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Should Investors Focus on These 4 U.S. Upstream Stocks?

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While commodity prices are expected to remain near the current levels, uncertainties related to slowing global economic growth and inflationary pressures have somewhat thwarted the Zacks Oil and Gas - Exploration and Production - United States industry’s positive momentum. Despite macro challenges posing a direct impact on energy demand, we think the space still has fuel left in the tank, especially for the operators that target growth opportunities and operating efficiency initiatives. We advise investors to focus on APA Corporation (APA - Free Report) , Antero Resources (AR - Free Report) , Comstock Resources (CRK - Free Report) and Northern Oil and Gas (NOG - Free Report) .

About the Industry

The Zacks Oil and Gas - US E&P industry consists of companies primarily based in the domestic market, focused on the exploration and production (E&P) of oil and natural gas. These firms find hydrocarbon reservoirs, drill oil and gas wells, and produce and sell these materials to be refined later into products such as gasoline, fuel oil, distillate, etc. The economics of oil and gas supply and demand is the fundamental driver of this industry. In particular, a producer’s cash flow is primarily determined by the realized commodity prices. In fact, all E&P companies' results are vulnerable to historically volatile prices in the energy markets. A change in realizations affects their returns and causes them to alter their production growth rates. The E&P operators are also exposed to exploration risks where drilling results are comparatively uncertain.

4 Key Investing Trends to Watch in the Oil and Gas - US E&P Industry

Oil Prices Weighed Down by Fed Stance, China Scare: With market participants concerned that the American central bank’s rate-hiking campaign to fight persistently high inflation would trigger an eventual recession, oil has been caught up in a selloff even as the war between Russia and Ukraine continued to drag on. Moreover, demand has also shrunk in China — the world’s biggest consumer of crude — as the country struggles with a periodic surge in COVID cases. As a redult, oil prices have come down sharply in recent months to below $80 per barrel. This is set to impact the fortunes of the domestic E&P players.

Weather Woes Affect Natural Gas: While natural gas hit $10 per MMBtu for the first time since 2008 in 2022 and gained approximately 20% last year, the fuel is facing a steep selloff lately, primarily due to unseasonal warm weather projections for January. As is the norm with natural gas, changes in temperature and weather forecasts can lead to price swings. The latest models anticipate tepid temperature-driven consumption over the near term (with less extensive use of heaters across homes and businesses), which is a negative for prices. The protracted downtime associated with the fire breakout at the Freeport LNG export plant in Texas has also been a concern.

Inflationary Cost Pressures: U.S. energy companies have been experiencing rising production costs in the form of increased expenses related to steel, manufactured goods, services and labor. The inflationary environment, together with supply-chain tightness, is not only pushing costs higher but also affecting their capital programs. Apart from being hard to ignore, escalation in expenses is also drowning out the benefits of any commodity price increase. In our view, the inflation-associated headwinds will continue to challenge growth and margin numbers, with little chance of a quick resolution. In particular, worries about weaker energy demand due to the threat of recession might jeopardize the commodity’s ascent.

Strong Financial Returns for Shareholders: The sharp increase in crude prices during 2021 and the first half of 2022 allowed the upstream operators to deliver a solid financial performance. Cash from operations looks sustainable as revenues improve and companies cut capital expenditures from the pre-pandemic levels amid sharply higher commodity realizations. To put it simply, the environment of strong prices has helped the E&P firms to generate significant “excess cash,” which they intend to use to boost investor returns. In fact, energy companies are increasingly allocating their rising cash pile by way of dividends and buybacks to pacify the long-suffering shareholders.

Zacks Industry Rank Indicates Bearish Outlook

The Zacks Oil and Gas - US E&P industry is a 42-stock group within the broader Zacks Oil - Energy sector. The industry currently carries a Zacks Industry Rank #203, which places it in the bottom 19% of 250 Zacks industries.

The group’s Zacks Industry Rank, which is basically the average of the Zacks Rank of all the member stocks, indicates challenging near-term prospects. Our research shows that the top 50% of the Zacks-ranked industries outperforms the bottom 50% by a factor of more than 2 to 1.

The industry’s position in the bottom 50% of the Zacks-ranked industries is a result of a negative earnings outlook for the constituent companies in aggregate. Looking at the aggregate earnings estimate revisions, it appears that analysts are becoming pessimistic about this group’s earnings growth potential. While the industry’s earnings estimates for 2022 have gone down 11.6% since September last year, the same for 2023 have fallen 20.1% over the same timeframe.

Despite the dim near-term prospects of the industry, we will present a few stocks that you may want to consider for your portfolio. But it’s worth taking a look at the industry’s shareholder returns and current valuation first.

Industry Outperforms S&P 500 But Lags Sector

The Zacks Oil and Gas - US E&P industry has fared better than the Zacks S&P 500 composite over the past year but has underperformed the broader Zacks Oil – Energy sector over the same period.

The industry has gone up 14.3% over this period compared with the broader sector’s increase of 20.8%. Meanwhile, the S&P 500 has lost 17.3%.

One-Year Price Performance


Industry's Current Valuation

Since oil and gas companies are debt-laden, it makes sense to value them based on the EV/EBITDA (Enterprise Value/ Earnings before Interest Tax Depreciation and Amortization) ratio. This is because the valuation metric takes into account not just equity but also the level of debt. For capital-intensive companies, EV/EBITDA is a better valuation metric because it is not influenced by changing capital structures and ignores the effect of noncash expenses.

On the basis of the trailing 12-month enterprise value-to EBITDA (EV/EBITDA), the industry is currently trading at 4.32X, significantly lower than the S&P 500’s 11.83X. It is, however, above the sector’s trailing-12-month EV/EBITDA of 3.16X.

Over the past five years, the industry has traded as high as 16.34X, as low as 2.95X, with a median of 6.22X.

Trailing 12-Month Enterprise Value-to EBITDA (EV/EBITDA) Ratio (Past Five Years)



4 Stocks to Watch For

Comstock Resources: Comstock is a leading operator in the Haynesville shale — a premier natural gas basin — with 323,000 net acres. About 98% of the company’s total output is natural gas. A low-cost provider, the company’s leadership position in Haynesville provides it access to the Gulf Coast and an attractive pricing advantage. Comstock’s 1,900+ high-return net drilling locations support its development program, while its conservative operating plan drives free cash flow.    

The 2022 Zacks Consensus Estimate for Zacks Rank #3 (Hold) CRK indicates 212.1% earnings per share growth over 2021. Comstock’s shares have gained 30.4% in a year. You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.

Price and Consensus: CRK


Northern Oil and Gas: Northern Oil and Gas’ core operations are focused on three leading basins of the United States — the Williston, Permian and the Appalachian. The upstream operator employs a unique nonoperating business model, which helps it to keep costs down and increase free cash flow. Prioritizing returns to investors, NOG pays a 30 cents per share quarterly base dividend following a 20% hike late last year.

Carrying a Zacks Rank of 3, the 2022 Zacks Consensus Estimate for Northern Oil and Gas indicates 100.3% earnings per share growth over 2021. NOG’s shares have gained 32.5% in a year.

Price and Consensus: NOG


APA Corporation: APA’s large geographically diversified reserve base and high-quality drilling inventory should guarantee multi-year production growth. The company’s increased focus on the Permian basin, known for its low cost and high internal rates of return, is another key driver. APA’ slew of discoveries in offshore Suriname, through its joint venture with TotalEnergies, is another positive catalyst for the company. Over time, Suriname is expected to become one of APA’s major assets with significant cash flow potential.

The 2022 Zacks Consensus Estimate for APA indicates 110% earnings per share growth over 2021. The company currently carries a Zacks Rank #3. Meanwhile, APA has seen its shares gain 34.2% in a year.

Price and Consensus: APA


Antero Resources: Antero Resources has positioned itself among the fast-growing natural gas producers in the United States. The company's strategic acreage position in the low-risk and long reserve-life properties of the Appalachian Basin is a major positive. Cashing in on high commodity prices, AR expects to generate more than $2.5 billion of free cash flow in 2022.

The 2022 Zacks Consensus Estimate for Antero Resources indicates 303.5% earnings per share growth over 2021. Antero Resources currently carries a Zacks Rank #3. Meanwhile, the hydrocarbon producer has seen its shares increase 38.5% in a year.

Price and Consensus: AR


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