Traders have to be ruthlessly myopic at times. They look at a stock like Occidental Petroleum (NYSE:OXY) and immediately think of Warren Buffett’s axiom to be brave when others are fearful. So they buy OXY stock while others are avoiding it. But being cautious isn’t the same as being fearful. And being bold doesn’t always mean you’re making the best trade. But here we are.
OXY stock fell over 75% between Feb. 21 and March 20. Since that time, the stock has basically stayed at the same level. It had one brief rally in early June when it climbed nearly 90% in two weeks. But the stock gave up most of those gains in July. And after the company’s most recent earnings report in August, Occidental stock has been moving towards the single digits.
Why Words Matter
When you look at the transcript of the company’s earnings call at a high level, there were things to like. Words like positive free cash flow come to mind. But there was a sentence from chief executive officer Vicki Hollub that should give every investor a reason to pause. When referring to production growth, Hollub said, “We do not intend to grow production until we have significantly reduced debt and we view the long-term price of WTI to be sustainable at higher levels than where the current curve indicates.”
And there you have the problem. The company still has a lot of debt to work through, and they won’t be able to drill their way out of it. Other than that, everything’s fine.
The Right Gamble at the Wrong Time
As a sports fan, I see examples of this all the time. A team acquires a player. It seems risky, but on paper it makes sense. And if everything goes well, the reward easily outweighs the risk.
But in far too many cases, something or several somethings go wrong. Other players get injured. The new player just doesn’t fit the way he or she was supposed to fit. Or sometimes, you find out there was actually a reason another team wanted to part ways with the athlete.
That’s how I look at Occidental’s current situation. It all started with its $40 billion acquisition of Anadarko Petroleum in 2019. It was a gamble, but on paper it looked like a risk worth taking. At that time, the U.S. economy was humming along. Shale providers were a key reason that the U.S. had developed energy independence. The re-election of President Trump looked like a virtual certainty.
Then 2020 happened. Or more specifically, the novel coronavirus happened.
Now, Occidental has an asset that it can’t make use of and it’s layered in debt. And more to the point, Hollub has made it very clear that servicing, and reducing, the debt will be the company’s primary objective.
Getting back to my sports analogy, this is the moment when the team starts to trade off its other assets because they can’t get rid of the big contract that is weighing the team down. It’s given euphemistic terms like “collecting assets.” But it’s basically asking fans to continue to support an uncompetitive product in the hope that better days are coming.
Sometimes it works. And sometimes, well I’m a Cleveland sports fan so this example hits a little close to home.
OXY Stock Is a Bet on Higher Oil Prices
That’s not a bet I’d want to make. In the last month, I’ve been doing more driving than usual returning kids to college. And gas prices are going down, way down. This is a stark reminder of the precarious position that all oil companies find themselves in.
For Occidental to be anything more than just a quick trade, oil prices have to rise above $40 and stay there. The company has an impressive collection of assets that have value. But for those assets to pay off, the company needs rising oil prices. Otherwise, they’re just kicking the debt can down the road. And while that’s better than going bankrupt, eventually, the debt will come due.
Is that possible? I suppose it is. I’m as optimistic as the next person and I can game theory a set of circumstances that would drive up demand.
But in my most fantastic scenarios, I don’t see that happening until well into next year. There are too many headwinds in the economy. And that means I just see the price of oil as stuck in neutral.
Hollub made a big bet. And right now, that bet is not looking that good. But it’s her company, not mine and it may work out in the end. Right now, OXY stock looks like a trade that could make investors some easy money. But the smart money looks to be staying away and so am I.
On the date of publication Chris Markoch did not have (either directly or indirectly) any positions in the securities mentioned in this article.
Chris Markoch is a freelance financial copywriter who has been covering the market for over six years. He has been writing for Investor Place since 2019.