What happened

Shares of SM Energy (SM 1.62%) rallied more than 10% by 3:45 p.m. EST on Monday. Fueling the oil stock was an analyst upgrade. 

So what

An analyst from RBC Capital upgraded shares of SM Energy from sector perform to outperform. The analyst also gave it a $12 price target, up from the previous price target of $2.50 a share, which implies an additional 30% upside even after today's rally. 

An oil pumping unit at sunset.

Image source: Getty Images.

Several factors drove the upgrade. RBC Capital likes the quick pace at which SM Energy has deleveraged its balance sheet. It reduced debt by $106 million during the third quarter, pushing its leverage ratio to 2.4 times net debt to adjusted EBITDAX (earnings before interest, taxes, depreciation, amortization, and exploration expense), well within its sub-three times target. The analyst also likes the company's top-tier economics in the Permian Basin and its upside in the Austin Chalk. RBC believes this combination puts it in a strong position to benefit from higher oil prices.  

Now what

SM Energy's balance sheet is heading in the right direction, which, along with higher oil prices, has taken a lot of pressure off its stock price. However, the company still isn't in as strong a position as some of its peers. Many top-tier producers are cashing in on crude prices these days, thanks in part to their much lower leverage ratios. Because it's not quite as strong as rivals, it's a high-risk/high-reward oil stock. As such, if oil prices sell off from their recent rally, SM Energy's stock would likely give back today's gain and then some.