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Nomura urges cautious approach to E&P stockpicking

The broker says the recent upturn in the sector’s fortunes is now fully priced in the prospects of these companies, and now only made sense if the oil price remained above US$80 a barrel. That said, Nomura has spotted a number of “underappreciated” companies to watch out for. 

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Nomura this morning urged a cautious approach in stock selection as it gave its assessment of the prospects for the oil exploration and production industry.

It said the recent upturn in the sector’s fortunes is now fully priced in the prospects of these companies, and now only made sense if the oil price remained above US$80 a barrel.

“We do not rule out the persistence of high oil prices this year, but neither do we view the E&Ps as a sector for the value investor at present,” Nomura said in a note to clients.

“Current spot prices should be viewed in the context of last year‘s average of US$111 a barrel, the second-highest ever oil price.”

Its three to avoid are Lundin Petroleum, Premier Oil (LON:PMO) and Tullow Oil (LON:TLW), which are rated reduce.

The cautionary words come against a backdrop of record high oil prices with the cost of a barrel of crude hitting US$128.40 in New York overnight.  

That said, Nomura has spotted a number of “underappreciated” companies that have lagged the sector owing to a “lack of obvious catalysts”.

Its stocks to watch are Afren (LON:AFR), Africa Oil, Cairn Energy (LON:CNE), DNO, Dragon Oil (LON:DGO), Faroe Petroleum (LON:FPM), Ophir and Soco. It initiated each with a ‘buy’ recommendation.

The US$1.8 billion bid battle for Cove Energy (LON:COV), meanwhile, suggests that merger and acquisition activity is back on the agenda.

Potentially leading this spending spree is Dragon Oil, which recently shelved its bid interest in Bowleven (LON:BLVN).

Dragon Oil is on track to accumulate a cash pile of around U$4 billion by 2015, around 90 per cent of its current market cap,” said Nomura.

“For the shares to re-rate, we think a strong signal has to be given to the market on how the excess cash will be used, potentially for M&A, or Dragon's ownership structure could change.”

Cairn too could be scanning the horizon for deals after exploration work in Greenland was placed on hold.

“We think that investors simply have to wait for something to happen,” Nomura said.

“Acquisitions are the most obvious way for the existing Cairn team to rebuild the portfolio.”

The Cove deal, meanwhile, has set a benchmark for other transactions in the highly prospective Rovuma Basin, which borders Mozambique and Tanzania.

It has also turned the spotlight on companies such as Wentworth Resources (LON:WRL) and Ophir (LON:OPHR), which are active in the area.

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