Profiting from the new oil and gas boom
Decades of importing crude from the vast Arabian deserts left many people believing that America’s dependence on foreign oil was as inevitable as the tide. But sweeping changes in the way oil and gas are extracted are challenging that assumption.
The United States, which was once so dependent on imported oil that energy laws were designed to conserve domestic reserves, is now expected to be energy-independent by 2020. In fact, the nation is rapidly overtaking Russia to become the world’s largest producer of oil and natural gas.
As anyone who has seen the classic 1956 film Giant or the TV series “The Beverly Hillbillies” knows, drilling for oil in America is as old as the hills. But that history means that opportunities for land-based drillers are limited.
“The largest onshore oil fields have been developed,” said Todd Scholl, an analyst at Wunderlich Securities. “All the low-hanging fruit is gone.”
Off-shore investments
Drilling at sea, on the other hand, offers a new frontier, especially as rigs and drilling techniques become more sophisticated and are better able to probe into deeper waters. Scholl is especially bullish on offshore contractors that don’t own the wells but hire out their crews and equipment for offshore exploration.
Most offshore producers also have onshore operations. We’ve identified two companies with major water-based projects that are certain to play a key role in their growth.
One of them is Anadarko Petroleum (symbol APC). Some of its most promising projects are located in the Gulf of Mexico and off the shores of Brazil, Colombia, Kenya and Mozambique.
Analysts praise Anadarko for its skill in finding large-scale discoveries at a low cost. At $97, the stock sells for 18 times projected earnings — not terribly expensive in view of Anadarko’s expected long-term earnings growth rate of 22 percent.
The other company, Apache Corp. (APA), has gone through a rough patch over the past couple of years. Shares of the Houston exploration firm, which peaked at $133 in April 2011, sank to $69 two years later, thanks to a combination of low gas prices and operational missteps. Investors also fretted that political instability would derail Apache’s joint ventures on some 10 million acres in Egypt.
But Apache launched an aggressive restructuring program this year, selling off one-third of its Egyptian assets as well as fields in Canada and the Gulf of Mexico. It is using the $7 billion in proceeds to pay off debt and buy back shares.
Apache said that recently completed wells in the North Sea contributed 16 percent of the company’s worldwide production revenue in 2012. The firm is also developing projects in Alaska’s Cook Inlet and off the shore of Australia. At $90, the stock is cheap, trading for just 12 times projected profits.
New natural gas extraction
One reason for the turnaround is the use of hydraulic fracturing, or fracking, in horizontal wells, which allows for vastly increased amounts of oil and gas extracted from shale.
This ability to pull gas out of previously unfriendly rock has been a boon for production but — at least from an investor’s viewpoint — a bane for prices.
Natural gas, which sold for $10.91 per thousand cubic feet in 2005, was selling for $3.41 in July. That’s partly because domestic use of energy is on the decline, leaving newly prolific producers with more supply than demand.
U.S. companies are also hampered in their ability to sell gas overseas, where prices are far higher. Opening the export market would boost demand and create greater parity between international and domestic prices, a move almost certain to boost domestic gas prices.
But because no one knows when supply and demand will come into better balance, your best bet is to invest in low-cost producers that can make money even when gas prices are low.
Companies to consider
Three attractive producers are Range Resources (symbol RRC), Cabot Oil & Gas (COG), and Southwestern Energy (SWN). All three have stakes in the Marcellus Shale basin in southwestern Pennsylvania, which produces prolific amounts of energy for a relative pittance.
All three are growing and profitable. And earnings could soar if gas prices rise to $4.50 to $5 per thousand cubic feet.
Range, which has a one-million-acre shale-bearing property in the Marcellus region, predicts that its gas production will soar seven- to tenfold over the next few years. The Fort Worth-based company reported that revenues rose 50 percent and profits soared 159 percent in the second quarter from the same period in 2012.
Its stock isn’t cheap, however. At $77, Range sells for 42 times projected earnings for the next 12 months. Still, if the projected growth rates hold, Range’s stock price could prove to be a bargain.
Cabot sells for a similarly lofty price, trading for 30 times estimated year-ahead earnings. The Houston concern expects to boost gas production in the Marcellus region by 30 to 50 percent annually over the next several years.
Southwestern started to lease Marcellus land in 2007, making it one of the newer players in the region. Overall, Southwestern’s growth rate is slower, so its stock, selling for 17 times forecasted year-ahead profits, is less pricey than the other two.
Kathy Kristof is a contributing editor to Kiplinger’s Personal Finance magazine. Send your questions and comments to moneypower@kiplinger.com. And for more on this and similar money topics, visit www.Kiplinger.com.
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