For most of my investing career I’ve owned shares in BP (LSE: BP) or Royal Dutch Shell (LSE: RDSB). Right now, I don’t own either, but I’m encouraged by the way both companies are performing. I’m also tempted by the dividend income that’s on offer from these shares.
Today I want to take a look at Shell and BP shares and explain which one I would buy today — and why.
Is the price right?
Shell and BP are both mature, cyclical businesses. Their profits are closely linked to oil and gas prices, which are high at the moment. Right away, that’s a potential warning for me. When cyclical stocks are enjoying bumper profits, they often look cheap.
For example, Shell shares currently trade on just eight times 2022 forecast earnings and offer a useful 3.8% dividend yield. BP trades on seven times 2022 forecast earnings and yields 4.2%.
Both valuations seem cheap at face value. But oil prices are currently at a seven-year high of around $88 per barrel. As we all know, gas prices are high too.
Experience tells me that if oil and gas prices stay high for any length of time, global supply will start to increase until demand is satisfied. If oil and gas then start falling, BP and Shell’s profits are likely to fall too.
In my view, BP and Shell are both fairly valued at the moment. I don’t think they’re cheap.
What about growth?
It’s widely expected that oil and gas demand will fall over the coming decades. BP and Shell both plan to cut production by 2030, while increasing their investments in low-carbon energy. Both companies are also beefing up their operations in areas such as retail (filling stations) and energy trading, including electricity.
I’m pretty sure that these businesses will survive the energy transition. But I don’t see much growth potential in either business for the foreseeable future. In my view, that’s why both are spending billions each year on share buybacks at the moment. By cutting the number of shares in circulation, they can slow any future decline in earnings per share.
Profits are rising at the moment due to high oil and gas prices. But I don’t see much real growth happening here.
Shell vs BP shares: my decision
In all honesty, I don’t see much to choose between BP and Shell at the moment. But there are a couple of differences.
Shell has made more progress at cutting debt than BP since energy markets turned up. As a result, Shell’s gearing is now lower than BP’s.
I’m also wary about BP’s continued exposure to Russia. I estimate that as much as 25% of its profits could come from its stake in Russian giant Rosneft this year. I’m not wild about this, given the extra risks involved in investing in Russia.
For these reasons, I’d choose to buy Shell rather than BP shares if I was investing today. But I’m not going to rush to buy anything right now — I’d rather wait for a market correction to try and secure a more attractive price.
Roland Head has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.
