Offshore gains in drilling services

"Our Forecasts Focus List contains only two energy stocks, both of which are in the oil services sector: Oceaneering International (NYSE: OII) and Transocean (NYSE: RIG)," says blue chip advisor Richard Moroney.

The editor of Dow Theory Forecasts says, "While stocks in this group tend to move with oil prices in the near term, their profits depend more on exploration spending than on commodity prices."

"Concerns about slowing demand for crude oil and refined products both in the U.S. and overseas have many investors worried. But investors in the equipment and services group should not panic.

"Most producers continue to spend aggressively. And U.S. crude-oil inventories remain well below the average for this time of year, with fewer than 20 days of supply in storage. 

"Demand for offshore-drilling services remains strong, giving Transocean excellent growth potential. Consensus estimates project per-share profi ts will rise 69% in 2008 and 15% in 2009. Transocean, the world’s largest offshore drilling contractor, operates in every major drilling region. 

"A combination of tight global rig supplies and the ongoing discovery of new offshore reserves have driven rig lease rates higher and kept Transocean’s fleet busy. The company’s largest, most expensive rigs are 95% sold out for 2009, and the backlog is growing.

"Oceaneering International has fallen 28% since the end of June, reflecting a drop in petroleum prices and somewhat disappointing guidance for the second half of 2008. The pullback represents a buying opportunity, as the stock seems cheap considering Oceaneering’s profit outlook. 

"Oceaneering makes its money by selling equipment and providing services to drillers, a business that should remain lucrative as long as drilling demand remains strong. Exploration activity is likely to remain robust even if per-barrel oil prices fall to the $80 to $100 range.

"Given the large number of offshore wells now being drilled (300-plus in 2008), with even more to come, demand for Oceaneering’s products should pick up.

"In addition, today’s deeper wells will require longer umbilicals, the tubes used to pump oil. Robust demand for remotely operated vehicles (ROVs) is driving rental rates up. Oceaneering’s 214 vessels represent the world’s largest ROV fleet.

"Company guidance looks conservative, and we expect Oceaneering to exceed Wall Street expectations over the next year. In the wake of the recent sell-off, the shares trade at a modest 14 times estimated year-ahead earnings.

"Since Oceaneering’s profits and cash flows are not directly affected by changes in oil prices, we expect the shares to recover, rising substantially over the next year on the strength of robust operating results."