Petrobras: Don’t Overstate The Lula Risk (NYSE:PBR)

Petrobras: Fears Returned As Lula Intervenes

Petróleo Brasileiro S.A. – Petrobras (NYSE:PBR) investors have endured a series of significant market volatility as Brazil’s leading integrated oil company underwent top management changes. As a reminder, ex-CEO Jean Paul Prates and his CFO were dismissed after Petrobras’s Q1 earnings release.

Consequently, PBR fell into a bear market after topping in early May 2024. Investors are justified in feeling concerned about government interference by the Lula administration, even as new CEO Magda Chambriard took the helm. Chambriard had led “Brazil’s oil and gas regulator ANP,” and is reportedly allied with President Lula’s oil and gas initiatives in Brazil’s energy sector.

The market likely did not anticipate the recent dismissal, as Prates was said to be doing well. However, there were also concerns that Lula was “dissatisfied with the progress of Petrobras’ $102 billion five-year strategic plan under Prates.” Given these challenges, investors are likely to adjust to potentially higher margin dilution risks. These include investments in refinery and natural gas developments, which the Lula administration has assessed “as critical for boosting Brazil’s economic growth.”

Petrobras: New CEO Commits To “Good Governance”

Despite that, PBR management and Lula have also tried calming PBR investors’ nerves. Chambriard underscored Petrobras’s commitment to “deliver strong financial results and uphold good governance practices.” In addition, Lula highlighted the government’s “commitment to ensuring Petrobras’s profitability.” However, I assess PBR investors are likely not convinced yet, given the significant changes in the company since Lula assumed Brazil’s presidency.

Moreover, there are increasing concerns over Brazil’s fight against inflation. The recent pause in rate cuts by Brazil’s central bank underscores the challenges undermining Lula’s bid to continue spending. As a result, Lula’s propensity to interfere in the central bank’s policymaking might be construed negatively by the market. Moreover, Lula is expected to nominate a new central bank governor in the near term, which could keep the market on its toes. Therefore, I assess that the uncertainties in Brazil’s macroeconomic backdrop could hamper investor confidence in PBR in the near term.

PBR is Cheap. The Market Isn’t Dumb

Notwithstanding the highlighted concerns, Petrobras is still highly profitable (“A+” profitability grade). In addition, the market isn’t dumb, as seen with PBR’s “A+” valuation grade. PBR’s forward adjusted P/E multiple of 3.9x is more than 60% below its sector median. Therefore, I assess that the market has already reflected significant uncertainties in PBR’s valuation.

However, there are concerns over whether Petrobras could effectively improve its highly profitable upstream opportunities while navigating potentially increased refinery investments. In addition, PBR is still vulnerable to underlying volatility in Brent crude (CO1:COM), even as it needs to deal with the pressure of higher international price fluctuations as PBR aims for “stability in domestic fuel prices.”

Therefore, investors are likely increasingly worried about whether Petrobras could be distracted from investing in more profitable upstream growth prospects. With the Lula administration encroaching further into PBR’s leadership, the market is right to reflect higher execution risks.

However, is the de-rating in PBR sufficient to attract dip-buyers from returning? Furthermore, PBR’s forward dividend yield of more than 12% should provide substantial valuation support against downside volatility.

Is PBR Stock A Buy, Sell, Or Hold?

PBR’s price action suggests the market’s pessimism could have been overstated. As seen above, I observed robust support above PBR’s $13 level.

That level also attracted dip-buying support in December 2023 and March 2024, suggesting it’s a critical level for investors to monitor closely.

In addition, I assessed a potential bottoming with a bullish reversal price action last week.

While the resistance near PBR’s $17 level led to a top in May 2024, investors have not given up on PBR. As long as PBR’s $13 support zone is supported robustly, PBR’s uptrend bias is expected to remain intact, providing more confidence for investors to add more shares.

Rating: Maintain Buy.

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