Will Schlumberger Rise With Crude?
Pinch at pump affords trading opportunity.
I've looked under tables
I've tried to find the key
To fifty million fables"
- The Seeker, The Who
Released on March 21st, 1970, The Seeker has seen something of a rebirth based solely on its inclusion in Guitar Hero III: Legends of Rock. Not one of my all-time favorite Who tunes, but I have to admit, I enjoy playing it with the kids on Wii.
As oil continues to rise despite talk of a global slowdown, $100 oil could soon be the norm. Some, like peak oil theorist Matt Simmons, will argue that $100 oil is just the beginning, as Saudi Arabia and other countries in the Middle East are allegedly producing at maximum capacity. Naysayers claim the peak oil theory is flawed, believing that expansion in the Middle East, coupled with some highly publicized oil finds, will more than satisfy the increased global demand.
Regardless of where you come down on this argument, there's only one way to play it.
Schlumberger (SLB), according to its website, "is the world's leading supplier of technology, project management and information solutions to the oil and gas industry."
Truth be told, the company's been one of the great stock stories since September 2001. Until recently. After making a 52-week -- and all-time -- high of $114.84 on October 15th, Schlumberger has seen a precipitous drop in share price, losing close to 35% by early February. The move lower was due in large part to investor fears that a recession in the United States would decrease demand for crude.
We can debate whether or not we're in a recession ad nauseam, but there's no denying that things have slowed down. Yet we still find ourselves with $100 oil and $3 per gallon gasoline. We also find ourselves with some compelling reasons to own Schlumberger.
On March 5th, Exxon Mobil (XOM) predicted capital expenditures of about $25 billion in 2008 versus $20 billion in 2007. That increased spending plays right into the strength of Schlumberger. At 15 times forward earnings, Schlumberger is trading around its lowest multiple since the late 1990s. This despite the fact that revenues and earnings will grow at a double-digit rate. On February 7th, Barron's Weekday Trader underscored the firm's potential, saying:
"Schlumberger's booming international backlog, as well as the company's ability to distinguish itself from its competitors through the use of sophisticated technology to measure reserves and find the best way to access them and increase output at lower costs."
On February 12th, citing the strong positioning of the firm ahead of the next cycle in the oilfield service industry, Bear Stearns (BSC) upgraded Schlumberger to outperform from peer perform. Bear Stearns went on to put a $100 price target on the shares.
Although Schlumberger is trading at the lower end of its historic range in terms of valuation, the company at 14.25 times forward earnings is still more expensive than rivals Halliburton (HAL) at 11.00 times forward earnings and Baker Hughes (BHI) at 10.50 times forward earnings. Given its ability to execute better internationally, I'd contend that the premium valuation is justified.
Yesterday Merrill Lynch (MER) put out a piece outlining how oil service names underperform integrated oils during recessions. I happen to agree with all their assertions, but contend that, with Schlumberger down some 35% since the fall, we've already experienced the oil service industry's underperformance during a recession.
In terms of the overall market, I still don't think we've seen the capitulation in the form of trading volume to define a low. I'm still waiting for a washout day to the downside on three to five times normal volume to give me confidence that we've put in at least a short-term bottom.
That said, given the fundamentals, I think one can start to build a position in Schlumberger around the current levels of $83. I'd be concerned if the stock broke down through $80, but would actually add to my position into strength in the share price. Although I think there's a real chance Schlumberger trades north of $100 by mid- summer, I would begin to take profits starting around the $95 level. Like it or not, oil will be a story for some time to come. The least we can do is try to profit from it.
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