As volatility once again increases in broader markets, investors are wondering what may be next for energy companies like Marathon Oil (NYSE:MRO). Year-to-date, MRO stock is down over 50%, hovering at $6.7.
Today, I’ll discuss what investors may expect from Houston-based petroleum and gas exploration and production company shares. The oil price environment is volatile and the demand for oil is still rather weak.
Given the recent increase in MRO stock price, it may be prudent to err on the side of caution and wait before initiating new positions in the company. The shares are not likely to hit double digits any time soon. Let’s see why.
MRO Stock and Oil Prices
Fortunes of oil companies are highly dependent on the price of oil. Physical oil comes in different grades. Markets, in general, look at two different prices for crude oil, i.e., the global benchmark Brent Crude and the U.S. benchmark West Texas Intermediate (WTI).
Both began 2020 above $60/barrel. By March, they were around $20. Now, Brent is around $39.8 and WTI is $37.1. The US Energy Information Administration (EIA) expects “monthly Brent prices will average $37/b during the second half of 2020 and rise to an average of $48/b in 2021.”
On June 16, the International Energy Agency (IEA) said it was expecting the largest drop of oil demand in history in 2020. With global airlines and a wide range of manufacturing plants still partially shut down around the world, we’re consuming less oil. In other words, energy companies like Marathon Oil pump out a lot of crude oil. But they are not able to get it off their hands.
The price of oil depends on various factors, including economic conjuncture, business cycle, and potential political crisis worldwide. Supply shortages or demand oversupply triggered by political or health events tend to affect oil prices.
Although most countries have started opening their economies, the demand is just not there yet. And in case of a potential second wave of the COVID-19 outbreak, some governments may have to re-introduce restrictions that may further dampen the demand for oil.
Therefore long-term investors considering adding MRO stock into their portfolios would need to keep a close eye on the price dynamics of oil. We’re still way off from the $60s-level seen at the start of 2020.
Marathon’s Q1 Results Were Disappointing
The group reported Q1 earnings on May 6. Yet The results were a testament to what a difficult quarter it has been for the group as lower oil prices cut into margins. The company announced an adjusted net loss was $125 million, or –16 cents per diluted share. A year ago, earnings had been 31 cents a share.
Net operating cash flow was $701 million. It is no exaggeration to say that oil companies have in recent weeks been bleeding cash. Marathon Oil has recently cut capital expenditures (CapEx). The onshore driller now expects to spend around $1.3 billion in 2020 in CapEx. Its original forecast had been $2.4 billion.
The group has also curtailed drilling activity in its Oklahoma operations and in the Permian Basin. Put another way, compared to Q1 or 2019 levels, oil production will be less in the coming quarters. And oil prices are not expected to go over $40 any time soon.
In 2020, management expects to see free cash flow break-even at $47 a barrel. Given the current oil price level of below $40 Marathon Oil will “likely to be free cash flow negative.” And it will possibly report more losses in the future. Many analysts concur that such poor fundamental metrics cannot support MRO stock in the long run.
Recent Price Action in MRO Stock
MRO shares started 2020 around $14. Yet on April 1, they hit a 52-week low of 3.02. Now, they are at $6.7. Put another way, if you were brave enough to invest $1,000 in April, you would now have well over $2,000.
I believe this price increase in MRO stock between early April and now already encompasses any potential good news that markets expect from the industry and the company.
The recent rally we’ve witnessed in broader markets, including energy stocks, for the most part, reflects the belief in a V-shaped recovery for our economy. However, if there were an upcoming change in investor sentiment on the rebound’s prospects, then markets could come down fast and oil stocks like MRO could be hit hard.
Although we may not necessarily re-test those lows around $3, I do not expect the MRO stock price to go back to the highs of early 2020 for the rest of the year, either.
Like many other companies, the group has also suspended the quarterly dividend and its share repurchase program. Thus passive income-seeking investors are not likely to return to the stock anytime soon, either.
So Should You Buy MRO Stock Now?
Oil is considered one of the main engines of the world’s economy. As economies slowly open up, there is still a great deal of uncertainty in energy markets, and amid question marks, investing in oil companies becomes a tricky proposition.
Ideally, potential investors in Marathon Oil should study the next earnings report expected in early August before committing new capital in MRO stock. They may also want to see the balance sheet and how the company is managing its cash and debt levels. Management has already cut spending to the bare bones. Yet unless oil prices recover further, Marathon Oil may start to have considerable financing issues.
Are you an investor who has participated in the run-up in MRO stock price since April? Then you may want to realize some of your paper profits.
Alternatively, you may also consider hedging your position with covered calls. For example, August 21-expiry ATM calls would decrease portfolio volatility and offer investors some downside protection. It’d also enable investors to participate in a potential up move between now and the next earnings release.
Tezcan Gecgil has worked in investment management for over two decades in the U.S. and U.K. In addition to formal higher education, including a Ph.D. in the field, she has also completed all 3 levels of the Chartered Market Technician (CMT) examination. Her passion is for options trading based on technical analysis of fundamentally strong companies. She especially enjoys setting up weekly covered calls for income generation. As of this writing, Tezcan Gecgil did not hold a position in any of the aforementioned securities.