One of the biggest beneficiaries of the pound’s fall in the wake of Brexit has been oil stocks. That’s because, like most commodities, oil is priced in dollars. London-listed oil stocks therefore have large dollar-based incomes that would benefit UK investors as they translate their foreign currency earnings back into sterling.
Shares in BP (LSE: BP) have benefitted massively from the recent fall in the pound, with shares up 20% since the EU referendum on 23 June.
Just like its earnings, BP’s dividends are also declared in dollars, which means its dividends would also benefit from sterling’s recent fall. The improved sterling value of BP’s dividends mean UK investors would effectively get a 12% dividend rise, simply because of the fall in the value of the pound. Although this is a meaningful benefit for UK investors, sterling’s weakness may not persist.
In addition, the pound’s strength also pales in significance when compared to the fall in oil prices. Weaker sterling could add around 12% to the oil major’s 2016 profits, but that still forecasts at less than half of its 2014 levels.
What’s more, BP’s dividends aren’t fully covered by earnings and a dividend cut remains a very real possibility. BP’s dividend futures, which are traded on Eurex, are currently pricing-in an 18% cut in its dividend for 2017.
UK North Sea oil producers also have an additional benefit from weaker sterling: that is, improved competitiveness. Because a significant share of costs, including wages and a good proportion of equipment and services are paid in local currencies, UK North Sea producers have become relatively more competitive than their global peers.
The oil majors, including BP and Shell, have some big North Sea wells, but overall production from the UK accounts for a very small proportion of their total revenues. Instead, smaller producers, such as Premier Oil (LSE: PMO) and Enquest (LSE: ENQ), which have the bulk of their operations in the UK, stand to benefit more greatly from the improved cost competitiveness of UK North Sea.
Premier Oil is in a particularly good place to benefit from weaker sterling following its recent acquisition of Eon’s North Sea assets back in April this year. But even before this recent deal, both producers generated a majority of revenues from the UK North Sea.
However, a weak pound may be too little too late for these oil producers. Both are quite heavily indebted and what they really need is a substantial rebound in oil prices. Although these companies earn most of their income in dollars, their debt is in the US currency too. So while the weaker pound does help in terms of competitiveness, it doesn’t have an immediate benefit for debt as well.
Neither producer is expected to report a profit for the next two years, which makes it difficult to see whether their stocks are worth buying. The market seems optimistic though. Shares in Premier Oil are up 40% since the start of the year, while Enquest’s shares have gained 61% over the same period.
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Jack Tang has no position in any shares mentioned. The Motley Fool UK has recommended BP. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.