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  • Outlook on oil and gas sector

    Publish Date: 23rd August, 2018

    By: Sumit Pokharna

    Brent crude oil price remains in bullish phase and could go up to the $80-$90 per barrel band. The increase in prices can be attributed to geopolitical concerns, supply shocks, sustained production cuts and declining production.

    Impact of rising crude oil prices in India

    1)   Higher current account deficit (CAD)

    2)   Fiscal deficit

    3)   Rupee depreciation

    4)   Bond yields

    5)   Inflation (both CPI and WPI)

    6)   Subsidiary burden increases for petrol companies.

    Sensitivity analysis

    Every $10 per barrel increase results in 41 bps impact on India’s GDP.

    Furthermore, our import bill is rising as we don’t have enough domestic production.

    Impact of election year

    If the government cuts excise duty on petrol and diesel by Rs 3, it will impact the country’s fiscal deficit by 23 bps. A hit on the fiscal deficit will affect bond yields and currency strength.

    Due to election year, govt caps retail fuel price hike and partly passes on some subsidy burden to OMCs, then earnings will get impacted.

    Different scenarios

    If crude is below $50 per barrel, it is good for downstream companies because operating costs go down.

    If it is between $50-$60 per barrel, it is beneficial for companies like Reliance and ONGC.

    Upstream companies are the winners when crude oil prices go above $50 per barrel.

    Stock views

    Companies like Petronet LNG is a good bet because they are ramping up their capacity in the Kochi plant.

    Mahanagar Gas and Chennai Petroleum are the other decent bets. However, Chennai Petroleum’s fortunes depend on the Iran government’s decision. If Iran pulls out its stake, Chennai Petroleum will its stock prices surge. There is also a possibility that it may merge with Indian Oil Corporation (IOC) in future.

    Q&A session

    1)   Outlook on oil marketing companies: We still remain negative though there was a correction in stock prices. There are several reasons for our current pessimism: elections, rising working cost and interest cost and under-pressure margins. Plus, we don’t see an immediate increase in stock prices. Waiting till the elections are over would be the best time because there may be further correction in stock prices. In this segment, HPCL seems like a good bet from a long-term perspective.

    2)   Will Iran import restrictions impact India: Iran gave good credit terms like high repayment days. Therefore, the restrictions will hurt India and increase the import bill. The insurance cost will spike too.

    3)   Why is ONGC not performing we'll even though crude price is above $70 per barrel: ONGC is not performing well because of various government interventions. For instance, it is still not known how much subsidy will have to be shared by the company. The main value unlocking will come after the election year because there will be little pressure on the government at that point of time.

    4)   Indraprastha Gas: The valuations remain expensive at the moment and we expect a correction too. The margins are under pressure as well because of higher operating cost.

    5)   Possibility of crude price going below $60 per barrel: Slim unless there are major global macro changes.

    6)   Mahanagar Gas: We remain bullish because its penetration level in Maharashtra is quite low. The valuation remains attractive too as there was a stock correction following British Gas’ decision to sell 14% of its stake today.

    7)   Petroleum under GST: That would be beneficial. But we don’t believe that will happen because the government gets almost Rs 4 lakh crore as excise. Even if there is, there would be additional cess. Therefore, the consumer will get marginal benefit even if petrol comes under the GST purview.

    8)   Top pick: Focus on Petronet LNG because they don’t carry any commodity risk or currency risk. They are also expanding their footprint in Sri Lanka and Bangladesh. Since 2004, the stock has given more than 30% CAGR. The oil marketing companies (OMCs) are a good bet too, but wait till the elections are over.

    9)   Electric vehicles: It is still in its nascent stage. There are a handful of cars running on Indian roads. It may take almost 10 years for electric vehicles to make a dent on petrol earnings.

    10)   Brent crude: We expect global crude price to be between $80-$90 per barrel. The crude is not expected to come down any time soon.

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    Disclaimer: Our research should not be considered as an advertisement or advice, professional or otherwise. The investor is requested to take into consideration all the risk factors including their financial condition, suitability to risk return profile and the like and take professional advice before investing. Full disclaimer here

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