Undervalued natural gas stocks poised for double-digit rally

A new raw materials cycle is approaching for energy stocks; leading the way in this momentum indicator is the SPDR Fund Energy Select Sector NYSEARCA: XLE. The Exchange Traded Fund (ETF) outperformed the broader S&P 500 index by 2% last quarter. While there’s not much to talk about, this performance gap could show the start of a new trend that could last much longer.

Oil prices broke out – and held comfortably – above the $79 per barrel ceiling. Now it is exceeding the threshold of 83 dollars a barrel, according to analysts’ forecasts The Goldman Sachs Group Inc. NYSE:GS it could come true. The investment bank believes oil prices could reach $100 in 2024.

However, natural gas prices, which tend to follow oil prices, are now at four-year lows. This wide gap is at odds with historical trends, and a recovery in natural gas prices could make stocks similar Natural Gas Utilities Group Inc. New York Stock Exchange: NGS reach new highs. Wall Street institutions see the opportunity, which starts here.

Once in a cycle

Now that the Federal Reserve (the Fed) is considering cutting interest rates this year, money is preparing to rotate. As interest rates could be detrimental to the dollar index, commodities such as gold and oil have begun and amplified their rallies.

Additionally, a weaker dollar could make American exports more attractive to foreign buyers, such as European nations and even Japan, as their currencies would become stronger against the dollar. Aside from being basic economic theory, there is actually solid evidence behind this trend.

In its report on the macroeconomic outlook for 2024, Goldman Sachs also mentions the expectation of a recovery in the manufacturing sector in the United States. Export orders rose 6% in February’s ISM manufacturing PMI index, the biggest expansionary reading.

Natural gas is used as a feedstock (raw material) in the production of products such as plastics and chemicals. The manufacturing industry as a whole will have to ramp up production to meet these export orders, making natural gas trading a reality rather than a thesis.

Natural gas services: the replacement of the moment

Being a $242 million company has its advantages. Smaller companies are often outside the reach – and purchasing power – of Wall Street’s major funds and banks, where the retail investor can gain an advantage.

Not only that, PGIM quants believe the “momentum trade” is now overbought in large-cap stocks, making small-cap stocks the only place to squeeze out further momentum in this cycle.

This thesis is in play for Natural Gas Services stock, as Barclays New York Stock Exchange: BCS has increased its position in the stock by 745% over the last quarter. As mentioned above, the bank cannot take a significant stake in the stock as this would create unnecessary controls. However, a $360,000 investment in the company can be a vote of confidence.

Northern Trust Co. NASDAQ:NTRS and the Royal Bank of Canada NYSE:RY are other names that are buying the shares. Northern came in with an investment of $470,000, while Royal Bank saw fit to have an equity exposure of $150,000.

The rest of the market lags behind the stock’s outlook, as the following factors have been outpaced by the sector.

Decoding the market message for natural gas utility stocks

The oil and gas sector trades at an average forward price-to-earnings (forward P/E) ratio of 14.5x, placing shares of Natural Gas Services at a 173% premium to its peers. “It has to be expensive for a reason” is a saying that applies here; the stock is “expensive” due to its future prospects.

Analysts believe its earnings per share (EPS) can grow as much as 182% over the next 12 months, significantly above the industry’s expected growth rate of 47% this year.

Natural Gas Services provides the necessary equipment for companies such as Kinder Morgan Inc. New York Stock Exchange: KMI to operate its pipelines and natural gas processing plants. This is why Natural Gas Services is trading 96% of its 52-week high, while pushing a 12-month performance of 92.4%.

Because it’s the first to get paid in anticipation of a natural gas rally (which could mean higher profits for Kinder Morgan), markets are willing to overpay today for future EPS projections for the company.

When natural gas prices peaked in 2014, the stock reached $35 per share. Now that fundamentals and favorable economic factors align to make a new ceiling a potential reality for the stock, history could repeat itself.

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