Are Independent Refiners Still Buys?
Shares have rallied, but valuations are still compelling as the near term remains uncertain.
2020 has taken a turn for the worse for the oil refiners. Originally well positioned to enjoy a tailwind from the implementation of IMO 2020 regulations (wider heavy crude differentials, stronger distillate margins), refiners are now slashing capacity to adapt to crashing product margins and a collapse in demand. Demand for the remainder of the year remains uncertain, with the market largely anticipating a strong summer gasoline season as U.S. travelers look to get out of the house but avoid air travel. As a result, the jet fuel market will remain weak and spill over to the distillate market as refiners blend excess jet fuel into distillate, creating excess supply.
Despite the near-term uncertainty, we think investors should get interested in refining shares for two reasons. First, while destroying near-term demand, the coronavirus should not affect long-term demand, leaving our midcycle product margin and crude differential forecast unchanged. Second, valuations are attractive and continue to discount a return to normalized conditions. While volatility in the shares probably isn’t finished, refiners are worth a look, given their valuations and low risk of near-term financial distress. On the basis of discount to our fair value estimate as well as asset-based metrics, Marathon Petroleum (MPC) stands out, followed by HollyFrontier (HFC).
Allen Good does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.
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