Questor: as the pandemic hastens the switch to a low-carbon economy, it’s time to sell BP

One of the most burdensome aspects of being an investor is deciding what to do with underperforming holdings. No investor ever wants to sell at a loss. Not only would it be financially painful, but it would put to an end any distant hopes of an eventual recovery.

However, the prospects for one of our previously recommended stocks, BP, suggest that selling it would be a more efficient use of capital given the uncertain outlook for the oil and gas industry.

The company announced this week that it had lowered its long-term price assumptions for oil and gas over the next 30 years.

It now expects the Brent oil price to average $55 a barrel during that time, while it is assuming a price of $2.90 per million British thermal units for Henry Hub gas.

The company’s revised expectations are around 30pc lower than its previous assumptions. They will lead to non-cash impairment charges and write-offs of up to $17.5bn (£13.9bn) after tax in its forthcoming second-quarter results.

Even more worrying for investors in the company is the prospect of an increasingly rapid shift in demand from fossil fuels to renewable forms of energy.

One of the reasons cited by BP when it lowered its long-term price assumptions was the growing expectation that the coronavirus pandemic could hasten the transition towards a low-carbon economy. The firm believes that many countries will seek to “build back better” so that they have greater resilience to any similar events in future.

Questor believes that these changes will undermine any long-term growth potential for the prices of oil and gas. However, they are likely to provide opportunities within alternative assets, such as solar power and biofuels.

BP has invested in these areas, and many others, over the past decade within its “other businesses and corporate” segment.

• Sign up to our Business Briefing newsletter for a snapshot of the day's biggest business stories
• Read Questor’s rules of investment before you follow our tips

Despite this investment, the segment generated just £1.4bn in revenue in 2019, compared with £224bn in total for the broader business. This suggests that much still remains to be done as the firm seeks to wean itself off fossil fuels to rely increasingly on the energies of the future. In the meantime, a recovery in the oil and gas industry could take place.

The International Energy Agency has said that even though global demand for oil is expected to fall by 8.1 million barrels per day (mb/d) in 2020, global supply is forecast to decline by 7.2 mb/d.

In 2021, the IEA expects a sharp recovery in global oil demand, with growth of 5.7 mb/d. Meanwhile, it anticipates a much slower rise in supply of 1.7 mb/d next year.

An improving demand/supply outlook in 2021 could lead to a rising oil price. Within the same time frame, BP expects to make cost savings of $2.5bn, which it expects to contribute to a reduction in its cash breakeven point to $35 a barrel.

As part of its plans to seek a stronger financial position, the company may decide to follow the recent lead of industry rivals such as Royal Dutch Shell and reduce its dividend payments.

BP’s 10pc yield suggests that the stock market may be anticipating a dividend cut. It also indicates that the firm’s share price offers a margin of safety in case of further turbulence for the oil and gas sector.

While Questor acknowledges the potential for an oil price rise as coronavirus containment measures are eased, the long-term prospects for the energy industry suggest that BP could experience a challenging future.

Its modest exposure to alternative energy assets relative to its reliance on fossil fuels, as well as the prospect of a hastening in global trends towards a low-carbon economy, may produce increasingly difficult operating conditions for the company.

Therefore, following the stock’s 38pc rise from its March 2020 low, selling BP and reinvesting elsewhere could represent an efficient allocation of capital.

The opportunity cost of holding the stock in the hope of an eventual recovery may simply be too high given the growth opportunities available elsewhere. 

Questor says: sell

Ticker: BP

Share price at close: 321.65p

Read the latest Questor column on telegraph.co.uk every Sunday, Tuesday, Wednesday, Thursday and Friday from 6am.