Oil And Gas Still Drawing In Investors Despite Transition

• The Financial Times reported this month that fundraising activity among independent exploration and production companies in the United States has picked up this year.
• Buybacks and rising dividend payouts make the oil and gas sector popular again among investors.
• Most observers seem to agree that the key factor that made oil and gas attractive again, besides the fundamental nature of the products, was the pivot towards capital discipline.

Oil and gas stocks were among the top performers on the S&P 500, with four industry players taking their place in the top 10. The reason for this was a higher price for oil coupled with enhanced volatility. But this is just one aspect of the story.

While higher oil prices were pushing up the stocks of energy companies, some were tapping equity and debt markets for fundraising and, unlike the past few years, were getting a positive response.

To make matters even clearer, investors appear to be hanging on to their oil and gas investments despite bankers’ warnings that the latest cycle in the industry may be drawing to a close, with returns likely to start falling. But bankers may be living in the past; oil and gas are hot again.

The Financial Times reported this month that fundraising activity among independent exploration and production companies in the United States has picked up this year on both equity and debt markets. And those markets were responding enthusiastically to the opportunity to fund companies from an industry that has been slammed as the single culprit behind the changing climate of the planet.

What makes the trend even more impressive, however, is that it comes at a time when banks themselves are reportedly making more money from loans and bond underwriting for so-called green companies than from the oil industry.

Bloomberg reported on that development this week, citing data showing that fees from “climate-focused financing” so far this year had reached $2.5 billion. Meanwhile, fees from oil and gas loans and bond underwriting stood at $2.2 billion.

It seems all the incentives that governments in Europe and the U.S. are giving to low-carbon industries are working, and businesses are raising money eagerly. But while that would suggest oil and gas are falling out of the favor of banks, the FT report about capital markets suggests otherwise, supported by another analysis by Bloomberg showed this week that investment funds are gobbling up energy stocks.

The report cited a note by Bank of America strategist Michael Hartnett saying that “fund managers shifted from an 1% underweight allocation on energy stocks to an 8% overweight stance in October, the most bullish allocation since March.”

Not just that, but the change came amid warnings from Hartnett colleagues that the latest price rally was about to run out, and it was time to get out of oil. These analysts have been downgrading U.S. oil and gas players and doubting the valuations of companies active in the Permian. Meanwhile, Exxon struck a $60-billion takeover deal with Permian-focused Pioneer Natural Resources, which was unlikely to have escaped investors’ attention.

It appears that said investors are more interested in action than in talk. While bankers are talking about the cycle coming to an end, investors are probably watching the situation in the Middle East and OPEC’s seemingly unwavering determination to keep prices where they, rather than the free market, want them to be. They may also be watching dividend updates during financial report presentations. And they must like what they see.

“Companies are really keeping their focus on shareholder returns. They’re very disciplined, they’re making the right decisions by paying out dividends and buying back shares. This is winning the investors back to the sector,” Josh Martin, managing director at Pickering Energy Partners, told the FT.

The report cited news of two listings in the sector this year, with both companies—Kodiak Gas Services and Atlas Energy Solutions—starting out modestly but gaining 11% and 20%, respectively, after the listings.

This is, of course, nowhere near the stratospheric gains some tech companies have made during their debut, but it is significant nevertheless: there is so much hype around tech while oil and gas are basically a pariah industry. Or so some thought.

Right now, hedge funds are taking short positions on ESG stocks, sniffing for so-called greenwashing claims and inflated valuations, Bloomberg reported last month. It cited a Texas-based fund manager as saying there was a lot of capital “chasing” ESG assets, but good ideas in that space were few and far between in what sounds like a classic bubble situation.

The situation with oil and gas investing—and fundraising—might very well be the result of a convergence of factors. There are oil prices, of course, but there is also that growing skepticism about ESG claims made by various companies in order to attract investment, and the certainty of oil and gas dividends and the quite high possibility of continued share buybacks.

Most observers seem to agree that the key factor that made oil and gas attractive again, besides the fundamental nature of the products, was the pivot towards capital discipline that did not waver even when the price rose so high they would have absolutely justified a boost in production—from a short-term perspective.

Yet the industry, specifically in the U.S. shale patch, has repeatedly indicated over the past two years that it has adopted a more long-term perspective and is no longer chasing the immediate but short-lived benefits of a production boost in response to a price rise. Investors evidently appreciate this change of focus.

By Irina Slav for Oilprice.com