It’s been a tough year for BP (LSE: BP.) investors with its shares consistently underperforming industry peers. My bullish stance on a stock I haven’t held for several years has been a costly mistake. The only bright light at the moment is the 6.5% dividend yield. But this sector-leading return reflects the heightened risks associated with holding the stock.
Energy transition
The recent woes the company’s faced can be traced back to 2020 when it took the bold move to shift away from its core hydrocarbon operations and accelerate investments into the energy transition. Its optimism on the pace of the transition quickly backfired however.
Covid, war in Europe and a cost-of-living crisis changed the narrative on hydrocarbons. Markets began to cool on renewables and energy security went right to the top of political discourse. The significantly lower costs associated with traditional forms of energy, including coal, oil and gas, won out.
This was the backdrop when the company decided to do an about face and pivot back to its core operations.
Strategy reset
The centrepiece of the strategy reset is a 20% increase in capital expenditure into its upstream oil and gas business. Of the $10bn investment, 70% is earmarked to oil and the rest to gas.
By 2030, production’s expected to hit 2.5m barrels a day, with 40% of that output coming from the US. As it turbocharges its upstream business it expects to grow cash flow by around $2bn in 2027, compared to 2024.
It’s also bearing down heavily on its underperforming downstream business, particularly in refining. It’s set a bold aim of reaching operating cash flow growth of $4bn by 2027, relative to 2024.
Gelsenkirchen, its refinery in Germany, will be sold. It’s also put in place measures to ensure no further outages at Whiting, which lowered refining availability significantly recently. Q1 results released in April pointed to it moving in the right direction, with refining availability the highest in 24 years.
Energy demand
One of the reasons why I have stuck with the stock is because demand for energy continues to grow. In my opinion it’s a fallacy to think of oil and gas as a declining industry.
Demand’s coming from multiple sources. In the US, natural gas is expected to expand 15% by 2035. One key driver is coming from artificial intelligence (AI) and data centres. Natural gas has become the favoured choice of the hyperscalers due to its abundance and a lack of progress on nuclear. The recent conversion of a former coal-powered plant to natural gas in Homer, Pennsylvania, is one such example.
Off the back of recession fears and trade wars, oil prices are hovering around $60. Should prices remain here for a protracted period, then it calls into question its ability to meet cash flow forecasts discussed above. This is because its based on a price assumption of $71 for 2025 and $73 for 2026.
Personally, I expect prices to rise this decade. Without it there will be no incentive for US shale producers to drill. If BP wasn’t such a large part of my portfolio, I’d be looking to buy. The bad news is more than baked into the share price, in my opinion
