'Prudent' picks: Apache & Baker Hughes

by John Buckingham, editor The Prudent Speculator

The latest economic data, be it on consumer confidence, jobless claims, auto sales or manufacturing, has continued to surprise to the upside, suggesting that forecasts for solid corporate profit growth in the new year are not off the mark.

Clearly, there is still much about which we should be concerned (when are there not worries?), but we think that equities merit a greater weight in most long-term-oriented portfolios.

This is especially so as traditional asset allocation models are likely heavy on fixed income and far too many folks are seeing the glass as fully empty these days!

Meanwhile, we discriminate among potential investments primarily by their relative valuation metrics and our assessments of stock-specific risk.

We buy only those stocks we find undervalued along several lines relative to their own trading history, those of their peers or that of the market in general. Here are two such stocks in the oil sector.

Apache Corp. (APA) is one of the largest independent energy exploration and production companies in the world.

Its asset base includes conventional and unconventional resource plays throughout North America, including shallow and deepwater developments in the Gulf of Mexico, as well as oil and gas projects in Argentina, Australia, the United Kingdom and Egypt.

That last locale, where Apache maintains its largest acreage position, was a weight on the shares in 2011, given the revolution and lingering political uncertainty in the North-African nation.

Of course, Egypt had been a relative safe haven where Apache ran a profitable business for 20 years.

While Egyptian uncertainties are still high, we contend that much of the worst case  has been priced in the shares.

Furthermore, the company has been realizing some margin improvements there, driven by a favorable change in mix from natural gas toward oil.

Apache also has margin expansion potential from new development wells in the UK North Sea, and upcoming contract resets in Australia.

We believe that the geopolitical risks are muted by Apache’s large size, diversity and balance sheet strength, and we expect the company to post solid growth over the next several years.

Volatility is the name of the game for energy stocks, but we think APA is now presenting an attractive entry point.

Baker Hughes (BHI) provides a variety of oilfield services, such as directional drilling, oilfield chemicals, drill bits and electronic submersible pumping systems.

It operates in more than 90 countries, serving oil majors, exploration and production companies, and national oil companies.

Its Hughes Christensen (drill bits), Baker Oil Tools (completions), Centrilift (pumping systems), and Baker Petrolite (oilfield chemicals) divisions hold leading market share positions.

We like BHI because we believe that the attractively priced stock (EPS expected to exceed $5.50 this year) offers investors a compelling opportunity to invest in the favorable long-term secular trends in the global oilfield services space.

Investors can also capitalize on the company’s recent cost-saving and productivity enhancement efforts and the integration of pressure-pumping acquisition BJ Services.

In addition, we like BHI’s long-term prospects in Russia, Latin America and the Middle East, and note that management is targeting 15% operating margins for the international segment in the near-term.

Learn more about this financial newsletter at John Buckingham's The Prudent Speculator.