More Proof That Sector Matters for Stock Gains

In the stock market, as in life, it's better to be lucky than right. One of the biggest frustrations and misunderstandings by investors is the belief that a stock moves based solely on the direct results of the individual company. In reality, a lot of stock gains are based on the sector, and Weatherford International probably proves that theory better than any large-cap stock.

Weatherford is one of the largest oilfield services firms in the world. The company has constantly struggled with accounting issues, contract overruns, and just plain bad management. The stock, though, currently sits at near two-year highs despite all the internal drama.

The major reason for the gains by Weatherford are due to a resurgence in oilfield services stocks with growing tensions fostered by Russia and expected strong revenue gains in North America with natural gas inventories plunging. In fact, Weatherford has far underperformed the sector with leaders Schlumberger and Halliburton already surging to multi-year highs not seen since the financial crisis. Even fellow laggard Baker Hughes has managed better results recently.

Constant troubles
After the third-quarter, Weatherford appeared set for a dramatic rebound after struggling through a couple of years of major accounting issues. The company expected to wrap up the problems, allowing management to focus more on operational efficiency. After a solid beat during the third-quarter, everything appeared on track, but the company came out and pre-announced a disaster of a fourth quarter.

The quarter ended up being the least profitable of 2013, while Halliburton and Schlumberger generated their most profitable quarters at year-end. No doubt, those comparative results wrapped up the reason that Weatherford has underperformed the market leaders, but it probably doesn't explain why the stock snapped back to multi-year highs already.

The only reasonable explanation is that sector matters. Weatherford is badly underperforming, but for now it's in a hot sector and will benefit. To that extent, investors should keep in mind that the stock traded around $22 back in 2011, so the current price above $17 might have plenty of runway for more gains.

For its part, Schlumberger is the global oilfield services leader with a strong international presence and a stock expected to benefit from demand around the globe. In addition, the stock trades at an attractive 14.5x forward earnings, suggesting multi-year highs might only be the start for it and the sector. Halliburton is even cheaper at only 11.7x forward earnings.

Divesting business  
If the fourth-quarter results didn't completely scare off shareholders, some hope does exist that more focus on operations will return the company to solid profits. The current focus on divesting assets is making progress with the recent announcement that it sold the pipeline segment to Baker Hughes for a total consideration of $250 million.

The sale of this business and other business units will allow the global oilfield services firm to reduce debt and improve margins by focusing on core operations. Weatherford has already announced intentions to sell the drilling fluids, wellheads, and specialty services units as well. Combined with the pipelines business already sold, the four units account for roughly $1.2 billion in annual revenue and $150 million in EBITDA.

Bottom line
Clearly, the Weatherford gains are due to a strong sector and an attractive valuation compared to peers that have already surpassed recent highs. Ultimately, investors were better off to have invested in the market leaders, but being in the right sector has helped Weatherford rally. The potential exists for an even stronger rally in the stock if it has placed the operational problems behind it, but the reality is that the sector laggard probably won't change. At only 11.7x earnings, Halliburton might lead the rally based on shrinking domestic natural gas supplies.

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Mark Holder and Stone Fox Capital clients own shares of Halliburton and Weatherford International Ltd.. The Motley Fool recommends Halliburton. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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