For the week, our E&P Index was -5.3% vs. the S&P500 +0.89% and WTI +0.8%.
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We’ve updated for the 2020 outlook that shows spending of $1.7-$1.9Bn, 8% YoY oil growth, and $125mm of FCF generated pre-dividend at $50/bbl WTI. DVN is reallocating capital from STACK to Delaware and Powder River basins, and we increased our expectations for Permian/PRB oil growth while reducing the STACK capital and volume profile, as we now expect DVN runs less than 3 rigs there in 2020. No change to $28 TP.
For the week, our E&P Index finished +5.0% vs. the S&P500 +0.9% and WTI +2.1%.
Our E&P index fell by 8.8% in October, as the post-Aramco attack gains continued to dissipate, forward commodity curves declined, and sentiment weakened ahead of the 3Q earnings season. However, the decline was mostly in the first half of October and since then, the outlook for the E&Ps has improved. 3Q earnings have largely been better than feared, the 2020 WTI/HH curves have moved back up to $55/$2.50, we’re finally starting to see the impact of weakening service costs hit the bottom line, and Energy played catchup in the Value vs. Growth trade. We’ve seen head fakes multiple times this year, but the outlook heading into 2020 is improving and the valuation gap to the S&P500 remains at dot com levels.
This was undeniably a challenging quarter and update for FANG as 3Q results missed expectations and the 2020 outlook was weaker than expected. Additionally, what may have been a conservative FCF outlook previously, now feels more realistic, with upside having to be earned. That’s the bad part, but the asset base remains strong, the revised forward outlook is still better than most E&Ps offer (double digit growth with a 4% FCF yield at $55 WTI), and the stock still trades at a 1x discount to PXD and CXO on 2020 EV/EBITDAX, so we remain Outperform.
Continuing the trend from the first earnings week, the forward outlook for the rest of the natural gas producers is lower volumes, lower capex, improving operational performance, increased hedging, and balance sheet strengthening over growth. It’s a good message that has helped stock performance, and along with a blast of cold air, has also helped the 2020 HH curve move back above the $2.50/mmbtu mark.
Expectations were unusually low coming into a FANG quarter, but the 3Q and 2020 outlooks were worse than feared driven largely by the impact of a gassier EGN production base that has reduced crude oil growth expectations. This result will sting, but relatively speaking, a 2020 set up showing 10-15% oil growth with a 3%+ FCF yield at $50 WTI is still better than most peers. Additionally, there’s visibility on how FANG will deliver the growth outlook, there’s no assumed efficiency gains built in to the budget, and the stock continues to trade at a discount to PXD and CXO on 2020/21 (before any stock movement tomorrow) based on the revised outlook, so we remain Outperform.
Here is what we’ve been hearing this long insane week – which is going to be followed by another one of what I will call “WORST WEEKS EVER.” Yep – you guessed it. Media earnings time. Thankfully though, Hans (CBS) and Franz (VIAB) are reporting the week after….
So far this has been the key theme through the first half of 3Q earnings season and notwithstanding the crude oil pullback this week, sector stock performance has been better than thought. Positioning has clearly played part in individual stock performance (CXO, SWN, HES, EQT, MUR), but based on what we’ve seen so far, the broad negative expectations going into 3Q updates may have already been priced into the sector, providing a path for the E&Ps to perform well just by hitting a low bar. With that as a backdrop, we like the setup into Week 2.
They still may be the weakest group YTD, but the natural gas producers have quietly been the best performing E&P sub-sector for back to back months. Part of the outperformance can be attributed to SMID Cap Oil weakness, but it feels like we’re getting close to a bottom for the natural gas producers with many stocks >90% off all-time highs and hedges helping to support near-term cash flow. Long-term challenges remain with the 2020-21 curves below $2.50/mmbtu, but unless natural gas prices fall to $2/mmbtu – an unlikely near-term scenario with Winter around the corner – risk/reward feels more balanced. COG and EQT are our Outperforms.
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