Embattled oil minnow Afren (LSE: AFR) has sprung into life this week.
After falling to a new all-time low of 1.37p last week, this week the company’s shares have almost doubled. At one point yesterday the company’s shares had risen by 70% on the day. Volume surged with around 1.5bn Afren shares, worth more than £200m, changing hands throughout the day.
Buyers continued to push Afren’s shares higher this morning, althoughthe company’s shares seem to be coming off the boil, having fallen 6% at time of writing.
Nevertheless, even after today’s declines Afren’s shares are still up by 64% this week. The question is, what’s driving this rally?
There’s no clear reason why Afren’s shares have suddenly sprung to life this week. But there are several different factors that could be behind the rally.
For a start, Afren’s shares have been faced with unrelenting selling pressure during the past month, which has cut the group’s share price in half. Yesterday’s rally could have been driven by what’s called, in trading terms, a “dead cat bounce”.
Derived from the idea that “even a dead cat will bounce if it falls from a great height”, a dead cat bounce is a temporary recovery in a stock price after a substantial decline, caused by speculators buying.
Blocking the deal
Another theory as to why Afren’s shares suddenly took off is that investors are buying up the company’s shares to block the proposed debt-for-equity swap.
The deal announced last Friday is opposed by many of the company’s shareholders, although it’s unclear what the future holds for Afren if the swap doesn’t go ahead.
Even if the swap does go ahead, Afren’s existing shareholders will be all-but wiped out. The $300m debt for equity deal will leave existing holders with just 11% of the company.
According to a presentation on the restructuring, released by Afren earlier this week, without the deal the company will be faced with the prospect of even more debt and crippling borrowing costs.
Last minute bid?
The final theory that’s being touted by speculators is the idea that a buyer could be in last-minute talks to acquire Afren. This theory is not as unrealistic as it sounds.
While it’s true that Afren is struggling under an enormous debt load, the company is still producing oil and generating cash. At the right price, the company could be an attractive proposition for a buyer.
However, it is likely that any buyer would demand a restructuring of debt before they make an offer. Buying Afren would mean buying the company’s debt load, a prospect that’s unlikely to appeal to any buyers.
So, what should investors do following yesterday’s rally? Well, it depends on your outlook for Afren.
If you believe that Afren has a bright future after the restructuring, there’s no need to sell.
On the other hand, if you no longer trust Afren and believe that the company is heading for the rocks, it could be wise to use this rally to sell up.
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Rupert Hargreaves has no position in any shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.