Stock Picks: ONGC, Oil India among top picks for Motilal Oswal in upstream sector, Indian Oil among OMCs

Upstream oil explorers Oil and Natural Gas Corporation (ONGC) and Oil India have emerged as the top stock picks for domestic brokerage firm Motilal Oswal Financial Services. Along with the two state-owned oil producers, GAIL, Reliance Industries Limited (RIL) and Indian Oil Corporation Limited (IOCL) are also among the preferred oil and gas stock picks for the brokerage.

‘’We believe that the upstream sector is entering a multi-year upcycle after eight years of underinvestment, and it continues to be our preferred sector in the oil & gas space. We recommend ONGC and Oil India from this domain. On P/OCF basis, ONGC and OINL are currently trading at their lowest level in the past eight years,'' said Motilal Oswal in its report.

ONGC, Oil India top picks over oil sales, historic valuations

Motilal Oswal expects high oil crude prices ($ 80-100/barrel) to continue for much of CY24 due to resilient demand growth amid sufficient new supply but prone to delay. ‘’We are factoring in strong oil sales realizations ($ 73/barrel after accounting for the impact of windfall tax) for ONGC/Oil India,'' said the brokerage.

Also Read: Crude below $80/barrel to support OMCs in near-term; ONGC, Oil India key beneficiaries of high prices

‘’Given the preference for upstream, ONGC and Oil India remain our top picks in the sector. This is because their ROE re-rated by 140 bp and 630 bp, respectively, in FY14-23. Despite this, their valuations are still close to or below historical levels,'' it added.

The embedded valuation optionality for ONGC through OVL (which accounts for 9-10% of its TP). Lastly, on the FY25E P/OCF metric, ONGC/ Oil India  now trade at 2.7/4.1x (the lowest level since FY14, barring FY20), according to Motilal Oswal.

Among oil explorers, Reliance Industries, where valuation has corrected 23 per cent from its peak in September'21. Reliance Jio's earnings before interest, tax, depreciation, and amortization (EBITDA) and profit after tax (PAT) are expected to clock 15 per cent and 17 per cent CAGR, while EBITDA and PAT of Reliance Retail are likely to report 30 per cent and 38 per cent CAGR, respectively, over FY23-25E. 

Motilal Oswal anticipates a potential for telecom tariff hikes in 2HFY25E and the possibility of an increase in subscriber market share, should Vodafone Idea experiences a decline.

GAIL, Mahanagar Gas among top gas utility picks

Gas prices are projected to remain moderate globally, as inventories in the US and Europe are higher than expected. Additionally, moderate spot liquified natural gas (LNG) prices are expected to have a positive effect on Gujarat Gas (which has a 35 per cent spot exposure in its sourcing mix), Petronet LNG, and GAIL's transmission business, according to the brokerage.

‘’For city gas distribution (CGD) companies, we believe that EBITDA/scm margins may have peaked and the benefits of lower gas prices may need to be passed on to the consumers,'' said Motilal Oswal. Volume growth across companies is settling down at a lower trajectory after the initial surge, driven by the pandemic and the shift towards natural gas (away from polluting fuels). 

Also Read: India's crude oil output up 1.3% to 2.5 MMT in October, imports rise after four months of declines: PPAC

‘’With EBITDA/scm margins peaking and growth slowing down, we believe valuations may continue to face challenges. GAIL and Mahanagar Gas are our preferred picks in the gas utility space,'' said the brokerage.

‘’In the gas utility space, we are positive on GAIL (due to its rising transmission volumes and the commencement of new projects) and MAHGL (its FY24E P/E of 8.6x is at a substantial discount to IGL),'' it added.

Indian Oil Corp top pick among OMCs

The refining margin of oil marketing companies (OMCs) can continue to remain strong, aided by a tight-demand supply situation and Russian crude discounts. Indian Oil, Bharat Petroleum Corporation Limited (BPCL), and Hindustan Petroleum Corporation Limited (HPCL) are three state-owned OMCs in India.

However, the brokerage sees a potential for a setback on the marketing margin side due to retail price cuts for petrol and diesel.

‘’Price cuts for petrol and diesel (higher than ₹2/liter) remain a key risk to FY25E earnings for OMCs, and IOCL is our only recommended BUY among OMCs,'' said Motilal Oswal. 

Among OMCs, Indian Oil offers good exposure to strong refining margins coupled with a 25 per cent growth in refining capacity over the next few years, according to the brokerage.