Short-seller Chanos says oil majors increasingly look like 'value traps'

NEW YORK Tue Nov 19, 2013 3:04pm EST

Jim Chanos, Founder and Managing Partner of Kynikos Associates LP speaks at the Reuters Global Investment Outlook summit at the Thomson Reuters building in New York, November 19, 2013. REUTERS/Mike Segar

Jim Chanos, Founder and Managing Partner of Kynikos Associates LP speaks at the Reuters Global Investment Outlook summit at the Thomson Reuters building in New York, November 19, 2013.

Credit: Reuters/Mike Segar

Related Topics

NEW YORK (Reuters) - Short-seller Jim Chanos said on Tuesday that shares of international oil majors like Exxon Mobil Corp increasingly look like a value trap for investors as cash flows decline and return on capital slides.

His comments at the Reuters Global Investment Outlook Summit in New York came a week after Warren Buffett disclosed a large position in Exxon, the world's largest publicly traded oil company.

Chanos said his Kynikos Associates fund was bearish on both national oil companies and the integrated majors.

"The costs of finding this stuff (oil) has gone through the roof," Chanos said. "The economics are clearly deteriorating."

"It isn't the same cash flow generating business it used to be."

Exxon Mobil and other oil producers like it continue to spend heavily not only to find new reserves but also to pay dividends and fund buyback programs, prompting concerns the companies have limited growth potential, Chanos said.

As recently as 2010, Exxon Mobil's free cash flow, a measurement of cash flow minus capital spending, eclipsed the cost of share buybacks and dividend payouts. Yet executives have been buying back stock at a breakneck pace in recent years. In 2012 the company spent $30.97 billion on dividends and buybacks, with $21.9 billion in free cash flow.

Last week, Buffett's Berkshire Hathaway Inc disclosed that it acquired 40.1 million shares in Exxon Mobil for $3.45 billion.

"He's got his reasons but unmistakably the returns are dropping," Chanos said of Buffett's bet on the oil giant. "It increasingly looks to us like a value trap."

Exxon Mobil spokesman Alan Jeffers declined to comment.

Exxon Mobil shares, as well as those of many other multinational firms, have badly lagged the S&P 500 this year despite generous buyback and dividend programs. Additionally, Exxon Mobil was late to develop U.S. shale assets, and has had to boost spending in remote and politically unstable parts of the globe to try to find oil.

It's the smaller, nimble producers in U.S. shale plays and other niches, such as Continental Resources Inc and Whiting Petroleum Corp, that have become Wall Street darlings.

Exxon Mobil's return on capital, a measurement of how well cash for growth projects is allocated, fell to 18.7 percent last year from 27 percent in 2008, according to Thomson Reuters data.

"The dropping return on capital is really ominous," Chanos said.

Chanos, who specializes in making money when stock prices decline, said he is also "very bearish on coal" and is "pretty much short" all the large leveraged U.S. coal companies, with the exception of one.

"We're even seeing slipping demand for coal in China due to pollution concerns," Chanos said. In the United States the coal companies are facing pressure since the U.S. Environmental Protection Agency is "on the case here pretty stringently."

U.S. coal producers have come under withering competition from shale-derived natural gas, regulatory pressure and slipping demand for steel, especially in China.

CAUTIOUS ON STOCKS, WARY ON EUROPE

Echoing comments by other well-known investors like Carl Icahn and Dan Fuss in recent days, Chanos said it was time for the average equity investor to be "a little more cautious," even as the stock market may continue to rise.

Chanos said that sharp rises in the share price of Sotheby's, the auction house, has historically occurred at around the same time froth in the markets peak.

"Every time we see some sort of excess in the marketplace Sotheby's" stock moves from about $10 to $50, then "collapses."

Sotheby's, currently the target of an activist campaign by Third Point's Dan Loeb, was trading at $51.96 midday Tuesday on the New York Stock Exchange.

It began the year trading around $34. The stock price "is more an indicator of what the 1 percent is doing than anything else," Chanos said.

Separately, Chanos said he is currently raising money for his fund.

"Now is a good time to do it. At this point it is prudent (for investors) to hedge off some of their market exposure. It's exactly when they don't want to do it."

Chanos, who founded Kynikos in 1985 with $16 million, won recognition on Wall Street after his prescient call on accounting fraud at Enron a decade ago.

He has been one of the most vocal China bears in recent years, and said he is also not convinced that Europe is out of the woods yet.

"There are some structural issues in Europe that I don't think are solved," he said, questioning the rush of capital into distressed assets in Southern Europe.

"If you think buying a block of apartment buildings in Spain or state-owned assets in Greece" is the same as buying property in Florida "you are completely mistaken," he said.

"The politics are completely different - people are going to find out to their surprise that they are now partners with the government in Europe."

Follow Reuters Summits on Twitter @Reuters_Summits

(For other news from Reuters Global Investment Outlook Summit, click here)

(Reporting by Katya Wachtel; Additional reporting by Jonathan Stempel and Ernest Scheyder; Editing by Jeffrey Benkoe and Phil Berlowitz)

FILED UNDER:
We welcome comments that advance the story through relevant opinion, anecdotes, links and data. If you see a comment that you believe is irrelevant or inappropriate, you can flag it to our editors by using the report abuse links. Views expressed in the comments do not represent those of Reuters. For more information on our comment policy, see http://blogs.reuters.com/fulldisclosure/2010/09/27/toward-a-more-thoughtful-conversation-on-stories/
Comments (3)
xyz2055 wrote:
You’d have to be a moron to bet against Buffett.

Nov 19, 2013 3:32pm EST  --  Report as abuse
indexinvestor wrote:
Buffet has paid around 12 times earnings which is a lot less than the current average S&P twenty times earnings – I’d be betting the canny old fox still has a good eye for value? The economics might be deteriorating but people thought that about the tobacco companies for 30 years and they kept on keeping on. Historically oil companies have been among the best long term bets for investors, outstripping the likes of Google and Apple.

Yes they are unloved for a number of very good reasons, including the environmental damage they facilitate us to do to the planet. Yes they are probably even in a declining industry; new technologies will improve efficiency and potentially we will find alternative new energy sources.

But while we are waiting for this to happen, emerging economies with their vast populations and a short supply of the black sticky stuff will guarantee both demand and price stay reasonably strong.

Some people think the oil price will soar, Buffet probably doesn’t know what the oil price will do, if it does go up that’s just fruit on top. In the meantime he’s just deployed $3.5bn of cash into a company with a dividend yield of 2.64% and annual average earnings growth of 7% for the last 10 years.

The investment may bring down Buffets investment averages a bit but its a tough market out there for investors and in the long term Exxon will be another Buffet money spinner for many years to come. My money is on Buffet.

Nov 20, 2013 1:35am EST  --  Report as abuse
Did Chanos even glance at the earning report in question? All of the 2013 year-to-date earnings decline was attributable to the “downstream” (refining) part of Exxon’s business. The “upstream” (exploration and production) part of the business was pretty much exactly as profitable as last year. In fact, the U.S. portion of the upstream earnings almost doubled. So where does Chanos get off saying such nonsense as “the cost of finding (oil) is going through the roof.”? Anyone who has followed the oil industry at all knows that US oil production at current prices is very profitable, which explains how we’ve managed to add the equivalent of an Iraq to our daily oil production in only four or five years. Don’t your reporters bother to check or critique what this self-promoter says?

Nov 20, 2013 5:07pm EST  --  Report as abuse
This discussion is now closed. We welcome comments on our articles for a limited period after their publication.

California state worker Albert Jagow (L) goes over his retirement options with Calpers Retirement Program Specialist JeanAnn Kirkpatrick at the Calpers regional office in Sacramento, California October 21, 2009. Calpers, the largest U.S. public pension fund, manages retirement benefits for more than 1.6 million people, with assets comparable in value to the entire GDP of Israel. The Calpers investment portfolio had a historic drop in value, going from a peak of $250 billion in the fall of 2007 to $167 billion in March 2009, a loss of about a third during that period. It is now around $200 billion. REUTERS/Max Whittaker   (UNITED STATES) - RTXPWOZ

How to get out of debt

Financial adviser Eric Brotman offers strategies for cutting debt from student loans and elder care -- and how to avoid money woes in the first place.  Video