October was more like "shocktober" for oil investors. Thanks to the worst monthly oil price performance in more than two years, the entire industry got punished by the stock market. But, as you probably know, when prices are down, it's time to go bargain shopping!
We asked three Motley Fool contributors to discuss an oil stock they think is a great buy this month. They came back with Seadrill (SDRL), Occidental Petroleum (OXY 0.09%), and Hess (HES 0.65%). Here's why they think you should put these companies on your radar.
The stock market hasn't been kind to the oil industry lately, but these three top stocks have an excellent chance to outperform. Image source: Getty Images.
Rising from the dead
Travis Hoium (Seadrill): It's only been a few months since Seadrill emerged from bankruptcy, but it already looks like a well-positioned stock in offshore drilling. The company has 64 drilling rigs around the world and the average rig is only eight years old, one of the biggest and youngest fleets in the industry, allowing it to offer capabilities others can't. After shedding $5.2 billion during bankruptcy, it has just $7.4 billion of debt and $2.1 billion of cash at emergence. That's a solid balance sheet given the company's size, but it's not these figures that make me bullish on Seadrill long term.
The offshore drilling industry has gone through a phase of consolidation, exemplified by Ensco and Transocean buying Rowan and Ocean Rig, respectively, which is a key strategic move for every offshore company. The industry has suffered from overbuilding of rigs and fierce competition for new contracts, so consolidation could result in lower price competition for everyone involved.
There are also some bullish signs for oil prices long term, which ultimately drive demand for drilling rigs. Global demand for oil continues to rise as the economy improves, and threats like electric vehicles have taken longer than expected to materialize. We may also see some upward price movement with Saudi Arabia announcing production cuts and OPEC pondering further reductions in supply to raise oil prices. Higher oil prices could be a boon for offshore drillers, particularly in expensive ultra-deepwater where Seadrill is a leader.
Given the recent bankruptcy, it's easy to see that Seadrill comes with risks. But a positive macro environment for the oil industry makes me think this is a risk worth taking.
Mauled by the bear
Matt DiLallo (Occidental Petroleum): Shares of U.S. oil giant Occidental Petroleum tumbled nearly 20% in the past month due to a combination of lower oil prices and a decision to walk away from an oil field in Qatar. That sell-off, however, doesn't make much sense because Occidental Petroleum recently completed its oil price break-even plan and already has a strategy to quickly replace the lost cash flow from Qatar.
Crude priced have plunged in the past month as market fears of an undersupply due to new sanctions on Iran have given way to worries that there could be too much oil on the market after the U.S. granted waivers so that Iran could continue exporting oil to many of its key customers. As a result, crude prices in the U.S. have plunged from a peak of more than $75 per barrel to around $60 a barrel in early November. While that big drop in oil prices will likely impact Occidental Petroleum's cash flow, the company recently achieved the aims of its oil price break-even plan. Because of that, it can generate enough cash flow at $40 oil to maintain its current production rate and dividend.
The other issue weighing on Occidental in the past month is the decision not to pursue a contract extension for an offshore oil field in Qatar that expires next October. The company currently generates $300 million in cash flow from this contract. However, an extension would have required that Occidental make major infrastructure investments, which would have reduced free cash flow to $70 million per year over the next five years. Because of that, the company plans on reallocating this capital into its other assets, which should replace the lost cash flow by 2020.
Occidental Petroleum's sell-off last month was excessive, given that it can easily survive lower oil prices as well as its decision to walk away from Qatar. Because of that, it looks like a great oil stock to buy in November.
All three of these picks suffered double-digit share-price declines in October. HES data by YCharts.
Taking a different path
John Bromels (Hess): Drillers are always the first companies in the oil sector to get punished when prices take a turn for the worse, and Hess was no exception. The oil and gas exploration company even failed to see a big price spike after reporting stellar Q3 earnings on Oct. 31. But the market's loss could be investors' gain.
First of all, Hess is immune from one of the biggest concerns about the domestic oil market right now: shipping constraints in the red-hot Permian Basin in West Texas. With the Permian in the midst of a huge production boom, there currently aren't enough existing pipelines to transport all that oil to refineries and shipping terminals on the coast. Luckily, Hess sold its Permian assets in 2017, so it doesn't need to worry.
Instead of competing for elbow room in the hotly contested Permian, Hess has focused its efforts on its leading position in North Dakota's Bakken Shale. Hess increased its drilling activity in Q3 2018, drilling 34 wells and bringing 29 online. The company also saw improved well performance and added a sixth drilling rig late in the quarter.
Those investments have paid off as Hess' Bakken production increased 15% over the year-ago quarter, from 103,000 barrel of oil equivalents per day (BOE/D) to 118,000 BOE/D. And with its new rig operating, the company should be able to increase production even more in coming quarters.
In October, Hess' stock underperformed most of its peers, making now a great time to consider buying into this beaten-down outperformer.
