World-beating Indian energy stocks' rally has fuel for more gains

By Chiranjivi Chakraborty
 

A bull run in India’s oil and gas companies may still have legs, underpinned by surging domestic demand and expectations of higher dividend payouts.
 

The Nifty Energy Index, a local benchmark for the industry, has risen 31 per cent this year, on course for a nine-year winning streak. In the period, a Bloomberg gauge of the world’s 124 mid- to large-sized energy firms has gained 4.7 per cent, with half of its top 10 performers being traditional energy firms from India.

The sector, dominated by India’s state-owned companies, has been an investor darling due to the country’s rapidly growing energy consumption, with the South Asian nation projected to be the leading driver of global demand through 2030. The optimism also stems from policy incentives to boost domestic oil and gas production, as well as increased cash payouts to shareholders.

“In a market where earnings growth visibility is highly valued, and dividends are scarce, Indian energy companies stand out by offering attractive dividend yields,” said Vikas Pershad, portfolio manager at M&G Investments. “We maintain broad exposure to this sector and remain open to increasing our allocation to these companies.”
 

Major producer Oil India Ltd. is the industry’s top performing stock this year with a gain of 184 per cent. The company, along with Oil & Natural Gas Corp., has more earnings upside after India announced earlier this month that natural gas produced from new wells will enjoy a 20 per cent price premium, according to JM Financial.

Meanwhile, refiners are expected to benefit from improved margins in the next two quarters, while an ongoing building blitz to expand industry capacity will likely bring rewards in the long run.

“A combination of higher gross refining margins, range-bound crude, and stable fuel prices implies that the oil marketing companies’ integrated margins should improve sharply over 2Q-3Q,” Saurabh Handa, analyst at Citigroup Inc., wrote in a recent note.

The sector’s higher dividends are another attraction. The Nifty Energy Index’s projected 12-month dividend yield is 2.1 per cent, compared with 1.2 per cent for the benchmark Nifty 50, data compiled by Bloomberg show. 

To be sure, India’s heavy dependence on crude oil and natural gas imports also exposes its refiners to global price swings. In addition, the country’s efforts to accelerate a shift toward clean energy also bode ill for traditional energy firms. 

Still, foreign investors, who have turned less keen on India’s bubbly stock market this year, returned as net buyers of local energy firms in July after five straight months of selling, according to data from National Securities Depository Ltd. 

“We expect outperformance against both global peers and underlying commodities owing to hardware upgrades, free cash flow and higher-quality returns,” said Mayank Maheshwari, analyst at Morgan Stanley. “Early stages of re-rating were triggered by pricing power. The next stage should be driven by improved return quality and dividend surprises.”