In mid-2022, Diamondback Energy (FANG) looked promising due to expectations of rising crude oil prices and a decline in US reserves. Since then, FANG has delivered a solid return of about 80%. However, recent oil price declines have raised concerns.
Diamondback’s main income driver is crude oil, accounting for 80-90% of its sales. With low production costs and a focus on the Permian Basin, the company has seen significant profits and cash flows. However, Diamondback is shifting away from exploration and development, focusing on paying dividends and reducing debt.
Despite its strong financial performance, Diamondback’s forward valuation is elevated compared to other E&Ps. This may not be sustainable if oil prices decline or if reserves are depleted.
The US oil shortage is expected to grow by 2026 due to low storage levels, stable demand, and limited production growth. While OPEC+ and the US government may take measures to support prices, the potential upside for oil remains high. However, US oil output is unlikely to be sustained without increased capital investment, which most E&Ps are avoiding.
Diamondback’s recent $26B acquisition of Endeavor could increase its output by around 76%. However, there is a risk that the deal may not be approved due to antitrust concerns.
Overall, the author believes FANG may be a decent investment, but they downgrade their outlook to neutral due to valuation concerns. They recommend buying FANG only if it falls below $170 and suggest that direct oil futures ETFs like USO may be a better option. Oil is expected to rise due to underinvestment and potential supply disruptions, but a potential recession could impact oil prices.
