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Can Europe’s oil groups win back investors?



European oil stocks have been battered this year, with the pandemic-induced price crash adding to companies’ existing challenges of reversing historical underperformance while navigating the tricky transition to cleaner fuels.

Faced with this “triple whammy”, as Royal Dutch Shell’s Ben van Beurden has called it, the crisis-hit sector’s battle to win back investors has become much tougher.

“What is it going to take for investors to take that leap of faith?” said Luke Parker at consultancy WoodMackenzie. “These companies are all on a journey and they need to strike the right balance between their traditional businesses and new ones. Can they bring investors along with them?”

While the region’s oil majors have set out their goals to achieve net-zero emissions and shift towards cleaner forms of energy, their ambitions are yet to be matched with investment. As their share prices have dropped this year — notwithstanding a bounce after recent vaccine developments — specialist renewable energy stocks have surged.

Line chart of Stock indices rebased to Jan 2020 showing European renewables have surged in the pandemic

Colin Baines, investment engagement manager at Friends Provident Foundation, said “to be taken seriously and receive a ‘climate premium’,” the European majors “need to adopt meaningful low-carbon transition plans”.

“Whilst they have done more than their US counterparts, none are transitioning away from oil in any meaningful sense . . . capital expenditure is still overwhelmingly in oil and gas,” he added.

Behind this is the realisation that even if oil executives manage to transform their businesses, they cannot guarantee significant earnings and returns in the next decade.

Despite new climate pledges, companies from Shell and BP to Italy’s Eni and France’s Total used the most recent earnings season to emphasise shareholder handouts and improvements in their hydrocarbon businesses as they reiterated their focus on lowering costs and more disciplined capital spending.

BP chief executive Bernard Looney, who in August said the company would cut oil production 40 per cent by 2030 and increase low-carbon investment 10-fold by 2030, tried to convince investors the company was focused above all else on “value creation”. He said: “This is not about altruism or charity.”

Eni and Total said they would defend investor returns, while Shell — after slashing its payout in April for the first time since the second world war — announced a “new era” of dividend growth.

Mirza Baig, global head of governance and stewardship at Aviva Investors, said this year’s share price falls were “a reflection of the depressed oil price and the shedding of income investors”.

Companies spoke during the most recent quarterly earnings season about divestments of non-core assets and focused on oil and gas businesses that would throw off more cash, while emphasising other parts of the business such as petrol stations that have been overlooked for years.

Even as oil companies say their operational prowess, global reach and industrial knowhow will support their ability to stake a claim over the future energy system, they still have relatively little expertise in the renewables business.

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Some investors and executives believe the sector should stick with what it knows best. One analyst warned that if companies “get woke” they would indeed “go broke”.

Morgan Stanley analysts calculated that per unit of energy produced, renewables require up to five times as much capital expenditure as oil and gas projects.

With finances under pressure in the short and medium term, companies embarking on the long transition are deploying new strategies to convince investors to hang on for the ride.

Anders Opedal, the new chief executive of Norway’s Equinor, said the company would report results in its renewables division separately from the first quarter of 2021.

“This is to increase transparency around how we are building renewables over time and how society and investors can follow how we develop our renewables strategy,” he told the Financial Times.

Spain’s Repsol recently suggested a wind and solar joint venture in Chile could serve as a blueprint for its future renewables business. Chief executive Josu Jon Imaz said “a potential IPO” could be on the cards.

At the same time, oil company executives point to inconsistencies in the positions of some investors.

Equinor, whose share price fall this year of about 17 per cent is a lot less than some peers at more than 40 per cent, is being lauded for being ahead of the game on renewables. But the company, like US oil majors ExxonMobil and Chevron, still plans to increase its oil production in the coming years even as others plan to hold steady or decrease theirs.

Investment houses also are split internally. While some parts of the business are keen to keep investing in oil companies, others will not.

Amanda O’Toole, portfolio manager of the AXA WF Framlington Clean Economy fund, does not hold these stocks because the vast majority of their capital is “tied up in oil”. But she said oil majors were held elsewhere in the business because they have a role to play in the shift to a lower-carbon world. “I don’t think it is time to wash our hands of these players.”

Oil companies are held within some portfolios with environmental, social, and governance considerations but shunned from others, making it difficult to gauge how far companies need to go to placate shareholders.

“Everyone has a different view,” said Iain Pyle, investment director at Aberdeen Standard Investments.

“If a company makes most of its money from generating oil, that’s not usually going to fit,” he added. “But companies that are making positive changes in their business model . . . that deserves some merit.”

Line chart of $/MWh showing The cost of renewable power has fallen rapidly in the past decade

Some shareholders champion the divestment movement but also believe they have a responsibility to stay invested in the world’s biggest corporate polluters to help clean them up.
They acknowledge that traditional oil and gas groups will be vital for the energy system for a long time to come.
Diandra Soobiah, head of responsible investment at UK pension fund Nest, said big energy companies had an “important role” to play in the energy transition.
But investing in oil stocks could become even less attractive for asset managers under the EU’s new green finance rules that from next year will impose tougher disclosure requirements on investors in oil companies.

Some environmental activists and investors, meanwhile, do not believe an oil company can ever be a truly ethical investment, particularly when a string of other options already exist — from Danish offshore wind producer Orsted to Spanish utility Iberdrola.

“Why should I wait around until they can prove they are able to make money from all the cleaner energy stuff?” one asset manager said. “There are plenty of other ways I can generate returns for my clients.”

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Value investor John Rogers sees an end to Big Tech’s stock market dominance




The veteran value investor John Rogers predicted the US is headed for a repeat of the “roaring twenties” a century ago that will finally encourage investors to dump tech stocks in favour of companies more sensitive to the economy.

The founder of Ariel Investments told the Financial Times in an interview that value investing “dinosaurs” like him stood to win as higher economic growth and rising interest rates took the air out of some of the hottest stocks of recent years.

Rogers, who has spent a near four-decade career focused on buying under-appreciated stocks, said the frenzied buying of special purpose acquisition companies, or Spacs, signalled frothiness in parts of the market, even while a coming economic boom underpinned other share prices.

“This will be a sustainable recovery. I think there’s going to be kind of a roaring twenties again,” Rogers said, adding that the strength of the economic recovery would surprise people and challenge the Federal Reserve’s ultra-dovish monetary policy.

The US central bank is “overly optimistic that they can keep inflation under control”, he said, and higher bond market interest rates would reduce the value of future earnings for highly popular growth stocks such as tech companies and for the kinds of speculative companies coming to market in initial public offerings or via deals with Spacs.

“Spacs are a sign that growth stocks are topping. A signal that the market is frothy,” said Rogers, a self-styled contrarian and famed for his Patient Investor newsletter for clients that debuted in 1983.

Value investing is based on identifying cheap companies that are trading below their true worth, an approach long espoused by Warren Buffett. Value stocks and those sensitive to the economic cycle boomed after the internet bubble burst in 2000, but the investment strategy has been well beaten over the past decade by fast-growing stocks, led by US tech giants. 

“We’ve been looking like the dinosaurs for so long,” said Rogers. “We’ve been waiting for that booming economic recovery since 2009.”

Proponents of value investing believe that the combination of expensive growth stock valuations and a robust recovery from the pandemic will cause a significant switch between the two investing approaches.

Higher bond market interest rates reduce the relative appeal of owning growth stocks based on their future earnings power.

When 10-year bond yields rise, “growth stocks look way, way too expensive versus value,” said Rogers. “Value stocks are going to come out of the recovery very strong, they’re going to have a tailwind from an earnings perspective. Their earnings are going to be here and now, not 20, 30 years down the road.”

The Russell 1000 Value index outperformed the equivalent growth index by 6 percentage points in February, rising 5.8 per cent versus a drop of 0.1 per cent for the growth index. That was the biggest outperformance for value since March 2001, according to analysts at Bank of America.

“Although rising rates triggered the rotation, we see a host of other reasons to prefer value over growth,” the analysts wrote last week, “including the profit cycle, valuation, and positioning that can drive further outperformance.”

Rogers said he expected higher overall stock market volatility from rising interest rates this year but value should reward investors as it did “20 years ago once the internet bubble burst”. Ariel is bullish on “fee generating financials” and Rogers said preferred names included KKR, Lazard and Janus Henderson, while it was also bullish on traditional media, including CBS Viacom and Nielsen.

Chicago-based Ariel is one of the few large black-owned investment companies in the US, with $15bn of assets under management. It manages the oldest US mid-cap value fund, dating from 1986. 

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High-priced tech stocks sink further into bear market territory




Some of the hottest technology stocks and funds of recent months have fallen into bear market territory and investors are betting on more turmoil to come, as rising bond yields undermine the case for holding high-priced shares.

A Friday afternoon stock market rally notably failed to include shares in Tesla and exchange traded funds run by Cathie Wood, the fund manager who has become one of the electric carmaker’s most vocal backers.

Shares in Tesla fell 3.6 per cent on Friday to close below $600 for the first time in more than three months, although it had been down as much as 13 per cent at one point. The stock is down 32 per cent from its January peak, erasing $263bn in market value.

Wood’s $21.5bn flagship Ark Innovation ETF — 10 per cent of which is invested in Tesla shares — also closed lower on Friday. It is now down 25 per cent and in a bear market, defined as a decline of more than one-fifth from peak.

Clean energy funds run by Invesco, which were last year’s best-performing funds, are also in bear market territory, along with some of the highest-flying stocks in the technology and biotech sectors.

“Bubble stocks and many aggressively priced US biotechnology stocks have been the hardest hit segments of the equity market,” said Peter Garnry, head of equity strategy at Saxo Bank.

The tech-heavy Nasdaq Composite index fell into correction territory — defined as a decline of more than 10 per cent from peak — earlier this week but rebounded 1.6 per cent on Friday as bond yields stabilised.

The yield on 10-year US Treasuries yield briefly rose above 1.6 per cent early in the day after a robust employment report for February buoyed confidence in a US economic recovery. Yields were less than 1 per cent at the start of the year.

Rising long-term bond yields reduce the relative value of companies’ future cash flows, hitting fast-growing companies particularly hard.

These type of companies figure prominently in thematic investing funds run by Wood at Ark Investments. The performance of Ark’s exchange traded funds has abruptly reversed after they recorded huge inflows and strong gains for much of the past 12 months.

“The speculative tech trade is in various stages of rolling over right now,” said Nicholas Colas, co-founder of DataTrek, a research group.

Bar chart of  showing Hot stocks and funds enter bear market territory

RBC derivatives strategist Amy Wu Silverman said investors were still putting on hedges in case of further declines in high-flying securities, including options that would pay off if Tesla and the Ark Innovation fund drop in value.

The number of put options on the Ark fund hit an all-time high on Thursday, according to Bloomberg data. By contrast, demand for put options on ETFs such as State Street’s SPDR S&P 500 fund — which reflects the broader stock market — have fallen as stocks have dropped.

Demand for options normally slides as a stock or ETF slumps in value, given there was “less to hedge, since you got your down move”, Silverman said. The elevated put option activity on speculative tech stocks and funds was “suggesting investors believe there is more to go”, she said.

Even after the declines, stocks in the Ark Innovation ETF remain highly valued, with a median price-to-sales ratio of 22 versus 2.5 for the broader stock market according to Morningstar, the data provider.

Two of the fund’s other big holdings, the streaming company Roku and the payments group Square, were also lower on Friday, extending recent declines.

Ark’s other leading ETFs have also retreated sharply as air has come out of Tesla and other hot stocks. Tesla is the largest holding in Ark’s $3.3bn Autonomous Tech and Robotics fund and its $7.2bn Next Generation Internet ETF.

Wood has also taken concentrated holdings in small, innovative companies. Ark holds stakes of more than 10 per cent in 26 small companies across its five actively managed ETFs, according to Morningstar.

“These large stakes raise concerns around capacity and liquidity management,” said Ben Johnson, director of passive funds research at Morningstar. “The more of a company the firm owns, the more difficult it will be to add to or reduce its position without pushing prices against fund shareholders.”

Ark did not respond to a request for comment. The Ark Innovation ETF is still sitting on a performance gain of 120 per cent for the past year. It bought more shares in Tesla when the carmaker’s shares began falling last month.

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Powell inflation remarks send Asian stocks lower




Asian stocks were mostly lower after a rout in US Treasuries spread to the region after comments from Jay Powell that failed to stem inflation concerns in the US.

Hong Kong’s Hang Seng dropped 0.3 per cent following the remarks by the chairman of the US Federal Reserve while Japan’s Topix rose 0.1 per cent and the S&P/ASX 200 fell 0.8 per cent in Australia.

China’s CSI 300 index of Shanghai- and Shenzhen-listed stocks dropped as much as 2 per cent before pulling back to be down 0.5 per cent by the end of the morning session, after Beijing set a target of “above 6 per cent” for economic growth in 2021.

Premier Li Keqiang hailed China’s recovery from an “extraordinary” year and said the government wanted to create at least 11m urban jobs at a meeting of the National People’s Congress, the annual meeting of the country’s rubber-stamp parliament.

“A target of over 6 per cent will enable all of us to devote full energy to promoting reform, innovation and high-quality development,” Li said, adding that Beijing would “sustain healthy economic growth” as it kicked off the new five-year plan.

Analysts were less sanguine on China’s economic outlook, however, pointing to the markedly lower growth target relative to recent years.

“There is, in fact, not much surprise from the government work report except for the super-low GDP target,” said Iris Pang, chief economist for Greater China at ING, who estimated growth would be 7 per cent this year. “This makes me feel uneasy as I don’t know what exactly the government wants to tell us about the recovery path it expects.”

The mixed performance from Asia-Pacific stocks came after Powell failed to alleviate fears that the US central bank was reacting too slowly to rising inflation expectations and longer-term Treasury yields, which rise as bond prices fall.

Powell on Thursday said he expected the Fed would be “patient” in withdrawing support for the US economic recovery as unemployment remained well above targeted levels. But he added that it would take greater disorder in markets and tighter financial conditions generally to prompt further intervention by the central bank.

“As it relates to the bond market, I’d be concerned by disorderly conditions in markets or by a persistent tightening in financial conditions broadly that threatens the achievement of our goals,” Powell said.

Yields on 10-year US Treasuries jumped 0.07 percentage points to 1.55 per cent following Powell’s remarks. In Asian trading on Friday, they climbed another 0.02 percentage points to 1.57 per cent. The yield on the 10-year Australian treasury rose 0.07 percentage points to 1.83 per cent

“Based on our growth forecast, longer-term rates will likely rise for the next few quarters — but more slowly,” said Eric Winograd, a senior economist at AllianceBernstein. “And we think the Fed is prepared to push in the other direction if rates rise too far, too fast.”

The S&P 500, which closed Thursday’s session down 1.3 per cent, was tipped by futures markets to fall another 0.1 per cent when trading begins on Wall Street. The FTSE 100 was set to fall 0.8 per cent.

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