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Angels vs Devils: Should You Invest In BP plc?

Making stock market selections are never black-and-white decisions, and investors often have to plough through a mountain of conflicting arguments before coming to a sound conclusion.

Today I am looking at BP (LSE: BP) (NYSE: BP.US), and listening to what the angel and the devil on my shoulders have to say about the company.

Oil price keeps tanking

Of course, volatility in the oil price is the main concern for black gold producers, and a combination of market jitters over the global economy — not to mention a worrying supply/demand picture — continues to weigh on the price outlook. Indeed, Brent crude recently dropped to four-month lows below $105 per barrel, and has dropped 6% in less than a month.

The Organisation of the Petroleum Exporting Countries (OPEC) last month trimmed its 2014 oil demand forecast to 29.56 million barrels per day (bpd), a 50,000 bpd downgrade from previous projections, due to weak demand expectations. This does not bode well for medium-term oil prices.

Cheap valuation

Still, many argue that fears over a weak crude price is already factored  into the stock, and at face value BP certainly strikes a chord as a bargain stock based on certain key metrics.

City analysts expect earnings per share to surge 25% and 15% for 2013 and 2014 respectively, resulting in a P/E rating of 10.1 and 8.8 for these years — any readout around or below 10 is considered stunning value. And price to earnings to growth (PEG) multiples of below 1 for both this year and next, at 0.4 and 0.6 respectively, underline the firm’s cheapness relative to projected earnings potential.

Oil giant still in Deepwater

However, the ongoing legal dispute over the 2010 Gulf of Mexico oil spill remains a significant wild card for BP’s earnings outlook for coming years.

The firm announced last month that it had increased its total cumulative charge for the Deepwater Horizon disaster by $100m to $42.5bn. The legal dispute is expected to last many, many more months, and an adverse result could lead to further massive divestments by the company to cover the final bill, in turn crimping its long-term earnings potential.

Big dividends expected

But BP remains bullish over its earnings prospects, and thus remains committed to a progressive and generous dividend policy. Indeed, last month the company hiked its third-quarter dividend to 9.5 US cents from 9 cents from the previous three-month period.

City brokers expect the company to fork out a dividend of 36.4 cents per share for the whole year, up from 34 cents in 2012, and 39.6 cents next year. These figures generate dividend yield of 4.7% and 5.1% for 2013 and 2014 correspondingly, comfortably exceeding the 3.1% FTSE 100 forward average.

A devilish stock pick

Although BP is currently trading at low levels, I believe that that the company’s relative cheapness is fully justified. A bleak oil demand outlook, and enduring fears over the result of the Deepwater crisis, leaves current earnings projections in jeopardy of massive downgrades. If  realised, the oil leviathan’s shares could be set for a rapid slide.

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> Royston does not own shares in BP.