Energy Stocks with Room to Run

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No Bubble Seen in Oil-Drilling Stocks

Mackenzie expects at least another 100 land rigs to be drilling for natural gas in North America by the end of 2008. Pressure-pumping margins won't recover to prior levels because of the continuing addition of new drilling capacity, which will hurt companies such as BJ Services (BJS). But drillers that are building fit-for-purpose rigs—more efficient and designed for horizontal drilling in shale deposits—such as Helmerich & Payne (HP) and Nabors—will continue to do well, he predicts.

Nabors is trading at just 12.5 times projected earnings over the next four quarters, vs. its historic median of a 19.5 times multiple, which suggests it's undervalued, says Mackenzie.

"There's no bubble in these stocks like there was in technology stocks 10 years ago," he says. "They're going to keep running until oil demand falls," either once a broadly viable alternative energy infrastructure is in place or, more likely, when there's a global economic contraction.

Keeping an Eye on Oil Futures

Stocks of exploration and production companies probably have the least chance for significant appreciation, with perhaps another 20% on the upside, says Rice. Of those weighted toward oil production, he likes Plains Exploration & Production (PXP) and Canada's Galleon Energy (GOa.TO) and PetroLifera Petrol (PDP.TO), while on the gas side, he favors Penn Virginia (PVA) and Southwestern Energy (SWN), based on the type of gas they're extracting and their current valuations.

While it's hard to forecast when institutional investors might start to shift their interest away from oil and into other asset classes, Gilman at the Benchmark Co. has seen a subtle movement in the pricing of oil futures in the past two weeks that could drive a change.

There's been a switch to later-dated futures contracts (i.e., for delivery several months out) being priced higher than nearby-dated (current or next-month) contracts, which means the fund managers who want to keep their positions open are paying up to roll over into the next contract month instead of rolling into cheaper contracts. So far, there's only a 14¢ spread between the July and August contracts on the New York Mercantile Exchange—pocket change compared with $130 per barrel. But if the differential widens to $3 to $5 per barrel, that will make it much more expensive to roll into the next-month contract and could prompt fund managers to close their positions, driving oil futures prices lower, says Gilman.

But lower, of course, is relative when you're looking at an 85% price surge in such a short time. Investors still appear to have a good chance to profit from the super-spike.

Bogoslaw is a reporter for BusinessWeek's Investing channel.