Gradual Recovery to be Expected

Sector earnings momentum for the recently concluded 1QCY17 result season has been positive. However, of late we believe the market may have somewhat mispriced the fundamentals of oil prices due to over concerns on global supply glut. With global GDP growth improving on the back of a recovery in private consumption, global demand may tick upwards leading to a more balanced ecosystem. However, we acknowledge that the recent correction in global oil prices may lead to lacklustre sentiment in the sector in the near term. As such, we maintain our NEUTRAL rating on the O&G sector.

Improving Sector Growth

The O&G sector led the charge with the highest contribution to 1Q17 earnings growth among KLCI constituent sectors under our coverage, and even ahead of the Banking sector. Seven of the 11 stocks under our coverage posted results inline with our expectations, with the remaining 4 falling short of our expectations. Post the 1Q17 results release, we expect sector earnings to grow by 8% yoy in 2017E, followed by 11% in 2018E.

Domestic Contract Flows Rebounded; We Expect a Better 2H17

Encouragingly, total O&G contract flows in 1H17 amounted to RM10.3bn (as of 20 June 2017) as compared to RM4.7bn in 1H16, representing a growth of 1.2-fold yoy. On a qoq basis, contract flows grew 1.6-fold. Contract flows will likely to maintain their strong momentum heading into 2H17 as we await the award of modification, construction and maintenance (MCM) contracts. Apart from that, tender pipelines are looking more active than previously as activity picks up from the maintenance and commissioning space, and also from the oilfield services segment. Industry players are generally seeing a more active market survey activity from clients for potential new developments.

Maintain Sector NEUTRAL; Top Picks: BAB, PENB and Adding SDH

We maintain our average Brent oil price assumptions of USD55/bbl for 2017 (with YTD Brent price averaging at USD53/bbl) and USD60/bbl for 2018. We maintain our NEUTRAL call on the sector. For sector exposure, we favour companies whose business models are more resilient to oil price fluctuations and fulfil our attractive valuation criteria. In terms of stock picks, we continue to like Bumi Armada (BAB MK, RM0.75, BUY) among large caps, and Petra Energy (PENB MK, RM1.13, BUY) in the small-cap space. We are also now adding our recent initiation, Serba Dinamik (SDH MK, RM1.92, BUY), a maintenance, repair and overhaul service provider with more than 50% of its revenue derived from Middle East as our preferred mid-cap exposure.

Source: Affin Hwang Research - 29 Jun 2017