A Pair Trade In E&P: Bernstein Upgrades ConocoPhillips, Downgrades Concho

The Permian basin space is becoming overcrowded, resulting in a situation where survival and growth are increasingly difficult, according to Bernstein. 

The Permian basin is a large oil-producing basin situated in the western part of Texas and the southeastern part of New Mexico, and comprises of several component basins, including the Midland and Delaware basins. 

Given the evolving scenario, Bernstein identified a pair trade in the North American oil and gas exploration sector. 

The Analyst

Analyst Bob Brackett upgraded shares of ConocoPhillips COP from Market Perform to Outperform with a $82 price target.

The analyst downgraded shares of Concho Resources Inc CXO from Outperform to Market Perform and lowered the price target from $180 to $130.

ConocoPhillips: FCF Growth, Low Permian Exposure Turn Bernstein Bullish

ConocoPhillips' global portfolio and Brent pricing will insulate it from congestion that's impacting other E&Ps, with its scope of operations acting as a natural hedge, Brackett said in a Friday note.

The company has a low exposure to the Permian, with the basin accounting for only 4-5 percent of its overall production, the analyst said. 

Better free cash flow yield relative it to E&P peers and capital discipline that helps to maintain production cost at $40/barrel are major positives, Brackett said. 

Higher prices lead to better growth, which could push ConocoPhillips' market capitalization higher, according to Bernstein.

Related Link: Energy Sector Earns An Upgrade

26% Below Consensus On Concho

Concho is exposed by roughly 15 percent on flows in 2018, with over 50 percent exposure on price, Brackett said.

Despite a forward curve showing the basis peaking in late 2018, the situation is likely to persist for the next four to six quarters, the analyst said. 

Brackett sees the RSP Permian Inc RSPP deal as a a good strategic move that benefits the companies long-term. 

"We think, on average, investors will wait and see on CXO (especially 2Q earnings results) and as such we think investors can find a better entry point into a strong equity story." 

Bernstein is 26 percent below Street estimates on 2019 cash flow per share. 

The Price Action

ConocoPhillips shares were down 0.19 percent at the time of publication Friday afternoon, while Concho Resources was down 2 percent at $127.71. 

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