Bill Cara

Bonanza Creek

In the holiday-shortened Thanksgiving week, the biggest news item on financial markets was the continuation of the collapse in oil prices. Oil slumped below $60 a barrel in London for the first time in a year after Saudi Arabia signaled its output may have reached a record high and growing U.S. stockpiles stoked concerns over a potential supply glut. West Texas on New York fell to $52/barrel. The week capped off the 7th weekly decline for oil.

The Saudis have signaled they will throttle back production in December, but unless OPEC and Russia can reach a new deal to constrain supply at their meeting next month, analysts see the prospect of sustained oversupply in 2019, undoing the group’s success over the last two years to drain global inventories. Recall that the primary trigger of selling in crude was the decision by the U.S. to allow some nations to continue buying Iranian crude. We believe that some large hedge funds, which had been long crude oil / short natural gas, decided that Iran was an opportunity to begin reversing the trade and taking profits. Since, we have seen a snowball effect as smaller oil market traders have been squeezed out. There has been no significant change in the crude oil market to justify a $25/barrel price drop. The forecasts for a supply glut had been in the market for months. Similarly, a jump in natural gas from $2.75 to $4.75 in just over a month is not explained by cooler weather (was there an Arctic blast somewhere?), but rather hedge fund short covering.

The net result was one of the worst drops in oil prices in a 2-month period. We feel that this is a case where investors need to trust that the irrationality in the oil market and excessive algo selling will end abruptly (and hopefully not too far from now). Supply/demand imbalances will be resolved. The world economy, which is not yet entering recession, is still very dependent on oil. Oil producing national will be adjusting production to keep oil prices at the elevated levels needed by their countries. Central banks have ensured that inflation will over-shoot at the end of this expansion, which is typically good for commodity prices. In sum, an investor with a longer time horizon looking at today’s markets, with Tech and Retail stocks trading at record valuations and oil stocks just off bear market lows, should (rationally) be looking to increased Energy names in their portfolio.

We had a very light macroeconomic calendar this week. Housing data came in weak, even as the housing stocks rallied. The NAHB Housing Market Index slipped to 60 in November from 68 (67 expected). Housing Starts improved in October (+1.5%, but less than expected, +2.2%) while Building Permits continued to slip (-0.6%). Housing stocks got so clobbered in 2018 that the disconnect with the hard data is showing up here (stocks rally even as data deteriorates). Durable goods orders fell -4.4% (-2.6% expected) in October. Year-to-year, durable goods orders are still up +7.5%, so no recession signs here, yet. The Leading Economic Indicators (LEIs) edged up +0.1% in October (from +0.6% the prior month). Again, no indication of recession, but by the time the LEIs turn negative the stock market (a component of the LEIs) will already be in a bear market.

Bonanza Creek: A Top GARP Oil Play

We have added Bonanza Creek Energy (BCEI on NYSE) to our Natural Resources portfolio, and increased the weighting to 7% this week. With a current market capitalization of $570.5 million, this is a small cap play.

Bonanza Creek Energy, Inc. operates as an oil and natural gas company engages in the acquisition, exploration, development, and production of onshore oil and associated liquids-rich natural gas. The Company’s assets and operations are concentrated primarily in the Rocky Mountain region in the Wattenberg Field, focused on the Niobrara and Codell formations, and in southern Arkansas. The company hit a rough patch in 2016-2017 as it filed for Chapter 11 bankruptcy protection. Bonanza Creek successfully restructured and emerged from Chapter 11 in May 2017 (which explains the 18-month stock price history for a company founded in 1999).

Operations are divided between oil and natural gas extraction, offering some diversification protection with the wild and diverging movements in crude oil and natural gas prices of late.

We like Bonanza Creek Energy today both from a fundamental and technical outlook.

Fundamentals

Bonanza Creek Energy is offering the strongest growth rates in the oil exploration & production space, all the while trading at very attractive valuations. Looking at our sector-level fundamental rankings, which compare and rank companies based on our fundamental scoring methodology, we find that Bonanza Creek Energy ranks near the top in both our Growth and Value categories. In the screen shots below from the WMA Stock Screener, we compare Bonanza Creek Energy to a few of its direct competitors to illustrate our point. The scores seen in the figure below, however, reflect comparations against both all listed companies that we track (Global) and against all GICS level 1 Energy companies (Sector).

Among our Growth criteria, Bonanza Creek Energy ranks in the 99.7th percentile for Growth (year-to-year Sales and EPS), 99.7th percentile for PEG (price relative to our in-house growth measure), 79.7th percentile for Sales Revisions, and 54.6th percentile for EPS Revisions among peers. Bonanza Creek Energy is a rising boat.

As the high PEG score indicates, Bonanza Creek Energy offers value as well. The Price-to-Earnings score of 97.1 puts Bonanza Creek Energy in the top 94.6% among Energy sector peers. The Valuation score (a composite of different measures, notably looking at Enterprise Value), is also well above most peers at 84.7 (93rd percentile).

Finally, we see that Bonanza Creek Energy is out-pacing peers in profitability, an important criterion for us. The Profitability score is 89.7, putting the company is the top 94th percentile. Finally, given concerns about high debt levels among E&P companies, we like that our Financials score is high at 60.5 (79th percentile). In other words, the balance sheet of Bonanza Creek Energy is relatively safer compared to peers. This would be expected after the company restructuring in 2017.

If we see one draw-back on the fundamental side, it would be the lack of dividends paid to investors. Therefore, in our portfolios we have entered Bonanza Creek Energy as a Growth play and are counting on the strong growth and profitability to produce capital gains.

While less important to us, we note in passing the relatively high Consensus score (80.3%), representing the recommendations among analysts following the company. Finally, the consensus 12-month price target of analysts following the company is $47.00, representing a +69.2% return potential from last Friday’s closing price.

Technicals

Bonanza Creek Energy jumped out on our radar screen during the sharp drop in West Texas crude oil over the past 5-weeks (-27%) and oil E&P stocks (XOP tracker -24% draw-down in October). Bonanza Creek Energy’s draw-down in October was limited to -17%. The relative out-performance was likely due to stronger selling in Bonanza Creek Energy earlier in the year (most who wanted out had already got out by October). The jump in natural gas prices was also likely a cushion for Bonanza Creek Energy given its activities in natural gas extraction.

The chart of Bonanza Creek Energy looks like we are seeing a good entry point today. After putting in a huge bearish engulfing candlestick on August 7, the stock has gotten wiped out by the algos, falling -37%. Despite that the stock price has continued to fall since September, the oscillators have been trending higher, forming a multi-week positive divergence with price, as shown in the next two charts.

Finally, since the shares of Bonanza Creek Energy were re-listed in May 2017, the stock has traded in a range between $40 and $24. The current price of $27.77 puts us in the lower end of the range, which should draw the attention of return-to-the-mean traders.

We are taking an intermediate-term outlook of 3-6 months on Bonanza Creek Energy and are expecting price to return to $40 within this horizon. For investors looking to take advantage of the recent drop in oil prices, Bonanza Creek Energy should be a good play to capture a rebound in oil prices.

Bottom line: All oilers are suffering with the collapse in crude oil prices. Savvy investors need to be getting their lists of good energy companies ready to pick up these names on the cheap. Bonanza Creek offers good value and strong growth and should be on investors’ watchlists.

Trade Recommendations