International (CDIS, news, msgs). When I first recommended this stock on CNBC's "Morning Call" in August, I said that earnings projections for 2005 were almost certainly wrong. Wall Street was projecting that earnings growth would drop to 18% from 103% in 2004. Well, investors didn't have to wait for 2005 to see proof of that. When the company reported its third-quarter earnings, it blew past the consensus estimate by 23%. But while analysts have learned from that and bumped their estimates of 2004 growth up to 133%, they haven't really budged on 2005 estimates. The consensus now calls for just 19% growth in 2005.
With bookings for its construction fleet of 22 ships and 25 remotely controlled vehicles picking up as 2004 drew to a close, and with lease rates climbing as well, the company won't have any trouble proving Wall Street wrong again this year. In the other part of the company's business, oil and gas production, investors can expect higher prices and higher production as the company's Gunnison and Marco Polo projects continue to move toward full production. Our StockScouter rated Cal Dive a 7 on Jan. 26.
In my two exclusive picks for CNBC.com on MSN readers, I've found stocks that combine more risk with more potential appreciation. These shares have rallied strongly in the last few days, giving them a lot of momentum but also increasing the possibility of a short-term pullback. If you look at their charts, you'll see exactly what I mean as the price line zooms away from the trend at a steep pitch.
Back in service
Atwood Oceanics (ATW, news, msgs). Look at Atwood Oceanics' chart to see exactly what I mean: These shares were lagging under their 50-day moving average as recently as Jan. 7 before taking off to smash through it and the top of their trading channel as defined by the Bollinger Bands indicator. But this is a drilling rig company that at the end of 2004 had just started to see the last of a string of bad luck and accidents that had taken several of its rigs out of service.
For example, the Atwood Beacon, which suffered damage in the summer, is just getting back into service off Vietnam. With so many rigs out of service, revenue suffered in 2004, but this year the company will be able to sign new contracts for its rigs at much higher prices thanks to the recent climb in rig day rates. Wall Street currently projects earnings growth of 231% for the fiscal year that ends in September and 146% for fiscal 2006. Our StockScouter rated the stock a 9 on Jan. 26.
Going global
Precision Drilling (PDS, news, msgs) is a Canadian contract drilling and energy services company that has taken advantage of the boom in the Canadian energy industry. It's expected to report solid earnings growth of 14% for 2004.
But the company is ramping up to move out of its Canadian base by acquiring the worldwide land drilling assets of GlobalSantaFe (GSF, news, msgs) in May 2004 for $316 million in cash. The deal makes Precision Drilling a global player with rigs in the Middle East, North Africa and South America.
For 2005 Precision Drilling is one of the few energy companies that Wall Street sees growing at a faster rate than in 2004, with earnings growth set to hit 22%. With that growth rate increasing, the projected price-to-earnings ratio on projected 2005 earnings per share is just 16.9. Our StockScouter rated the stock a 10 on Jan. 26.
As always with the stocks I recommend on CNBC, I assume a six-month holding period for these shares.
Editor's Note: A new Jubaks Journal is posted every Tuesday and Friday.
E-mail Jim Jubak at jjmail@microsoft.com.
At the time of publication, Jim Jubak didn't own or control shares in any of the equities mentioned in this column. He doesn't own short positions in any stock mentioned in this column.
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