In the last three months the oil market has experienced downward pressure. Lower oil prices have impacted the oil services sector. In the below article we would like to highlight the key developments as well as the fundamentals of the oil services sector.
Stock Market Environment
Oil prices have dropped during the past three months as Chinese macro-economic data has disappointed, Chinese oil demand has weakened and at the same time Non-Opec producers such as the United States are expected to increase production. The price of brent Oil has fallen from $ 85 per barrel in Mid July to $ 74 per barrel by Mid October. This price correction has triggered a sell-off in the entire oil services sector.
The gap between oilfield-service (OFS) stocks and the S&P 500 widened to nearly 40 pps in Q324. This has occurred despite rising Middle East geopolitical tensions and a continued commitment by OPEC+ to extend production cuts. Stock weakness may also have signaled concerns about a slowdown in drilling, with declines in global rig counts and a recent pause in offshore contracting.
Source Bloomberg, 16 th of October 2024
Valuations
At the same time, the gap between oilfield services and S&P 500 stock valuations has widened to nearly 3x, reflecting the industry’s disparity in stock performance vs. the broader market. The group’s multiple for one-year forward enterprise value-to-Ebitda compressed as earnings estimates fell less than stock prices. On the other hand, the S&P 500’s multiple rose, due primarily to an appreciation in the market index. The BI Global Oil Field Services peer group multiple of 3.9x is now well below the historical average.
Source Bloomberg, 16 th of October 2024
Oil & Gas expected CAPEX Spending
In the past couple of weeks commodity researchers have adjusted their oil price projections for Q4 24 and the calendar year 2025 downward. A key question for investors in the oil services sector is whether CAPEX spending in the oil and gas sector for the year 2025 and in the following years is likely to be curbed. Despite the recent softness in the oil markets leading research firms are expecting resiliency. With expected capital expenditures of around $ 150bn Wood Mackenzie has just forecasted an annual investment increase of 5% for the year 2025 vs. the year 2024.
Source Pareto, October 2024
Capex Sensitivity to oil price
According to Rystad & Morgan Stanley energy upstream investments in offshore projects are very resilient across oil price scenarios. In the nearer term offshore upstream capex only changes by ~1% for every $10/bbl change in oil prices, and over the mid/longer term (i.e., 2027-30) that sensitivity is still relatively low (~5-10%). On the other hand, the longer-term sensitivity of the onshore- shale sector is more pronounced as a $10/bbl. change in oil prices could lead to a drop of more than 20% in Capex spending.
The most robust capex growth outlook can be expected in the offshore deepwater market with an expected compounded annual growth rate through 2026 and a solid growth in offshore shelf as well with an expected compounded annual growth rate of 6% through 2026.
Therefore, the Capex spending outlook in the offshore segments are expected to be solid despite the recent oil price correction.
Sub-Sectors Offshore Drilling and Offshore Supply fundamentals
Offshore Drilling
The most recent decline in oil prices has led to a slowdown in tendering activity in the drilling sector. Despite this, pricing in the offshore drilling market has remained resilient as the offshore drilling markets remain tight with utilization rates of around 84% for floaters and 88% for jack-ups. Year-to-date floater prices are up 10% and jack-up prices have remained flat. Hence, fundamentals can be considered as stronger vs. what is reflected in valuations.
Furthermore, a very low orderbook of less than 5% relative to the existing fleet of jack-up and floater rigs shows the ongoing supply discipline in the offshore drilling markets. This development is in strong contrast to the years 2014/15 where orderbooks were in excess of 20% relative to the existing fleet at the time.
Hence, a tight supply situation in the offshore sector should be able to keep the markets stable. Given the most recent decline in share prices offshore drilling firms are now priced with an avg. Price-to-NAV ratio of 0.8 which is below the historical average of 0.9.
Offshore Supply Vessels
Capacity tightness is even more pronounced in the offshore supply vessel sub-segment (Anchor handling vessels and platform supply vessels) where there has been almost no ordering activity in the last three years. The order book in this sub-segment is even smaller with less than 3% of the existing fleet according to Clarksons. Given the post-pandemic recovery in oil demand the tightness of supply has led to a three years upward trend in charter rates. In Q3 24 there has been a short – term correction in North Sea PSV rates which led to weakness in share prices. On the other hand, charter rates in the anchor handling segment were resilient and the recent correction could be seen as an opportunity for potential new engagements.
Source Clarksons, September 2024