Cheap Pickings in Energy

 | May 02, 2013 | 7:00 AM EDT
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The start of May trading got off to a rocky start Wednesday as the indices ended near session lows and lost just under 1% across the board. One theme that remains prevalent is the lack of revenue growth in the earnings reports that are deluging the market right now. Overall sales results are down slightly from a year earlier, and the reports are on pace to put in only the second negative quarter here, on average, since 2009.

One sector that seems like a perennial disappointer this quarter has been consumer staples. Unilever (UL), Proctor & Gamble (PG) and Clorox (CLX) have missed on revenue expectations and offered punk guidance. P&G and Clorox also seem to have taken decent currency hits within their reports for the quarter. I am avoiding the sector, especially given its large run-up over the first four months of the year. It seems a bit rich to pay 15x to 18x forward earnings for a sector that appears to be growing sales by 1% to 2% annually.

But, during dips like the one we saw Wednesday, one area where I am adding on dips is in the energy space. I like the long-term prospects of the sector; the industry has underperformed the overall market; this year and valuations are reasonable. So following are a couple of plays to which I added small positions Wednesday. Both stocks have fallen sharply off recent highs, but I believe investors who slowly build a position in these cheap energy shares will be rewarded over the medium and long term.

Rosetta Resources (ROSE): The stock has dropped from its recent high of just under $55 to its current price of just above $41, and a good portion of the drop was due to the need to raise debt and equity in order to pay for a recently inked acquisition from Comstock Resources (CRK). This acquisition will be beneficial over the long term as it diversifies the company. That's because the new acreage -- about 53,000 net acres -- is in the Permian Basin, whereas Rosetta had previously been primarily an Eagle Ford play. With this buy, the company has picked up more than 3,000 barrels of oil equivalent per day (BOE/D) and good drilling locations at a very reasonable price.

Analysts expect revenue growth of more than 40% for all of 2013 and near 30% next year. But, even despite the company's rapid production and sales growth, the stock sells at just over 8x projected 2014 earnings. In addition, Rosetta has tripled proved reserves since 2009. Miller Tabak just upgraded the stock, and Credit Suisse also recently reiterated an "Outperform" rating on Rosetta with a $62 price target.

Marathon Petroleum (MPC) -- The stock has dropped some $18 a share to $73 over the last month or so. Some of this is due to the general recent weakness in the overall refinery sector. In addition, even though Marathon grew earnings at more than 20% vs. last year and beat revenue targets in its last earnings report, investors chose to focus on falling refining margins and some cost concerns. The reaction was overdone, in my opinion.

Marathon Petroleum sells for less than 7x this year's expected earnings and has a dividend yield of 1.7%, and consensus earnings estimates for both 2013 and 2014 have risen nicely over the last three months. The stock is too cheap: It trades at just over 5x operating cash flow -- and, for its price-to-earnings ratio relative to growth, the stock has a five-year projected rate of 0.58. That's substantially below the generally accepted threshold of 1, and makes it a bargain in terms of how much an investor is paying for the company's growth.

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