Energy Business

Are Oil Analysts Getting Too Pessimistic With Lower Oil Prices?

Hess Corporation (NYSE: HES) was recently trading at $83.20 and shares have fallen 20% from their peak. The stock has a consensus price target of $100.82 and a 52-week trading range of $72.86 to $104.50. It has a total market cap of $25 billion. Wells Fargo’s valuation range was cut to a range of $79 to $85 from a range of $83 to $87 previously. Raymond James recently raised Hess’s rating up to Outperform from a Market Perform rating, and it assigned a $100 price target.

Marathon Oil Corporation (NYSE: MRO) was recently trading at $33.40 and shares are down about 20% from the 52-week high. The stock has a consensus price target of $42.81 and a 52-week trading range of $31.35 to $41.92. Marathon has a total market cap of $22 billion. Wells Fargo cut marathon’s price target down to a new range of $31 to $35 from $35 to $37.

These lower oil prices and cash flows have the potential to drive lower capital spending in 2015 and 2016. A majority of the companies have visible production growth from multi-year spending commitments and will not be able to adjust spending as quickly as market indicators might imply. Looking at the near term, cuts would be more likely to come from the exploration and acquisition budgets which, in turn, can reduce longer-term production growth targets in those categories.

Credit Suisse’s Jan Stuart has also talked down oil expectations, particularly on Brent Crude, warning that the central scenario of global oil fundamentals argues that weakness is real and profound, with a surprisingly large supply surplus. Stuart said,

“Though our oil price forecast deck was last adjusted in Mid-October, we are again worried that it’s too optimistic… Evidently our fourth quarter targets of Brent $92 per barrel and WTI at $85 per barrel look and feel high already… $75 per barrel in West Texas Intermediate brings about a very meaningful but temporary slowdown of growth momentum in year one in the US tight oil universe – which given inertia will probably stretch into 2016. After that, however, Cashflow and Capex should grow again, as the North American resource base is that good.”

Other oil stocks have also seen their analyst price targets cut. Apache Corp. (NYSE: APA) was called as having a strategy that was on track by Fadel Gheit of Oppenheimer. Unfortunately, the analyst cut the Oppenheimer price target for Apache down to $100 from $120 in the call. The other note was that Apache’s $4 billion or so capital budget was based on the assumptions of $80 per barrel in WTI and $4 per thousand cubic feet for natural gas. What if those energy price assumptions become too optimistic?

Wells Fargo’s quick conclusion for 2015 is that it will deliver production growth under almost any scenario but a sustained 30% or greater reduction in drilling would potentially be enough to eliminate growth by 2016 or 2017. Roger Read detailed in the report:

“We are comfortable saying that $70-80 per barrel oil does not cover the full operating costs to develop all the oil being produced currently, (i.e., an unsustainably low price). Within non-OPEC, clearly some portions of North American (NAM) production (non-core oil shale and oil sands), North Sea, and even Russia would drill less with oil at $75 per barrel. Based on our analysis, OPEC members Angola and Nigeria do not offer adequate returns at $80 per barrel oil because of local content rules and royalties/taxes. Other OPEC members, Libya and Iraq, are effectively off limits to long-term investments due to civil unrest. From a fiscal budgeting standpoint only a handful of OPEC nations can sustain their budgets with $80 per barrel oil. That leaves a couple of ways to “fix” the $80 per barrel oil question; ratchet down operating costs including taxes and other mandates and restrictions, lower social spending and invite unrest, or deliver an oil price recovery to at least the $90-100 per barrel range.”

The analysts at Canaccord Genuity also recently trimmed their forecasts for oil ahead. While the firm’s forecast and price assumptions for oil had been $96 for 2015 and $92 for both 2016 and 2017, the new Canaccord Genuity target is now $75 per barrel for each of the next three years.

Meanwhile, Bank of America Merrill Lynch sees a small production cut coming from OPEC.  Also, at the end of October came lower 2015 oil price predictions from Goldman Sachs – with WTI at $75 and Brent at $85 in the first quarter of 2015 – both of which were down $15 from the firm’s prior forecasts. Goldman Sachs even warned that WTI could fall as low as $70 per barrel in the second quarter of 2015.

We also have a separate post with the latest oil prices and their impact on earnings estimates from the analysts at Sterne Agee.

What would seem to be conventional wisdom is that OPEC has started a market share war that could keep oil prices low and restrain North American shale production growth. How long that lasts is up to interpretation and guessing.

As a reminder from 24/7 Wall St., analysts and economists often get tunnel-vision when big price moves occur. When prices drop significantly in oil, they set their long-term forecasts for lower prices for what can be longer than they should have. When oil prices rise and rise, they often raise their price targets too aggressively. Whether or not that is the case now is something that remains a story under development.

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