Special Focus on Independent Oil & Gas
The Case for E&Ps –
Combining Historical Outperformance and Attractive Valuations Written by Tracy Mackenzie (Director, Research) and Jack Allardyce (Analyst, Research), N+1 Brewin
As uncertainty continues to grip the financial markets and macroeconomic environment, shareholder registers and ratings have exhibited a flight to safety, with moves away from frontier explorers and inadequately financed companies (unsurprising given ongoing tightness in the debt markets). This has seen our selected listed E&Ps underperform the wider market across the last 12 months (-15% vs -2% for the FTSE All Share (ex. IT)), despite ongoing strength in the oil price. Does this then represent a buying opportunity, given historical sector outperformance (particularly in the wake of an economic recovery) and current ratings? We believe this to be the case, but first let us expand our view and look to the past for lessons.
Historical Outperformance…
Across a reasonable time horizon, listed E&Ps have typically outperformed the wider market. The absolute performance of our basket of selected companies (which includes our coverage constituents along with four larger mid-caps)1 is represented by the red line below. The constituents largely comprise established FTSE 250 E&Ps that have cash generative portfolios and a few more ‘romantic’ constituents, which have more emphasis on exploration and appraisal (Borders, Bowleven and Nautical). The combination of more established producers (still with growth acreage) and the spice of the frontier explorers offers the potential for significant outperformance.
The chart below quite clearly demonstrates how the FTSE O&G Index (which is dominated by Shell, BP & BG) tracks the broader FTSE All-share. In stark contrast our basket of E&Ps has diverged significantly. Over a 12 month period, on a relative basis, our E&P basket has underperformed the FTSE All-share by 13%. However, over a five year period the basket has outperformed by 124%, rising to 983% over ten years.
Comparative 10 Year Absolute Performance
200 400 600 800 1000 1200 1400 1600 1800
0
Feb-02 Feb-03 Feb-04 Feb-05 Feb-06 Feb-07 Feb-08 Feb-09 Feb-10 Feb-11 Feb-12 E&P Basket
Brent FTSE All Share (ex. IT) Source: Thomson Reuters
We believe this evidences that identifying a sensible range of small and mid-cap. E&Ps and retaining holdings in successful players in the space can lead to very significant outperformance. However, we would caveat that our selected constituents largely comprise the ‘winners’ and exclude some of the less successful constituents, as well those no longer listed due to take-overs or ultimate failure.
1 Afren, Borders & Southern, Bowleven, Cairn Energy*, EnQuest*, Heritage, JKX Oil & Gas, Melrose Resources, Nautical Petroleum, Premier Oil*, Salamander Energy, Soco International, Tullow Oil* and Valiant Petroleum. * = consensus NAV estimates.
FTSE O&G Producers
Drillers and Dealers :::
::: February 2012 Edition
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