In line with the broader market, the marine sector has staged a recovery in the last 2 weeks, partly boosted by a recovery in oil prices by 42% off its low of US$36.60 in Dec 08. Cosco is up 21%, Keppel Corp is up 18% and SembMarine is up 27%. While there are positive macro factors such as the potential easing of credit to fund more offshore newbuilds, we remain cautious as demand fundamentals for energy remain uncertain, and offshore exploration continues to take a wait-and-see attitude.

Sembcorp Marine (SMM) has just announced a new semisubmersible rig order from SeaDragon Offshore for US$247.3m. This news could indicate that financing for newbuilds may be starting to become more readily available. A lack of credit, and not a drop in oil demand, has been cited by SMM as the main impediment to customers placing new orders.

However, financing remains just one of the impediments that offshore yards have to overcome. Crude oil prices, as an indicator of economic demand, have remained generally weak and have range traded between US$48 and US$52 over the past fortnight. This has led to uncertainty on whether to go ahead with more ambitious deep-water projects, as the exploration and production costs for these are significantly higher.

High rig rental day-rates have also provided resistance to lower breakeven costs, in particular deep-water assets. While jack-up rates for the less harsh environment and older units for the Gulf of Mexico have fallen to its lowest since April 2008, semisubmersible rates have remained at or near their peak. The conundrum is that with rates this high, end customers are balking at these prices, while they also indicate that there is insufficient supply of deep water assets to meet demand.

We believe that rig-owners are watching oil prices very closely as a trigger on when to go ahead with newbuild projects, financing issues notwithstanding. We further believe that a break-out above US$60 per barrel of crude will be a good trigger point, as this indicates a sustainable economic recovery as well as making new offshore projects economically viable. Investors should therefore take note of this.

Keppel and SMM will key beneficiaries to a recovery in the rig market, as they have an established track record. This is an important factor when customers seek financing in a more cautious credit regime. Despite this, we maintain Keppel as a SELL, as valuations have run ahead of our SOTP fair value of $4.56. SMM remains a HOLD with fair price at $2.07. Cosco remains our least favoured stock in the sector, as its offshore credentials are not established, and it muddles through execution and cash collection issues. It remains a SELL with target price of $0.57.