3 Stocks Investors Think Will Continue to Sink

Photo credit: Transocean 

Shares of offshore drillers are off by nearly 13% so far this year. According to some investors the worst is still to come. At least that would explain why short-sellers are piling into the stocks of Transocean (NYSE: RIG  ) , Hercules Offshore (NASDAQ: HERO  ) , and Diamond Offshore Drilling (NYSE: DO  ) .

That sinking feeling
Short-sellers have been really piling into Transocean over the past four weeks as short interest is up 34.6%, followed by Hercules Offshore at 32.4%. Overall, the short interest ratio in all three is higher than 5.5, with Diamond Offshore Drilling the highest at 6.51. Meanwhile, Transocean's short interest ratio is three-and-a-half times higher than its historical average.

All of this suggests investors expect these three stocks to continue sinking -- and it's easy to understand why: Despite strong revenue backlogs, all three have a number of drilling rigs without a contract for 2014. For example, as the following slide from a Hercules Offshore investor presentation shows, the company does have several rigs available later this year and throughout next year.

Source: Hercules Offshore Investor Presentation (link opens a PDF)

So, while the company has a revenue backlog in excess of a billion dollars, some investors see the uncontracted availability as a liability, which is why they are shorting shares.

Meanwhile, short-sellers are emboldened by the fact that a number of Wall Street analysts are cutting price targets on offshore drillers. Diamond Offshore recently saw its price target cut by a number of analysts. Further, five analysts now rate Diamond Offshore a sell, while 15 have it rated a hold, and just one rates it a buy. It's a similar story with Transocean as several analysts have recently cut price targets on its stock as well. Meanwhile, seven analysts rate it a sell, compared to 15 with hold ratings, and just three buy ratings.

Brighter days ahead
While analysts and investors are increasingly bearish on these stocks, all three companies are pointing to better days ahead. Hercules, for example, noted that recent lease sales in the Gulf of Mexico show that the industry is still very bullish on its prospects.

Meanwhile, Transocean sees just near-term softness as projects are being delayed to 2015. Moreover, the long-term supply imbalance in its core ultradeepwater segment remains and that suggests a very strong future for Transocean. The company sees the industry growing from the 500 deepwater wells it drilled last year to a future of drilling more than 1,250 wells a year by 2025. To get to that number the industry potentially could add another 215 deepwater rigs, so today's oversupplied market should dry up in the future.

Photo credit: Transocean

Further, the current market slowdown could end up being a long-term opportunity. For example, Hercules used the last downturn to acquire its main competitor. It ended up making that deal just before demand began to improve. Because of that we could see these companies capitalize on opportunities to grow at the expense of weaker rivals.

Investor takeaway
While these stocks could continue to sink in the short term, the current turbulence in the market looks to be a long-term buying opportunity for investors. Transocean looks especially compelling as it continues to high-grade its fleet, which could include an MLP of slower growth assets combined with a much higher dividend. So, while investors think its shares will continue to sink, over the long term the company appears poised to deliver strong returns.

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  • Report this Comment On April 09, 2014, at 5:37 PM, rassgg wrote:

    These three are dropping because the investing community realizes that they will be laggards due to the fact that Seadrill (SDRL) has modernized revamped its fleet of jackups and drillships and they

    will be getting a much larger share of the market.

  • Report this Comment On April 09, 2014, at 6:05 PM, mariposa12345678 wrote:

    with the crude moving up,demand for drilling rigs will increase.I think those stocks should going up.I remember last year I brought airlines stocks when those analysts so bearish .

  • Report this Comment On April 09, 2014, at 11:02 PM, oldmanoftheC wrote:

    I really, really dislike the click HERE videos that offer the hot stock pick. The presenters go on….and….on……and….on. I have clicked on some in the past and rarely waited until the end. I don't even click anymore, no matter how intriguing the lead-in sounds.

  • Report this Comment On April 10, 2014, at 5:49 PM, meshac wrote:

    Amen to oldmanofthec.

  • Report this Comment On April 10, 2014, at 11:06 PM, JoeMcMen wrote:

    I stopped trying to look at the videos too. My satellite connection is slow and expensive. Much of what they ramble on about is well known to long-time fools like me.

  • Report this Comment On April 11, 2014, at 6:56 PM, Blackthorn wrote:

    Me Too! Always a huckle.....

  • Report this Comment On April 11, 2014, at 7:03 PM, foinatorol wrote:

    I always start the video then exit the web page (click the x on the tab at the top). Usually that gets a warning: "wait! are you sure?...". Then, I choose "cancel" to stay on the page....then instead I get to read the text, which is still long, but at least I can skim over the fluff.

  • Report this Comment On April 13, 2014, at 9:42 PM, qpsi82 wrote:

    Motley

    I agree with "oldmanoftheC" comment. The long videos are annoying!. I even purchased a membership with you (thinking) just see if this is fluff for those that are not members. lo!! I don't even respond to them anymore in spite of enjoying being a member. In sales, they say you only have the audience's attention for about 15 minutes, so get to the point .....sales 101.

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