Bret Jensen August 4, 2014 Comments Off

Investors took some hits this past week as the market had its worst one week decline in two years. The S&P 500 declined almost 2.7% during the week and the Dow Jones Industrial Average turned negative for 2014. The Russell 2000 took an even bigger hit and its recent underperformance against the overall market accelerated.

Some of the biggest declines I saw happen last week were among small cap exploration and production companies. Some of these declined 10% or 15% on the week, surprising given prices of oil and gas had only mild declines for the week.

I am avoiding higher beta areas of the small cap universe such as hyperbolic IPOs like GoPro (Nasdaq: GPRO) or El Pollo Loco (Nasdaq: LOCO) as well as anything based more on future promise rather than actual earnings such as social media stocks. The recent breakdown in the small cap sector could last awhile as investors confirm the market will be okay as the Federal Reserve ends its latest of a long line of easing programs in October.

However, I have no problem buying some of the smaller E&P stocks that have cratered lately; although I am doing so in an incremental way. Here are a couple of these plays that look very attractive on a longer term basis.

I have added some shares in Callon Petroleum (NYSE: CPE ) during Thursday’s huge decline in the market. The stock has drifted down some 15% just this week on no new news. Callon is a small Permian based producer with an enterprise value of around $500 million.

Like a lot of plays in the Permian, it is seeing impressive production growth and should also benefit as the region is seeing significant infrastructure build outs including new pipelines and storage facilities which help to improve margins for producers in the area.

In 2013, Callon grew production 120% year-over-year to 3,500 BOE/Day (Barrels of oil equivalent/Day) and the company has many years of robust production increases ahead of it. This growth is slated to start falling to the bottom line.  The company broke even in 2013 but is tracking towards 55 to 60 cents a share in profit this fiscal year. Earnings of 80 to 90 cents a share seem likely in 2015. Given growth, its valuation of less than 12 times projected 2015’s earnings is cheap compared to the overall market.

Abraxas Petroleum (Nasdaq: AXAS) is another energy concern that has productive acreage in the Permian, Eagle Ford, Bakken and Rockies that I identified and purchased at $2 a share in 2013. The stock reached over $6 a share recently. I booked profits on this producer earlier in the year, but now that the stock has posted a quick decline to under $5 a share it is looking like an intriguing growth play again.

The company has done a great job over the years increasing the amount of total production coming from less price volatile oil. Over 80% of current revenues and just under 70% of total production currently come from oil.

Abraxas is seeing a similar production trajectory as Callon. Earnings are tracking to more than triple year-over-year this year. Earnings are also projected to move up 50% or better in 2015 as well. After its recent decline, Abraxas is selling for less than eight times next year’s consensus earnings estimates. I will start accumulating shares this week if the decline in the small E&P space continues.

Finally, we have Emerald Oil (NYSE: EOX); a longer term holding that I have added additional shares to this week. The stock moved from approximately $8 a share to begin the week to just over $7 a share to end the week. This pull back happened despite the fact consensus earnings estimates have moved up sharply for projected 2015 earnings per share over the last month. This is a solid long term entry point to this undervalued Bakken producer.

Emerald is experiencing sharper production growth than either Callon or Abraxas. After losing money in 2013, the company should post earnings in the range of 15 to 20 cents per share this fiscal year. The consensus earnings per share for 2015 are in the 55 to 60 cents a share range currently. Finally, Emerald could make an attractive buyout candidate given its acreage is undervalued compared to its peers in the Bakken.

I don’t think there is any hurry to make big moves in small caps after their recent decline. It could be a volatile summer and I would wait for this space to start to behave better before making any major allocation decisions. However, the recent decline in some small fast growing energy producers looks actionable for investors looking to make incremental moves that should pay off over the long term as sentiment on the sector becomes more favorable.

In my new small cap service, Small Cap Gems. were taking advantage of these recent pull-backs and loading up on quality small cap growth stocks. One in particular was recently added to the portfolio and is poised to become one of the biggest players in its industry. Im targeting share price growth of at least 120%. To find out more, CLICK HERE .