Investment Highlights

• Energy stocks rally. The Bursa Malaysia Energy Index rose 12.3% to 861.5 points yesterday on a surge of retail buying on a 12x acceleration in trading volume of 7.7bil, as Brent crude oil prices briefly climbed above the US$45/barrel threshold. For stocks under our coverage, Sapura Energy stocks jumped 45%, Bumi Armada 22%, Velesto 14% and Serba Dinamik 3%.

• Slew of positive sentiments. The bullish sentiment on oil prices stem from fresh hopes of progress in novel coronavirus vaccine trials and a weaker US dollar, albeit dented by rising unemployment data. Additionally, the possibility that US Congress could reach another economic stimulus package with the White House boosted expectations of demand recovery. US President Donald Trump said that his administration is "looking very seriously" at a capital gains tax cut in the hope of creating jobs, as well as an income tax cut for middle-income families. Saudi Aramco CEO Amin Nasser has also said that the company was optimistic about the pace of oil demand recovery in Asia, which has almost returned to the levels from before the pandemic.

• Buoyed by declining US inventories. The American Petroleum Institute also reported last night that US crude oil inventories fell by 4mil barrels, following EIA (Energy Information Administration) statistics which showed a decline of 7.4mil barrels over the past week to 519mil barrels despite rising cases of Covid-19 in the United States. This would be 5% below the 40-year peak of 540mil barrels in June this year, pointing towards normalisation by next year.

• Still, caution is warranted on new normal. While these improving sentiments have driven the stock rally, we remain cautious on a sector turnaround given that demand recovery may face road blocks over the rest of the year on rising Covid 19 cases in the US, which rebounded to exceed 55,000 new cases last week. Even if a successful vaccine has been developed, it will take much longer for mass vaccination to be administered globally, which means that social distancing measures are likely to be maintained over the longer term together with the new normal in daily energy usage.

• National oil companies will still cut capex. Even though a measure of optimism has returned for crude oil prices, we expect oil producers to proceed with their planned production cuts for this year given that demand globally remains depressed amid the prolonged Covid-19 movement restrictions and social distancing measures across the new normal which could mean potentially long-term changes in energy usage. Petronas, which had earlier indicated intentions to maintain domestic capex, has announced cuts of 21% for capital and 12% operating expenditure this year. This is similar to the 20% to 30% capex reductions for 2020 which were earlier announced by Exxon Mobil, Royal Dutch Shell, Saudi Aramco and Petrobras. In 1H2020, the new contract awards to Malaysian operators dropped 62% YoY to RM2.2bil, with the worst fallout yet to come in 2H2020 onwards.

• Cautious on selected highly geared companies. Against the backdrop of a sharp demand drop in upstream oil services, we remain cautious on companies with high gearing levels such as Sapura Energy, which needs to restructure its RM10bil debt by the end of this year. However, the rest of the players are relatively comfortable at this juncture as Serba Dinamik has recently raised a 10% equity placement while Bumi Armada has reclassified a RM1.3bil short-term debt to long term due to higher asset utilisation. While there is a risk that Velesto could reverse to a loss in 2HFY20 due to lower rig utilisation, its gross cash position should be able to meet its debt obligations for this financial year.

• Maintain NEUTRAL view of the sector given our mixed number of BUY and SELL calls. Dialog Group and Serba Dinamik Holdings are BUY calls due to their resilient non-cyclical tank terminal and maintenance-based operations while Petronas Chemicals Group has a high correlation to the recent oil price upturn.
  
  However, as we continue to view the still low oil prices and earnings of upstream service companies to be worse than the previous 2015–2017 down cycle which led to multiple financial distress to O&G corporations, we retain our SELL calls for Bumi Armada, Sapura Energy and Velesto Energy.

Source: AmInvest Research - 12 Aug 2020