The oil price fell again overnight. So far this week it has lost 5.8%. This fall has sent ripples through the Australian share market and the world’s oil companies. The market has been very optimistic about the return of fuel demand. Nevertheless, we are still a long way from a return to normal demand. In addition, the natural gas market has also seen constriction in pricing due to a number of factors.
As always, this has inadvertently created some really strong buying opportunities for investors.
Why is the oil price falling?
U.S. crude oil inventories currently sit at 540.7 million barrels. This is higher than the 5-year average for this time of year and a resumption in demand levels is far slower than anticipated. The US Energy Information Administration has announced a build in crude inventories by 1.2 million barrels for the week ending 12 June. In addition, a 1.4-million-barrel increase for the week ending 19 June.
Within the US, a major market for gasoline and distillate, fears exist for a second wave of the coronavirus. However, it is uncertain whether it will attempt at a full shutdown again. Regardless, the resumption of international air travel, a major user, is still a long way off. Today’s announcement of the layoff of 6,000 workers by Qantas Airways Limited (ASX: QAN) underlines that point.
Aussie oil companies
All 4 major Australian oil and gas producers have seen their share prices fall from last Friday’s close. In particular Oil Search Limited (ASX: OSH) has slid by 9.43%. Oil Search has been doing a tremendous job fighting for survival in the current economy.
It has already cut its capital expenditure by 40%, yet it remains exposed due to its net debt of $2.9 billion. In a recent retail capital raising it was not able to fill all of its share purchases. The company raised $79.5 million out of an expected $80 million. The last reported breakeven costs for Oil Search were $32 per barrel of oil equivalent (BOE). This is a means of measuring liquefied natural gas (LNG) and oil.
While I like all 3 of these companies, I lean towards Origin Energy under the current conditions.
Origin is targeting a breakeven cost of <US$24 BOE in its H1 earnings report. The company has agreed to acquire a 20% stake in Octopus Energy in the UK for $507 million. This includes exclusive Australian access to the Octopus software, Kraken. This will extend its competitive cost position, with targeted cost savings of $70–80 million by FY22 and $100–150 million by FY24.
Origin is currently trading at a price to earnings (P/E) ratio of 10.1 and its share price is still 31% down year to date.
I think the Origin share price is an absolute bargain today. The recent falls due to the sliding oil price have made it even more attractive. Unlike the other companies mentioned, Origin is both a producer and a retailer. The company is totally focussed on reducing breakeven costs and has taken innovative steps in this area. While the oil and LNG prices are likely to be depressed for the foreseeable future, Origin is well-placed to operate in a low margin environment.
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Motley Fool contributor Daryl Mather has no position in any of the stocks mentioned. The Motley Fool Australia has no position in any of the stocks mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.
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