Hang onto your hats, the Santos Ltd (ASX:STO) share price is going ballistic!
Shares in the oil and gas producer have jumped 37% since bottoming out in July, so let's dig into what exactly is driving the lift.
Could it be that Santos has finally turned a corner?
There are two key contributors I see driving the current rise:
1. The price of oil has been tearing it up
The rocketing oil price has obviously been a key contributor to the lift in share price over the last four months.
The strong correlation between the oil price and Santos' share price is a reflection of the way the market views Santos' exposure to oil-linked LNG pricing.
Fellow major LNG producers Woodside Petroleum Limited (ASX:WPL) and Oil Search Limited (ASX:OSH) historically have tied more of their production to long-term, contracted pricing and so have lower volatility against the oil price.
Can oil keep rising? I don't know. The low marginal cost of shale production suggests to me that the oil price could be suppressed below $65 over the medium term.
In the short term there is speculation that oil producing nations in OPEC will consider an extension to the reduced production through into 2018 which could support higher prices.
2. Santos' worst days could be behind it
Not only did Santos announce a 'cashflow break even' hurdle of US$33 per barrel in its recent third quarter update, but the company also reduced net debt and upgraded production guidance for the full 2017 financial year.
I have been sceptical of Santos over the last few years.
Specifically, I think the company gambled too aggressively on using debt to fund the GLNG joint venture project. The company was later required to raise billions and billions of dollars from investors to reduce the debt and shore up its balance sheet as earnings plummeted.
Today net debt looks far more manageable and rising cash flows should allow the company to bring debt down further still.
Looking at the company today I certainly think Santos has turned a corner. Its current market price doesn't strike me as a screaming bargain, but if you are willing to gamble on the continued rise of oil prices today's price could be attractive.
