business

Hunkering Down In The Oil Patch

To call energy stocks "laggards" would be an understatement. As the Standard & Poor's 500-stock index climbed 24% over the past 15 months, S&P's Energy Composite index went south, losing 7.5%. Sure, oil and gas stocks look dirt cheap, but investors and even industry analysts are treating them like dirt. Asked for his picks, analyst Mark P. Gilman of County NatWest Securities USA gives a simple answer: "None. Zero. Nada."

That's just the kind of response that perks up the ears of contrarians--those who buy out-of-favor stocks at rock-bottom prices and wait for an upturn. Since most oil stocks pay hefty dividends, it's not hard to be patient(table). Despite the generous yields, "energy stocks have very few friends these days," says money manager Edward C. Rorer. His firm, Rorer Asset Management, has loaded up on such stocks as Arco, Texaco, and Unocal--and he's looking for more.

DOWN AND OUT. It's not hard to see why Wall Street is so down on energy. Oil trades around $19 a barrel, and few expect this year's average oil price to approach 1991's $21.50. Although OPEC members have not flooded the market, some fear the return of Kuwait, and possibly Iraq, could cause a glut. Natural-gas prices are at the lowest level in 10 years. Refining and marketing, which often take up the slack when crude sags, are slumping, too. And petrochemicals are suffering from overcapacity and a sluggish global economy.

"For the first time in 60 years, not one cylinder in the energy engine is working," says analyst Frederick P. Leuffer of C. J. Lawrence Inc. He expects the operating earnings of the major international and domestic oil companies to be down 50% for the first quarter of 1992 from the same period last year. For the year, he figures earnings will be flat.

Most analysts expect the industry, and the stocks, to bottom out this year, with no upturn until 1993. So investors buying the stocks now will need patience. Oil stocks, notes analyst Paul B. Ting of Oppenheimer & Co., usually underperform the market during recessions but outperform in recoveries.

As the U.S. economy starts to expand again this year, the major domestic oil companies such as Arco should feel the impact first. Arco operates the two largest U.S. oil fields, Alaska's Prudhoe Bay and Kuparuk River fields. As a result, Rorer sees it as "the company that's going to be the biggest beneficiary of improving oil prices." True, with production beginning to decline at these fields, Arco needs to make new discoveries or buy reserves elsewhere. But the company has another strength: It's one of the largest and most profitable refiners and marketers in California, where the automobile is king.

Contrarians are finding opportunities among other domestic oil companies, too. They like Occidental Petroleum, Phillips Petroleum, and Unocal. All three have aggressively slashed debt during the past two years. That should bring more revenue down to the bottom line when prices recover. Sun Co. wins kudos for cutting costs and improving efficiency. Primarily a refining and marketing company, Sun is best positioned to profit from a pickup in gasoline and jet-fuel demand. It could earn $1.80 a share in 1992, vs. last year's $1.45-per-share loss.

FOREIGNERS. Opportunities lurk among international oil companies, too. Royal Dutch Petroleum Co. is a favorite of W. Anthony Hitschler, president of Brandywine Asset Management, which has 12% of its $1.4 billion portfolio in energy stocks. The European giant is taking advantage of the industry slump to boost capital spending. Hitschler thinks the company, one of the handful that increased dividends in 1991, has the wherewithal to do it again in 1992.

Hitschler isn't the gnly one looking to foreign oil giants. Oppenheimer's Ting recommends France's Elf Aquitaine, whose stock, like Royal Dutch's, trades as American Depositary Receipts on the New York Stock Exchange. Elf is expecting a 35% increase in production over the next five years--thanks to major oil-producing properties in the North Sea and in Africa. The company is also the only major oil company with production-sharing contracts in the Commonwealth of Independent States: one in Russia, the other in Kazakhstan.

There are even thriving companies in the beaten-down natural-gas industry. Enron Corp., for instance, has branched off into independent power generation and used aggressive marketing to boost natural-gas sales. Says analyst M. Carol Coale of Howard, Weil, Labouisse, Friedrichs Inc. in Houston: "There aren't that many companies that can make money in a depressed environment."

Those who invest in the beleaguered energy stocks need fortitude. But they can draw their courage from the Wall Street crowd. When oil analysts can't find even one stock to recommend, an energetic turnaround can't be far away.

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