3 Beaten-Down Oil Stocks to Buy With Oil at a 3-Year High

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Oil prices have continued their rally in 2018, rising even further into the $60s. In fact, crude prices haven't been this high since December 2014. Several factors have fueled crude's rebound, including additional declines in both oil stockpiles and the rig count, as well as continued unrest in Iran, which is a top-five global oil producer.

That said, while oil is up sharply over the past few months, several top-tier oil stocks have vastly underperformed even though they've also improved their ability to operate at lower oil prices considerably, with the following three standing out.

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Because these stocks have vastly underperformed crude prices, especially over the past year when they have risen by double digits, they could have significant room to run in 2018 since they're all positioned to prosper even if oil falls back to $50 a barrel.

Built for big-time growth at $50 a barrel

Anadarko Petroleum spent much of the oil market downturn focused on driving down costs, which led it to shed lower-margin assets and replace them with more profitable ones. As a result, the company entered the year with a cash-rich balance sheet and a portfolio that could produce $4.2 billion to $4.6 billion in cash flow at $50 oil this year, which would give the company enough money to increase oil output 14%.

With Anadarko able to finance ample growth with internally generated cash flow, the company announced last fall that it would start returning some of the excess cash it built up during the downturn to investors via a $2.5 billion share buyback plan. Given how far the stock has declined in recent years, that program could retire as much as 10% of its shares outstanding. That said, with oil now well into the $60s, Anadarko could generate a lot of excess cash this year -- it noted in mid-November that it would produce more than $700 million in free cash in 2018 given where crude was at the time. With oil now even further above that level, the company is on pace to gush free cash this year, which could give it even more money to repurchase its beaten-down stock.

A vision of excellence fueled by $50 oil

Devon Energy also focused its efforts during the downturn on repositioning its portfolio to generate more cash at lower crude prices. The company sold several higher-cost assets while also strengthening its core position in the high-return STACK shale play of Oklahoma. As a result, the company expects to generate $2 billion to $2.5 billion in cash flow this year, which will give it the money to increase output from the STACK as well as the Delaware Basin by a jaw-dropping 30%.

That growth is part of Devon's 2020 Vision, which is that the company will be even more focused on returns while it builds a "fortress balance sheet." But since it anticipated that it could fuel its vision at $50 oil, it would generate more cash than it needs this year if crude stays in the $60s, which might enable it to join Anadarko in buying back its beaten-down stock.

Quickly refilling coffers

Likewise, Marathon Oil has reshuffled its portfolio in the past year, jettisoning higher-cost assets and replacing them with high-return positions in the top shale plays. Consequently, it's now on pace to increase its production by a 10% to 12% compound annual rate through 2021, which it can finance with internally generated cash flow as long as crude is in the low $50s. That's an improvement from the $55 a barrel it needed oil to average at the beginning of last year to finance its plan.

Because Marathon now only needs crude in the low $50s to fund its go-forward strategy, it could produce a mound of excess cash this year given where oil is right now. On top of that, the company had about $800 million in cash at the end of November after paying off another $1 billion in debt and should soon receive a $750 million payment to complete an asset sale from last year. That expanding cash pile gives the company the financial flexibility to pay down more debt, make acquisitions, or buy back its underperforming stock.

High upside with less downside

Devon, Anadarko, and Marathon have underperformed crude in recent years even though they have repositioned their businesses to thrive at lower oil prices. Thus, they all appear to have remarkable upside since they should generate substantial production growth and free cash flow now that crude is at a three-year high, giving them the money to buy back a meaningful number of their beaten-down shares. That said, even if oil pulls back all the way to $50 a barrel, these stocks have less downside than most rivals since that price point would still provide them with enough fuel to finance their growth plans.

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Matthew DiLallo has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.