By Jonnelle Marte
If the U.S. cuts its reliance on Middle East oil in half, analysts say patient investors who own U.S. energy stocks may be able to power their portfolios for years to come.
By 2020, nearly half of American’s crude oil be produced domestically thanks in part to greater use of techniques like hydraulic fracturing, the Wall Street Journal reported. That, combined with more efficient car engines and a greater supply of renewable fuel, will vastly diminish the need for Middle Eastern oil, energy analysts say. Such improved domestic production could enrich the equipment manufacturers and oil refiners. “From a fundamental perspective, we like where the industry is at the moment,” says Stewart Glickman, an equity analyst for S&P Capital IQ. “But you have to have an iron stomach for energy investing.”
Indeed, pros say betting on oil and energy producers should be a long-term play, with many firms’ fortunes tied to European debt crisis and the slow U.S. recovery. Large integrated oil companies like Exxon Mobil and Chevron, which pay dividends and have a wider reach than more niche companies, should be less volatile than the overall sector. Such companies were down 6% this year through June 22, compared to an 8.5% loss for the energy sector as a whole and a 6% gain for the S&P 500-stock index. Oil refiners like Apache and companies that produce equipment used for oil rigs, like National Oilwell Varco, should also see revenue increase as oil production in the U.S. increases, analysts say.
The recent drop in oil prices and the selloff in energy stocks has left many shares cheap. “They represent some of the most compelling valuations in the market,” says Matt Kovalcik, a financial adviser in Upper Arlington, Ohio who recently bought more shares of Chevron. He recommends investors consider buying master limited partnership Kinder Morgan (KMI), which trades on the New York Stock Exchange.
Energy bears point out that U.S. officials have spoken of ending reliance on Middle East oil for decade. In fact, consumption of foreign oil doubled between the time Richard Nixon was in office to when George W. Bush was president, says Glickman. So the country may not be able to wean itself quite as soon as analysts forecast. Advisers say investors should expect more volatility in energy shares than other types of stocks.
There are also ways to play the sector without buying shares of oil and energy stocks directly. Investors who prefer index funds might consider the $6 billion Energy Select Sector SPDR fund (XLE), which tracks the S&P 500 energy sector, says Todd Rosenbluth, fund analyst for S&P Capital IQ. As of the end of May, integrated oil companies Exxon and Chevron made up 19% and 15% of the portfolio respectively — exposure that should make the fund less volatile than some of its actively managed counterparts, he says. The fund charges 0.18%, or $18 for every $10,000 invested and has lost 11% over the last year, compared to a 6% gain by the S&P 500.
Investors who want broader exposure can consider actively managed energy funds, which may allocate more money to refiners or equipment companies, says Rosenbluth. For instance, the $605 million Fidelity Advisor Energy fund (FANAX) invests 5% in equipment provider National Oilwell Varco — more than the S&P Energy sector index — but only 6% in Exxon Mobil. The fund charges 1.16% and is down 18% over the last year.
And the $470 million BlackRock Natural Resources Investor fund (MDGRX) allocates between 3% and 4% each to Chevron and Exxon but also invests more heavily in National Oilwell Varco and natural gas producer Apache (APA). The fund charges 1.06% and is down 20% over the past year. While the funds’ reduced allocation to larger names will make their performance more volatile, their greater exposure to other parts of the industry can help them outperform the index if the energy sector takes off, says Rosenbluth.