Gasoline Gets More Expensive

Monday marks the 48th day in a row that gasoline prices have risen, even as demand for gas remains weak. This streak matches a record for this decade as oil has increased rapidly from its lows in conjunction with the U.S. dollar’s drop in value. Because oil is priced in U.S. dollars, the rise in prices has not been as severe for buyers using non-U.S. currency. On Monday, crude oil sold off nearly 3% as the dollar strengthened and equity markets around the world dropped. Opinions among analysts very greatly, but it appears that demand has not been a primary driver of the gains in oil and gasoline prices, at least not in comparison to the decline of the dollar.

This could be a scary prospect as the markets are hoping to see the green shoots develop into a full blow consumer driven recovery. Each dollar that is spent at the gas station obviously lowers consumers ability and willingness to spend it elsewhere. Industry analyst Tom Klouza estimates that American consumers are spending about $1 billion per day on gasoline at these rates, which compares to just $600 million per day around New Years Day weekend. When you combine that with the fact that we have seen the first year over year declines in consumer spending ever, this could spell serious trouble for retailers and their suppliers if the trend does not reverse course. That could pose a stumbling block for the economy once again, as everyone felt the pain when oil was trading well into the triple digits last year.

Now, we are not oil analysts at Ockham, we are equity analysts. So we will not try to predict the direction of the price of oil and gasoline. However, we can suggest one stock related to the refining and marketing of gasoline that we believe should do well if oil prices continue to go higher, or if prices do in fact pull back. That company is Sunoco, Inc. (SUN), whose stock has come down considerable from its two year highs in the mid-$80s as it now sits in the high twenties. Sunoco is dealing with decreased revenue as demand for gas has lagged through this recession, and profit margins which are already low for refiners have been squeezed recently. However, there is no doubt the the stock price has taken enough of a hit to warrant a closer look.

Even with margins in the low single digits, Sunoco earned $7.43 cents in 2008 and even though estimates are calling for earnings to drop off to $2.91 cents for 2008 the valuation is compelling at such a low price point. The price-to-earnings level looking ahead to 2009 earnings is below 10x, and trailing twelve months is just over 3x! These are among the reasons why we think that Sunoco looks attractive if you can hold onto the stock for some time. The earnings estimates for Sunoco seem to reflect continued low prices for oil and poor profit margins. In other words, the downside appears to be minimal, especially as the stock pays out a nearly 5% annual dividend. But, if you believe that oil prices will continue to rise, then Sunoco should be able to improve profit margins more quickly and the stock will benefit. We think it is reasonable based on historical valuations of Sunoco, that SUN could trade for $50 as earnings begin to normalize over the next few years.

However, one item of concern, is that Sunoco has a history of carrying a fair amount of debt. Over the past four quarters, Sunoco has had more current liabilities than current assets, which is generally a red flag. Perhaps it is just the capital-intensive nature of refining and marketing of gasoline, but it bares mentioning that the balance sheet is not exactly what we ordinarily want to see.

Gasoline Gets More Expensive

About Ockham Research 645 Articles

Ockham Research is an independent equity research provider based in Atlanta, Georgia. Security analysis at Ockham Research is based upon the principle known as Ockham's Razor, named for the 14th- century Franciscan friar, William of Ockham. The principle states that a useful theory should utilize as few elements as possible, because efficiency is valuable. In this spirit, our goal is to make the investing environment as simple and understandable as possible, yet no simpler than is necessary.

We utilize this straightforward approach to value over 5500 securities, with key emphasis given to the study of individual securities' price-to-sales, price-to-cash earnings and other historical valuation ranges. Our long term value investing methodology is powered by the teachings of Ben Graham and it has proven to be very adept at identifying stock prices that are out of line with fundamental factors.

Ockham Research provides its research in a variety of forms and products including our company specific reports, portfolio analytics tools, newsletters, and blog posts. We also offer a white labeling research solution that can give any financial services firm their own research presence without the time and cost associated with building such a robust coverage universe of their own.

Be the first to comment

Leave a Reply

Your email address will not be published.


*