Exploration & Production
Cautious Near‐term Outlook
•Key driver of the relative performance of the E&P sector continues to
be the outlook for oil and natural gas prices.
•We believe that current crude oil prices, which have more than
doubled from lows earlier this year, already reflect the early stages of
an economic recovery, although the rebound has also been driven by
the recent weakness in the U.S. dollar.
•We believe that assuming normal temperatures and no significant
hurricane‐related shut‐ins, natural gas prices could decline further
prior to the start of next winter due to the current storage overhang
(592 Bcf y‐o‐y surplus/517 Bcf surplus to 5 yr.‐avg). However, we
believe that the significant decline in domestic natural gas drilling (rig
count down 60% since last fall) will rebalance the natural gas market
sometime in 2010.
Positive Long‐term View
•Our E&P group is currently trading at just 97% of estimated year‐end
2008 proven reserve liquidation value (LV) based on long‐term
composite spot natural gas prices of $7.00/MMBtu and spot WTI oil
price of $75/Bbl.
•Since 2000, E&P group has traded at 65‐155%, including an average of
105%, of LV. However, the E&P group traded at an average LV
multiple of nearly 120% during 2005 through 2008 underscored by the
significant improvement in “organic” reserve and production growth.
•Drill bit reserve replacement for the E&P group reached a ten‐year
high of 229% last year (versus 85‐120% from 2000‐2003) with the
significant improvement underscored by the success in unconventional
resource plays, although we believe that “organic” reserve replacement
is likely to drop to 150‐175% in 2009 due to reduced budgets (current
budgets for our E&P group are projected to be down nearly 40% y‐o‐y in
2009).
•Overall, our top picks are Cabot Oil & Gas, Comstock Resources and
XTO Energy.