Ninepoint Energy Fund Market View

February 27 2019

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On Monday morning oil sold off by 3% on account of a tweet by President Trump that reignited 2018 fears that OPEC+ is still subservient to Trump’s wishes given his support following the murder of Khashoggi as well as his talking down of the NOPEC bill presently before Congress:

Source:Twitter

This morning during a major oil conference in London the Energy Minister of Saudi Arabia made some significant comments that should completely nullify such worries (and oil has now recovered nearly all of Monday’s losses due to them):

Worth the full read: https://www.cnbc.com/2019/02/27/saudi-oil-minister-to-trump-we-are-taking-it-easy.html 

Source: CNBC

Source: Bloomberg

I think today could mark a significant turning point in sentiment towards Saudi Arabia’s/OPEC’s resolve towards higher oil prices (SA signaling that the OPEC cut is likely to be extended to the end of the year = 475MM Bbls removed from the market). By being so public in their views today the market should have greater confidence in the likelihood of accelerating inventory drawdowns once industry emerges out of refinery turnaround season (global refinery demand increases by ~6MM Bbl/d by May versus current). Year to date, as a result of resilient demand and OPEC over-delivering on their production cut global stocks have only built by 0.1MM Bbl/d. This is very bullish. What should be the weakest barrels of the year are currently trading at $56. We think WTI could rally to $60-$65 in the next few months once US/OECD inventories begin to meaningfully draw:

Source: Ninepoint Partners

Sentiment towards the sector remains weak. We were all psychologically violated with the quant/algo driven sell off in oil/energy stocks in late 2018. It will take a bit of time for investors to be willing to step back in. However, once the market realizes that OPEC needs meaningfully higher oil prices and that US shale companies are underspending cash flow and prioritizing return of capital over growth (CDEV was -23% yesterday when they guided for a 2019 outspend) confidence in at least CURRENT oil prices should lead to a significant rerate in energy equities. How much money can be made when that turning point happens?

Valuations in the sector are hard to fathom. We own names that at close to current oil prices are trading at 20%-30%+ free cash flow yields. MEG as an example is trading at a 34% 2020 free cash flow yield at $60WTI and $17.50 WCS differentials (WTI 2019 strip is $58.20 and 2020 is $57.90). With 34 years of proved reserves beginning next year the company could theoretically keep production flat and buy back all of their outstanding stock 10 times over before exhausting their proved reserves. Or, they could keep production flat for 34 years while paying investors a 34% dividend. THIS IS NOT NORMAL!!!!!! Such opportunities should not exist but do because of the highest level of apathy towards the sector that I have ever seen. Another similar example is Baytex. At $60WTI in 2019 they are trading at a 22% FCF yield. With the oil strip ~ $60 in 2019 and 2020 a private equity firm TODAY could buy the company, hedge out the next 2 years of production with zero risk, and buy back nearly half of the shares outstanding and only consume 2 of their 10 years of proved reserves to do so. Again, THIS IS NOT NORMAL.

Baytex

Source: Ninepoint Partners

MEG


Source: Ninepoint Partners

Eric Nuttall
Partner, Senior Portfolio Manager

 

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