Transocean (RIG)

After bottoming out below $45 last week, Transocean LTD (RIG, NYSE) shares have come racing back. The stock spiked from $47.22 to $50.68 on Monday. It then climbed to $53.56 on Wednesday, and bulled all the way to $57.93 today. That’s a powerful 23% advance in just four trading sessions. I added 35 shares of RIG to the “Beat the S&P” Portfolio on May 28th at $56.77 a share.

The latest round of buying comes after surprising news that three-fourths of the oil in the gulf has been burned, skimmed, dissolved or chemically dispersed. Some are skeptical of that optimistic assessment, but the preliminary indication is that much of the toxic crude is gone and the environmental fallout could have been much worse. Don’t tell anyone on the Gulf coast that they dodged a bullet. But for the first time since the tragic explosion of the Deepwater Horizon, the headlines are getting better rather than worse. In fact, BP is reportedly on the verge of plugging the leak permanently.

Within a few weeks, this story will quietly fade away as journalists move on to fresher topics—sad for those affected, but reality. For investors, though, the end of the PR nightmare will remove a major overhang. The market hates uncertainty, so many are breathing a sigh of relief that things finally appear to be under control.

Meanwhile, an upbeat Wall Street Journal story on August 4th suggesting that Transocean is contractually indemnified from lawsuits and damages appears to have triggered a relief rally. Those who read my initial profile in the June Market Advisor already knew this:

“Keep in mind that Transocean’s contract clearly puts the lessee, BP, on the hook for any cleanup and containment costs associated with a blowout. So while the parties involved will point fingers in congressional testimony, Transocean won’t likely face stiff penalties.”

Hard to be much clearer than that. And now that Transocean has filed the extensive 400 page contract with the SEC, the message finally appears to be sinking in. That doesn’t mean the company is completely out of the woods, but it does seem to have the law on its side. It also has hefty insurance protection—collecting a $267 million insurance payment already from losses associated with the Deepwater Horizon explosion.

Second quarter results released on August 4th have also been warmly received by investors. Utilization rates were soft and the bottom line was muddied by one-time gains and charges. But revenues of $2.5 billion were on par with those from before the spill, and operating cash flows came in $100 million higher than in the first quarter.

And it doesn’t hurt that strengthening crude prices above $80 per barrel are supporting drilling activity and should help prop up day rates, the daily price an oil company pays to lease a drilling rig. For example, BP was leasing Deepwater Horizon from Transocean for $550,000 per day at the time of the explosion.

Action to Take

Even after this run-up, RIG is still incredibly attractive at this level. The world can’t function a day without oil, and its finest deepwater driller is trading at a P/E of of 6.4 compared to an industry average of 14.5. Barring another recession, I see the shares testing $90 within the next year, which is what investors were paying before this mess happened. … I also plan to add another 25 shares to our position at the opening bell on Monday, August 9th.

Nathan Slaughter, StreetAuthority Market Advisor

Comments