Will The Fall Be Painful For Ophir Energy Plc, Premier Oil PLC And Tullow Oil plc?

Ophir Energy (LSE: OPHR), Premier Oil (LSE: PMO) and Tullow Oil (LSE: TLW) are three very risky equity investments.

Although their risk profiles are different, you ought to hold them only as part of a properly diversified portfolio. Here’s why. 

The Rise: Looking For A Reliable Macro Play

These three stocks have risen a lot in the last month of trading. 

Brent crude hit a 2015 high earlier this week, when it traded above $63 per barrel. As oil prices get closer to my 2015 target of $80 per barrel for Brent, the obvious question is whether higher oil prices justify such a sharp rally in the prices of these three shares — the same question applies to many other oil stocks, of course. 

Premier Oil isn’t in a bad shape, and its shares are not expensive, based on fundamentals and most financial metrics — so the answer may well be yes, but only for opportunistic traders. 

Things are a bit different for Ophir and Tullow Oil. 

Premier Oil: On Its Way Up?

Since mid-March, the stock has risen 27%, and is up 6.2% year to date. Its one- and two-year performances read -43% and -50%, respectively. You may be entitled to think that Premier Oil has bottomed out, but consider that its $3.6bn enterprise value more than doubles its market cap, which signals high levels of debt on the balance sheet.

A shaky capital structure is also reflected in Premier Oil’s relative valuation, based on sales and adjusted operating cash flow multiples at 3x and 5x, respectively. In 2016, revenue will likely be lower than in 2012, and it’s hard to say why you should pay more than 20x forward earnings to buy the stock now — although, in truth, that’s the multiple Premier Oil could fetch if it was taken over. 

Ophir Energy & Tullow Oil

Some equity investments are just like junk bonds: Ophir Energy & Tullow Oil belong to this category. Junk doesn’t mean that they may not turn out to be good investments eventually; it simply means that they carry a huge amount of risk. 

Since mid-March, Ophir has risen 31%, and is up 13% year to date. Its one- and two-year performances read -28% and -58%, respectively. By comparison, Tullow Oil has surged 34% in the last four weeks of trading — in spite of the rally, it is down 3% for the year. Its trailing one/two-year trailing performance is about -50%. 

Ophir’s balance sheet isn’t loaded with debts, but the problem is that aggregate losses in the last three years are almost a quarter of a billion dollars, and Ophir is unlikely to be in the black for a long time, if bullish forecasts are correct; and if these forecasts are wrong, the fall could be really painful — that’s how it tends to be in these situations. Ophir needs between $300m and $500m a year in heavy investment, and that’s stuff for a bigger oil producer.

As far as Tullow Oil is concerned, its level of indebtedness is way too high, and neither its trading multiples nor its forward yield point to value right now.

There's lots of talks about the bottom of the cycle in oil prices: in truth, oil prices could easily plunge to $50 a barrel in a flash -- and then, of course, you'd record massive losses on your investment with these three names!

So, for the time being, I suggest you invest in less volatile and cyclical companies, selecting stocks that still trade well below fair value and are much more likely to reward you with aggregate capital gains north of 40% in the next 24 months.

Want to know more about high cash flows, low debts and attractive valuations?

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Alessandro Pasetti has no position in any shares mentioned. The Motley Fool UK has recommended Tullow Oil. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.