Analysis: Why smart investors made money on the BP oil spill

Investors who bought BP’s stock and bonds when oil was spewing out of its well in the Gulf of Mexico a year ago made a killing in a classic example of turning panic into profit. And in this case it was probably more about smart risk-taking than contrarian luck.

If you had invested in BP at its low point on June 25 — the day British Prime Minister David Cameron suggested the company could be destroyed by the spill — you would now be looking at a return of more than 65 percent in U.S. dollar terms. It would be even greater but for a dispute threatening its $18 billion tie-up with Russia’s Rosneft.

Yields on the company’s short-term unsecured notes blew out beyond junk levels to more than 15 percent from less than 1 percent in early 2011 but are now back below 1 percent.

It is a similar story with other companies linked to the disaster. Rig owner Transocean is up 80 percent, Halliburton , which provided the cement work for the well, has soared 121 percent, while the manufacturer of the rig’s blowout preventer, Cameron, is up 64 percent.

Minority shareholders in the BP well are also higher — with Anadarko Petroleum gaining 123 percent, and Mitsui up 45 percent in dollar terms.

It is not unusual, of course, for investors who seek out stocks that have been hammered more than they deserve to jump in during a crisis like this one.

But knowing when to buy and when to leave well alone takes a strong stomach. If investors call it right they end up with a stake in a valuable brand at a ridiculously low price, but get it wrong and they are stuck in a so-called value trap — a cheap stock that is going to get a lot cheaper as the news worsens.

There were a lot of things working right in this one and what was working against investors was investor psychology,” said Glenn Tongue, a portfolio manager at T2 Partners, a hedge fund that made several large bets on BP during the crisis.

Tongue argues that buying BP’s shares as they went into free-fall was not just a roll of the dice but a calculated risk.

He said that was far different from the investors who lost their shirts by buying cheaper bank and financial stocks in the months before the financial crisis destroyed some of them.

An estimate of costs based on other spills, BP’s profitability and asset base, its importance as one of the world’s largest companies, and the chance it could hive off U.S. assets during litigation made BP a good bet, says Tongue.

A year after the spill, BP estimates its likely liability to be $42 billion, far less than the $100 billion that was wiped off its market value at the height of the crisis.

But when the panic was in full swing most people were not prepared to take the risk. BP’s shares fell more than 55 percent as the crisis worsened following the explosion on the Deepwater Horizon rig on April 20.

Talk of bankruptcy, years of litigation from local businesses and property owners, and irreversible environmental damage sent most investors scurrying for the door. But there were pickings for the hardy.

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