Over the past 30 days, the Russian oil market, like the world market, has come under very strong pressure, which was accompanied by sharp drops in oil prices (Brent, WTI, Urals) below the levels of 2008 and 1998. Fundamentally, this crisis is characterized and differs from all previous ones by its extremely rapid spread and arose for two reasons:
• The global medical crisis that arose due to the spread of a new coronovirus infection. The number of infected exceeded 1 million people at the beginning of April 2020, and more than 60 thousand people died.
• Lack of agreements between the main resource countries that produce and sell oil. The Opek agreement in March 2020 was designed to reduce the daily oil production by the member countries to maintain and increase oil prices, but was not adopted by the Ministry of Energy of the Russian Federation for several reasons.
• Increasing shale oil production and increasing the share of US oil in the global market. This reason is closely related to the previous one, however, the reason for not concluding a deal and lowering the market price just allows shale oil companies to leave the market, reducing their share, since they operate at a higher cost.
We decided to research at what level quotes of Russian public companies from the oil and gas sector are now and to understand if there is a profit potential when entering long positions from current levels.
The basis were the share prices of oil companies PJSC Tatneft (preferred), PJSC Lukoil, PJSC Rosneft, PJSC Gazpromneft, PJSC Bashneft (preferred), PJSC Surgutneftegaz (preferred) (TATNp, LKOH , ROSN, SIBN, BANE, SNGSp) and Urals crude oil prices in rubles as of 03/18/2020, when the minimum values for 3 months were reached. As a result, it was found that over 14 days the price of the Urals brand decreased by 4% by April 3, 2020 in rubles, which should negatively affect the income of oil companies. However, the dynamics of the shares of the companies themselves indicate the opposite - price increases for PJSC Tatneft (priv.) By 56%, PJSC Rosneft by 48%, PJSC Lukoil by 40%, which cannot be explained by the dynamics of prices for oil, which at the end of March pierced a 20-year low. Such dynamics can be explained by three factors:
• investors’ expectation for a rebound and high volumes of short positions, which began to close at a rapid pace with short-term growth.
• repurchase of shares by the company and its beneficiaries, incl. through the buyback procedure. This mainly concerns the shares of Lukoil and Rosneft and can be explained by the presence of insider information about future agreements on the world oil market on price stabilization.
• investor confidence in the early cessation of coronovirus and the development of a vaccine.
Below we provide charts with the dynamics of stocks of oil companies and Urals crude for 6 months to show how much stocks cost at relatively stable and high oil prices in November 2019 - January 2020 and how their dynamics changed during the oil crisis in February-March 2020 year.
What conclusions do we want to draw based on these graphs?
- Shares of Russian oil companies have an average, but not high correlation with the oil market (about 60%), which intensifies with increasing volatility of the oil price and its sharp decline.
- When oil prices in rubles fell by more than 4 times (from 4,279 rubles / barrel to 855 rubles / barrel), the price of shares decreased by a maximum of 2-2.5 times, which is not explained by fundamental factors, since Russian companies are more important has the ruble price of oil, since the exchange rate is floating.
- There is a share that stands out from the others - preferred shares of Surgutneftegaz. The company’s peculiarity lies in the absence of a debt burden and a huge cash cushion on a balance of 1.2 trillion. Ruble, which covers 75% of the company’s market capitalization. Cash is presented primarily in dollars on deposit accounts. Thus, the stock is an ideal hedge in the event of a crisis: a drop in oil prices leads to an increase in the dollar against the ruble due to the floating rate, and the currency cushion is revalued at a higher rate. That is why Surgutneftegas shares managed not only not to fall into the crisis, but even grow about 10-15% in 1.5-2 months. Secondly, the company’s dividends are tied to net profit under RAS, so a sharp depreciation of the ruble this year gives high chances for high dividends for the year. For example, the dividend yield of these shares for 2018 amounted to about 18.5-19%.
- We do not see the fundamental validity of a rebound upward for most of these shares by 32-38% over the past 14 days, except for insider information about the possible conclusion of a transaction and the artificial support of shares through buyback. We assume that in the event of a sharp drop in oil prices in the short term to 1 month, these stocks may suffer the most, falling 40-50% from past lows.
- We believe that Surgutneftegas preferred share may be one of the best long-term hedging instruments against oil shocks.
- However, the shares of PJSC Lukoil, PJSC Tatneft (priv.), PJSC Rosneft may have high potential during this year when concluding the OPEC deal to reduce production, reduce the dynamics of the incidence of coronovirus COVID-19and invent a vaccine for it.
As a result, we maintain a cautious recommendation (Hold) and interest in shares of Russian oil companies. The only case when shares can be interesting and grow by 30-50% to target levels is the OPEC Agreement and the creation of an effective vaccine against coronovirus COVID-19.
The research is not an individual investment recommendation. Each reader makes a decision based on their own level of risk and expectations for the shares of these companies.