Why You Should Buy These 3 Nat Gas Producers

David is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Unconventional resources are said to make up 50% of North American production over the next decade. With natural gas priced at a fraction of the cost per barrel of oil, upside is high from a transition towards shale gas. Both the Chinese government and the Democratic White House have endorsed shale gas opportunities, which makes it increasingly inevitable that it will come to replace King Coal when the demand is realized. Below, I review 3 natural gas stocks to consider buying.

Buy Cabot Oil & Gas (NYSE: COG), Diversify with Line Energy (NASDAQ: LINE)

Among natural gas producers, Cabot provides one of the most under-appreciated growth stories. Strong third quarter performance and a positive outlook sent shares soaring nearly 10%. Natural gas production hit 62.7 Bcf, which represented a 31% y-o-y improvement. Going forward, I am optimistic about the scheduled production of 30 Marcellus wells next quarter. Moreover, with a debt-to-equity ratio of 0.5x, the company has a strong financial balance sheet.

Management has guided for above average growth into 2013. Production then is expected to rise as much as 50% while liquids is expected to rise as much as 70% over the last part of this year. Analysts forecast the company to grow EPS by 22.8% annually over the next 5 years. This is a dramatic reversal from the past 5 and has already driven tremendous value creation. Shares have risen 66.6% from the 52-week low and are now around the 52-week high.

If you are fearful that Cabot has hit its high, a good side bet is Linn Energy. The stock has fallen 16.9% from its fairly recent 52-week high. There are several variables that further make Linn an attractive investment: (1) the 6.8% dividend yield, (2) ~25% less volatility than the broader market, (3) and a a "buy" rating on the Street.

Analysts forecast 13.6% annual EPS growth over the next 5 years. Combined with the income support, this makes the risk/reward highly compelling. Results have already been better-than-expected with losses being relatively limited.

A Pitch For EOG Resources (NYSE: EOG)

Although EOG trades is fairly expensive at a respective 26.8x and 18.8x past and forward earnings, analysts still rate the stock a "buy". In my view, the optimism is justified for several reasons. Perhaps most importantly, oil-rich reservoirs in Texas's Eagle Ford should help drive strong returns. In the second quarter, total crude and condensate production picked up 52% y-o-y while liquids picked up 49% y-o-y. Gross margins have also improved to a stellar 89%.

Furthermore, the expansion of the Wisconsin frac sand system and cost savings of $0.5 million per well at Eagle Ford should further improve profitability. While NGL have been curtailed, the business outlook going forward is strong. Drilling will shift to the west in Eagle Ford while the number of rigs being drilled will decline to improve efficiency. Management is aiming to spend 5% on dry gas drilling in 2013 and to sell upwards of $1.3 billion in properties. Already, there has been $1.2 billion in sales. Given that the company is only worth $32 billion, there is thus a potential for strong outperformance through reinvestments in higher-growth plays.


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