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Stocks Downgraded As Oil Outlook Shaved

Commodities | Jul 20 2017

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Weak oil prices are undermining the performance of many stocks in the energy sector and several brokers have reduced their forecasts, noting oil prices may remain lower for longer.

-Lower oil price forecasts lead to reductions in estimates for major oil producers
-De-stocking expected to slow and help tighten oil balances globally in the near term
-Most constructive driver of the oil price envisaged to be a slowdown in US production growth in 2018

 

By Eva Brocklehurst

Weak oil prices are undermining the performance of many stocks in the energy sector and several brokers have reduced their forecasts, noting oil prices may remain lower for longer. Ord Minnett expects weakness to persist as US shale production continues to grow and OPEC reverts to a market share-based strategy.

The broker incorporates lower oil prices into its energy sector forecasts. This leads to a reduction in Woodside Petroleum's ((WPL)) rating to Hold from Accumulate, as lower oil prices will affect the company's growth outlook. However, Ord Minnett raises its recommendation on Santos ((STO)) to Speculative Buy from Hold, as a recent decline in the stock is providing a value opportunity.

The broker prefers Origin Energy ((ORG)) because of improving retail prices in its utilities business and also likes Oil Search ((OSH)) for its corporate appeal.

Ord Minnett energy analysts have lowered Brent price forecasts to US$50/bbl for the rest of 2017 and for 2018-19. Additionally, the broker's long-term price estimates have been reduced to US$55/bbl, from US$60/bbl previously, on the basis of continued growth in US shale and a shift to a market share strategy from OPEC and Russia.

Citi has revised down its expected price path for oil through 2017 and 2018. Signs of continued productivity gains onshore in the US have compressed the broker's oil cost curve. Citi concludes that the incentive price required to meet future demand has reduced to US$40-60/bbl. As such, the broker reduces long-term oil price forecasts to US$55/bbl from US$65/bbl.

Woodside and Oil Search are downgraded to Sell and the broker prefers Santos, Sino Gas ((SEH)), AWE ((AWE)) and Beach Energy ((BPT)), which are Buy rated. This list is followed by Origin Energy, which is downgraded to Neutral and Senex Energy ((SXY)) which is rated Neutral/High Risk. Ultimately, Citi prefers domestic gas stocks over the oils and LNG stocks.

LNG

Given prevailing weakness in LNG markets, Citi also reduces the assumptions for long-term LNG prices to US$8/mmbtu and assumes further delays for expansion in PNG, removing the LNG option value from target prices for PNG-sensitive stocks. Ord Minnett suggests weak oil prices may also inhibit LNG capacity growth and estimates a long-run LNG price of around US$9/mmbtu is required to induce new growth in supply.

Macquarie observes the technical realities of how much oil production is loaded and moved into consumption and storage centres has created disappointing oil de-stocking and price actions. Assuming OPEC can maintain its reductions in the second half, the broker expects year-on-year production comparisons should improve versus the first half, which was hampered by massive increases to production from the second half of 2016.

The broker also suspects de-stocking will slow and this should help tighten visible balances around the world. Offsetting the benefits, is any acceleration of US production growth along with the return of Libyan and Nigerian production. Macquarie notes all three countries primarily produce light sweet crudes and, on a barrel-for-barrel basis, these have a more negative impact on oil balances versus sour crude grades that are typically produced in OPEC.

The main driver of Macquarie's modelling for 2018 crude oil supply is a return of OPEC cuts in the second quarter. The broker expects the ramp up of previously cut production to occur quickly because of the nature of OPEC reservoir and field characteristics.

The more constructive drivers of the oil price include an assessment that US production growth will slow markedly in 2018 and non-OPEC production will continue to decline. The broker believes tight oil (shale) activity is rising so rapidly that it appears to be seeking a constraint.

In this regard, pressure pumping capacity may operate as a constraint in tight oil in the second half of this year. Absent this constraint, US onshore production could theoretically grow 1.8mmbpd over the year to December 2017, the broker calculates.

The greatest risk to Macquarie's production outlook is a further weakening of crude prices that could constrain cash flows for the sector and push completions into 2018. Nevertheless, absent cuts from OPEC persisting through to 2019, or unforeseen geopolitical events, the global oil market is not expected to be able to absorb the current level of growth.
 

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