SBR - Sabine Royalty Trust Could Perform Well In 2023

2023-04-20 05:12:05 ET

Summary

• For those investing in fossil fuels, 2022 was memorable and unlikely to be repeated anytime soon, but that doesn't mean 2023 cannot be strong for oil and gas prices.
• Indeed, there are geopolitical factors favoring higher fossil fuel prices, and the Chinese economy - a large consumer of commodities in the world - is recovering well, supporting energy demand.
• Consider Sabine Royalty Trust to take advantage of a possible fossil fuel bull market in 2023, as this stock tends to grow faster than fossil fuels.
• It is better to wait for a significant drop in Sabine Royalty Trust shares before increasing a position in this US holder of royalty interests in US oil and gas properties.

Given the possibility of a strong fossil fuel market in 2023, this analysis supports a thesis suggesting Sabine Royalty Trust ( SBR ) stock as an interesting vehicle to capitalize on the favorable scenario.

In 2022, Energy Stocks Proved a Useful Hedge Against Headwinds from the US Stock Market Downturn

For those who invest in securities that track fossil fuel price movements, 2022 was memorable. Due to severe macroeconomic, social and geopolitical events, natural gas and crude oil prices reached historic highs, boosting operators' profits.

The energy crisis after a strong recovery from the Covid-19 virus pandemic and later the aftermath of the Russian invasion of Ukraine caused the price of crude oil to rise well above the average of the last 5 years of around $65 per barrel. The average price serves as a watershed between high and low prices for the barrel of crude oil.

The Trading Economics chart illustrates the performance of crude oil over the last 5 years and the average line:

The barrel of crude oil was consistently above the average price of $65 throughout 2022.

As for the Metric Million British Thermal Unit of Natural Gas [MMBtu], buoyed by the same factors, the commodity has traded well above the last 5-year moving average of ?$3.597/MMBtu for most of 2022.

The Trading Economics chart illustrates the performance of natural gas over the last 5 years and the average line:

The market valuation of listed shares of fossil fuel mining companies or securities involved in the oil and gas industry benefited immensely as earnings acted as a powerful catalyst for the share price.

Also, the rise in share prices of publicly traded energy stocks, assessed here by the Energy Select Sector SPDR® Fund (XLE), has proven particularly useful in hedging against the sharp depreciation reported by the stock market at the same time.

While the XLE [dark gray line], the benchmark for US-listed energy stocks, rose more than 55%, the S&P 500 futures (US500) fell 13% in 2022, as shown in the Investing.com chart above.

Expected Oil and Gas Prices Development in 2023

One wonders if US-listed energy stocks will continue to provide a hedge against the expected US stock market decline in 2023, as Trading Economics forecasts the US500 index to trade at $3,637.41 per share about 12 months from now, down 12% as of the date of this writing.

The same factors that propelled crude oil and natural gas to historic highs in 2022 would be needed for US-listed energy stocks to move in a bullish mode.

Given the extraordinary nature of the catalysts that impacted gas and oil in 2022, it's very difficult that we'll see the same price spikes in 2023.

However, as long as the conflict in Ukraine lingers and the world looks very turbulent due to geopolitical tensions, these are factors that could push up oil and gas prices and therefore there is a chance for another very positive year for energy stocks.

The intelligence services of the British Ministry of Defense believe that the conflict could possibly drag on for years, while the world situation is influenced by relevant geopolitical tensions between the G7 and Russia/China/North Korea.

Crude Oil could continue to trade above its historical average while Natural Gas breaks into the high valuation side of the chart.

In fact, Trading Economics analysts expect Crude Oil to rise from the current price per barrel of $79.36 traded by Crude Oil West Texas Intermediate [WTI] Futures - June 23 (CLM3) to $88.47 in ? a year. If this expected surge occurs, the price per barrel will increase by 11.5% from current levels.

Regarding natural gas, Natural Gas Futures - May 23 (NGK3) is expected to rise to $3.19 per MMBtu in one year, and while that would still be below the five-year average of ?$3.597 per MMBtu, the recovery is more than 40% from current levels.

Investors should therefore maintain positions in US-listed energy stocks, which will benefit from the expected rise in crude oil and natural gas prices.

Consider the Sabine Royalty Trust to Capitalize on a Potential Fossil Fuel Bull Market

To that end, owning a stake in the Sabine Royalty Trust could prove to be a smart move, as this U.S. holder of royalty and mineral interests in U.S. oil and gas properties is of course tied to commodity prices.

In fact, shares of the Sabine Royalty Trust seem to amplify the rise in crude oil and natural gas significantly, as a 4.5% increase in the price per barrel of crude oil and a 26% increase in the price per MMBtu of natural gas in 2022 led to a whopping 105% rise in Sabine's share price.

This is because the Sabine Royalty Trust's operations have benefited significantly from increases in the prices the Trust charged for domestic oil production [$60.52 a barrel in 2022, up 64% year-on-year] and gas production [$5.92 per 1000 Cubic Feet or Mcf, up 90% YoY].

The Sabine Royalty Trust saw its royalty income increase 106.5% year-on-year to $125.75 million in 2022, also thanks to the contribution of higher production of commodities from hydrocarbon properties in Florida, Louisiana, Mississippi, New Mexico, Oklahoma and Texas.

The gas production attributable to the Trust's royalty interests was more pronounced than oil: gas output was up 70.3% year-on-year to 9,634,648 mcf, while oil output rose 1.5% to 437,659 barrels.

The Trust also earned $112,492 from certain investments of cash generated from previous operations but retained ?$3.3 million to cover general and administrative expenses.

As a result, the Trust reported ? $122.7 million, or $8.42 per share, in distributable income for its unitholders in 2022, compared to ? $57.9 million, or $3.22 per unit in 2021.

This has also proven to be an excellent catalyst for the stock price so far and should continue to attract interest in the Sabine Royalty Trust as long as natural gas and crude oil remain supportive.

The annual payout, as of this writing, results in an expected dividend yield of ?11%, which is well above the S&P 500's dividend yield of 1.65% , as of this writing.

In terms of natural gas and crude oil production attributable to the Trust, this momentum is expected to continue for at least 8 to 10 years based on current production rates and currently available fossil fuel reserves.

The Sabine Royalty Trust has mineral reserves of approximately 6 million barrels of oil and 47.4 billion cubic feet of natural gas.

The Stock Valuation

The outlook for the Sabine Royalty Trust's royalty income is encouraging given the expectation of higher oil and natural gas prices and the fact that production attributable to the Trust has a long way to go.

So, shares of the Sabine Royalty Trust are poised to reach much higher levels than the current ones. But Sabine Royalty Trust's share prices develop through cycles, and at present, shares are still hovering around the top of the cycle as shown in the chart below.

The investor should initially opt for a hold rating and increase the position as soon as the share price falls significantly below the following trends.

Shares of Sabine Royalty Trust traded at $75.97 per unit as of this writing for a market cap of $1.11 billion. These stock prices are above the 50-day simple moving average of $75.18 and below, though not significantly, the 200-day simple moving average of $79.25 and the 100-day simple moving average of $77.36.

Over the past 52 weeks, the stock price has fluctuated between a floor of $54.29 and a ceiling of $91.10 and is currently trading above the $72.695 midpoint of the interval.

The 14-day relative strength indicator of 53.39, which suggests that the shares are neither overbought nor oversold, appears to be more supportive of a Hold rating than a Buy rating as there is much more room for lower stock prices to form than for higher share prices.

The Risk Involved in Investing in the Sabine Royalty Trust

The risk of holding Sabine Royalty Trust shares in the portfolio is that expectations of higher crude oil and natural gas prices may not materialize in the face of an event the market is fearing today: the economic recession. Because during a recession, i.e., a drastic decline in economic activities such as production, consumption and services, less energy from fossil fuels is required and commodity prices tend to trade lower.

Indeed, after a series of rate hikes decided by the US Federal Reserve to combat runaway inflation, there is a significant risk that the economy, which is showing signs of pausing, could enter a recessionary phase. Higher interest rates mean tighter conditions for access to credit, which is needed to fund consumption and investment activities.

In addition, inflation, which is 3 percentage points away from the 2% target, is holding back spending and prompting companies to scale back or postpone growth projects.

However, the slowing of the consumer price index [CPI] - rising at the slowest pace since May 2021 - suggests that the Fed's measures to contain inflation are having the hoped-for effects, so "the possibility of an economic soft landing is still very much alive", says Myles Udland, Head of News at Yahoo Finance in the Morning Brief of April 13, 2023.

About the outlook for crude oil, the latest report from the Energy Information Administration [EIA], which showed US crude inventories falling to 4.581 million barrels last week, "offers a somewhat optimistic outlook for near-term demand," says Trading Economics.

In addition, the Chinese economy performed very strongly in the first quarter of 2023, which gave a strong boost to the demand as the Asian country is the second-largest consumer of oil in the world. This aspect coupled with OPEC+ reducing the supply of barrels in the market is creating upward pressure on oil prices.

As for the outlook for natural gas, despite ample inventories, Europe still needs support from US exports of LNG to achieve energy independence from the Russian commodity, and this could help the commodity fetch higher prices.

Conclusion

2022 was a memorable year for energy investors as fossil fuels approached or reached an all-time high. Another great year for energy securities like 2022 is unlikely in 2023, but this doesn't mean that oil and gas can't have another bull market this year given all the geopolitical factors and the recovery of the Chinese economy that could favor such a scenario.

It would be wise to have positions in securities that track fossil fuel price movements, and investors should consider shares in the Sabine Royalty Trust as the stock tends to grow faster than commodity gains.

But before adding to their position, they should wait for the shares to pull back as such to create more interesting entry points and so have a higher likelihood to take advantage of what could be a benign fossil fuel outlook.

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