Seeing some energy in energy
Comeback in global oil-and-gas majors
The global economy has rebounded from the 2020 recession, the worst in over 200 years, caused by lockdown measures governments adopted to combat the effects of the Covid-19 pandemic. The Conference Board has raised its forecast for U.S. GDP growth in the second quarter of 2021 to a remarkable 9% and to 6.6% for the whole of 2021. This is the strongest growth since the recovery from the double dip recession of the early 1980s, when former Federal Reserve Chairman Paul Volcker had raised interest rates to over 15% in 1980 to conquer inflation, which peaked at 12%. Once it became apparent that inflation was under control and interest rates began to fall, the economy and stock markets took off.
Similarly, the developed economies of North America and Western Europe have joined China and Southeast Asia in posting very strong growth from a depressed base, as the second quarter of 2020 represented the peak of the lockdowns for most economies apart from China. With the rollout of vaccination programs in the U.S., Canada, the U.K., the EU and with some delay, Japan and other Asian countries, life is returning to normal as retail and leisure activities reopen and employees begin to return to working in offices again, as opposed to Working From Home (WFH).
Back to the office
Although companies were pleasantly surprised by how productive their workforces were working remotely, the lack of personal contact and mentoring, especially for new hires, has made them anxious to bring their workers back to the office for at least part of the week. The financial giants, such as JP Morgan, Goldman Sachs, and Citigroup, have been requiring their workers to return to the office by Labour Day, and other companies are following suit.
As employees return to working from offices, city centres are beginning to come to life again, especially as social distancing rules are relaxed, allowing theatres, cinemas, and other live entertainment venues to reopen. The return of sporting events with live crowds, even if restricted in number, such as the delayed Euro 2020 football tournament, baseball, and tennis, has reinforced how much people wish to once again go out and meet and mingle with others.
Of course all of these developments are good news for sectors that suffered badly during the initial stages of the pandemic and lockdowns. These particularly include restaurants, high street bricks-and-mortar retailers that have survived so far, and landlords of city centre offices and retail centres. Business that are reliant upon consumers being willing to leave their homes and travel again, such as automakers and parts suppliers, and directly exposed travel businesses, such as hotels, airlines, and cruise lines, are all benefiting too, as air travel over the July 4 weekend in the U.S. was back above the same period in 2019. The price of car rentals has gone through the roof as reduced supply of new vehicles and cutbacks by operators have met with the rebound in demand.
Virtually all of these sectors have performed well over the last six months since vaccines were first approved and are ahead of the broader indexes, which have ironically been held back by the less impressive performance of the FAANG+ stocks, formerly the market leaders last year.
The sector that has really outperformed, however, has been the one that many have been writing obituaries for: the conventional oil and gas energy sector. Once it became apparent that vaccinations were reducing the fear of travelling, even with the difficulties of flying internationally, the price of oil began to rise. West Texas Intermediate (WTI) oil, trading at $35 a barrel as recently as November last year, has more than doubled to trade over $75 a barrel in early July, on the back of disagreements amongst Opec members. Natural gas, driven by the heatwave hitting the western half of North America, has almost doubled, to $3.80 per thousand cubic feet.
Oil and gas stocks, especially those with strong-enough balance sheets to have survived the collapse in prices last year, have been displaying very strong price movements, with U.S. majors Exxon, Chevron, and ConocoPhillips up 56%, 26%, and 56% respectively year-to-date to the beginning of July. Canadian majors, Canadian Natural Resources and Suncor are up 50% and 41%. Even the European majors, such as Royal Dutch Shell, BP, and ENI, handicapped by dividend cuts last year and the tight timetable to decarbonize their businesses by the mid-2030s, are up more than the S&P 500’s 16% year-to-date advance to July 8.
Opportunity in an unloved sector
Investors should look at these profitable and cash generating companies, which have substantially underperformed in the growth-oriented markets of the last five years. For example, the S&P Energy Index is off 19% over five years, and the iShares S&P/TSX Capped Energy Index ETF is off 26% against a double (103%) for the S&P 500 and a 45% increase for the S&P/TSX 60 Index.
Combined with attractive dividend yields, with each dollar on the price of oil adding directly to their bottom line, and the cost reductions undertaken during the crunch last year, profits should rise sharply this year and next and be reflected in dividend increases and share buybacks. While consulting their financial advisors, investors would be well advised to maintain or increase their exposure to this sector regardless of the negative sentiment towards it.
Gavin Graham is a veteran financial analyst and money manager and a specialist in international investing, with over 35 years’ experience in global investment management. He is the host of the Indepth Investing Podcast.
Notes and Disclaimer
© 2021 by Gavin Graham. This article was originally broadcast as a podcast on Indepth Investing, hosted by Gavin Graham. Used with permission.
The commentaries contained herein are provided are provided as a general source of information based on information available as of July 8, 2021, and should not be considered as investment advice or an offer or solicitations to buy and/or sell securities. Every effort has been made to ensure accuracy in these commentaries at the time of publication, however, accuracy cannot be guaranteed. Investors are expected to obtain professional investment advice.
The views expressed in this post are those of the author. Equity investments are subject to risk, including risk of loss. No guarantee of performance is made or implied. The foregoing is for general information purposes only. This information is not intended to provide specific personalized advice including, without limitation, investment, financial, legal, accounting or tax advice.