Oil stocks rise on prospect of free pricing of auto fuel

With the oil marketing companies (OMCs) making strong gains, the BSE oil & gas index hit a fresh 52-week high on Tuesday.

The sector is the among the best performers in the market as the index gained over 11 per cent in the last three months and is nearing its 2008 all-time high with OMCs like Bharat Petroleum Corporation (BPCL), Indian Oil Corporation (IOCL) and Hindustan Petroleum Corporation (HPCL) witnessing huge buying interest. The BSE oil & gas index hit a 52-week high of 14,215 on Tuesday and is nearing its all-time high level touched in 2008. Huge buying interest continues even as many analysts fear that the government move to take out large cash from these companies, through higher dividend, could hit their investment plans – especially for companies where large capex is required.

According to analysts, the current buying is on the back of reports that the public sector OMCs, which control over 90 per cent of the retail fuel market in the country, may be allowed daily changes in the price of automotive fuels.

“We expect OMCs to benefit from a robust refining cycle instead, driven by continued improvement in global utilisation amid firm demand and slower capacity addition. IOCL remains our top pick and preferred over BPCL and HPCL given comfort on earnings and valuation,” said Kotak Institutional Equities in its report on the energy sector.

However analysts said renewed rhetoric on the potential increase in marketing margins may take time to play out for OMCs given the rising competition from private players over the next few years amid slower volume growth. A daily change in fuel prices, if implemented, will moderate earnings volatility to begin with.

The stocks gained even as these companies are set to unveil their quarterly earnings numbers. Analysts expect that upstream companies like ONGC and Oil India to report sequentially stronger earnings on better net realization. Antique Stock Broking said, “While on average gross crude realisation improved in sync with global crude oil prices, absence of any subsidy burden implies concomitant improvement in net realisation of ONGC and Oil India.” However, OMCs are likely to report sequentially weaker earnings due to weaker growth in domestic fuel consumption and weaker refining margins and plausible inventory losses on account of unfavourable movement in crude and product prices.

“We expect IOCL to benefit from ramp-up in utilisation across all units at Paradip refinery over the next few quarters and likely slower capex in the medium term. On the other hand, we see risks to cash flows of BPCL and HPCL in the medium term from their proposed investments in upstream business and Rajasthan refinery, respectively,” Kotak Securities said.

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