If you’ve got a core energy stock portfolio like me, you’re mostly deployed right now, waiting for the continued re-balancing of the oil market that even the IEA now says will complete in 2018.
But, I never tire of trying to find further investments that come up opportunistically. This last week, I thought I perhaps saw one in Apache energy (APA).
Now, a few thoughts – first on the state of U.S. E+P’s in general and then on Apache specifically:
U.S. exploration and production companies have been following what I termed a ‘lemmings strategy’, following each other in lockstep as they walked down a self-destructive path over the last several years. First, as the oil bust began in 2014 and through most of 2015, they changed little in their practice, assuming a very fast turnaround in oil prices and spending at pre-2014 levels. All at once, E+P’s realized that perhaps the oil markets weren’t just taking a break from $100+ per barrel prices and there was a unison slamming on of the air brakes as E+P’s slashed their capex budgets for the following years – some dropping their capex as much as 70%.
This of course helped the top line of outgoing spending, but did little for the oil markets at large; production guidelines remained on track as if the oil bust was still a temporary vapor, about to dissipate at any moment. Indeed, almost all independent oil companies increased production guidance for 2016 and 2017, trying to keep their own share prices healthy, but adding to the gluts that continue to plague the domestic oil markets. And the outcome of this strategy of breakneck drilling did not even protect share prices – the entire sector has been an awful place to be invested in the last two years, despite a stock market that is continually seeing new historic highs.
Recently, however, there have been indications that the E+P’s are finally starting to see the light – Anadarko, for example, has been the most instructive with their recent announcement of a $2.5b share buyback, indicating their focus on cash flow and shareholder value and less on production increases at all costs. It has been moves like this from Anadarko and others that has made me particularly aggressive on oil stocks here – the focus on cash flow value is a booster to an oil market already accelerating towards full re-balancing.
Enter Apache. Now I have been a horrible bellwether for investment in Apache Corp.; I trade most all of the U.S. independents, but haven’t correctly bought and sold Apache since they were downgraded during the Arab Spring of 2011. Still, they continue to pique my interest with the potential of their Alpine High formation in the Permian. Proved reserves for Apache have continued to sink since 2011, so a lot – perhaps the future of the company – is riding upon the success they have in this very technically difficult formation that they bought up for pennies.
The possibility for tremendous profits as well as complete disaster remain for them – but they are not shying away from the challenge, nor hedging their bets. They’ve nearly cannibalized the company to pursue the Permian opportunity: Fully 63% of their capex budget is devoted to their Permian acreage including Alpine high, and they announced this week that they are comfortable with up to a $1b negative cash flow for 2017 to continue to pursue Permian opportunities – selling other assets to help make up for the shortfall.
This is the kind of strategy that we might have expected from our lemmings of 2016, but not from our smarter oil company of today, and the analysts and the market have been cruel with Apache, slicing 8% off of their share price in the last two days.
And yet, there is a certain amount of swashbuckling dice-rolling here – with the possibility of very high returns - that has the siren call of Apache shares whispering in my ear again.
Continued constructive price motion from crude oil will obviously help Apache’s cash flow – but then it will help everyone’s, so that’s not the bet. The bet is that Apache will figure out the secret sauce to release the estimated 3b barrels of reserves that the Alpine High formation is said to hold.
Now, I’ve had bad luck in timing a good trade in Apache – I’ve admitted that. But under $40 a share, I’m going to be very tempted to try my luck again.