Description: David Yepez, Investment Analyst/Portfolio Manager discusses how energy stocks may be the hidden gems of today's market.

Reflections on Investing in the Energy Industry

By David Yepez, Investment Analyst/Portfolio Manager
June 2018


It’s remarkable how quickly things change over the course of just one year. Last year, I wrote about1 the pessimistic sentiment in the energy industry and the conventional investor wisdom that oil prices couldn’t move higher. Today, however, the market is realizing electric vehicles are not going to kill energy demand just yet. In fact, countries around the world, including Venezuela and Angola, are experiencing deep supply disruptions2 and crude oil demand growth continues to be strong globally3.


John Neff, a well-known contrarian value investor, describes his process for finding hidden gems in the following quote4: “It’s not always easy to do what’s not popular, but that’s where you make your money. Buy stocks that look bad to less careful investors and hang on until their real value is recognized.”


Energy companies have been unpopular investments, underperforming the market for the greater part of the last decade5. At this point though, energy stocks very well may be the hidden gems of today’s market as they slowly start to take a leading position. Patience appears to be rewarding contrarian investors.


The supply and demand equation is getting even more interesting with crude oil inventory levels below the 5-year average6 and Iran deal sanctions having the potential to reduce supply somewhere between 200,000 to 1,000,000 barrels of crude oil per day7. Analysts and investors are now getting concerned about supply shortages and some are sounding an alarm on the risk of oil prices spiking as high as $90 or $100 per barrel. There is a viable path that could make these price ranges a reality.


Another interesting dilemma is developing in the energy patch. Large global oil companies, such as Total S.A., BP and Eni, don’t have enough exposure to the best production region of the United States – the Permian basin8 – and the majority of land in the Permian is already owned by a public or a private company. While most of the transactions in the Permian basin have been small tuck-in acquisitions, there is a better chance that mergers will ramp up in the foreseeable future. Some of the frogs that looked like they were covered in warts during the downturn may now appear princes to buyers looking for a marriage through a strategic partnership.


The price of crude oil and energy sector price movement of the past couple years remind us that behavioral finance plays a big role in investments. Seth Klarman writes9, "The economics, the valuation of the business, is not hard. The psychology -- How much do you buy? Do you buy it at this price? Do you wait for a lower price? What do you do when it looks like the world might end? Those are the harder things."


This is part of the beauty of investing in the stock market. The sky can seem cloudy and investors’ opinions can diverge significantly, creating a great opportunity for those who can keep the noise from affecting their rational analysis. Independent and clear thinking provides the potential for excess returns and wealth creation over time.



Sources:

1 smartmail.phase2online.com/t/r-87F457FCE89DBE062540EF23F30FEDED
2 reuters.com/article/us-global-oil/oil-prices-rise-on-venezuelan-supply-troubles-but-u-s-output-surges- idUSKCN1J304L
3 cnbc.com/2018/02/12/opec-hikes-its-2018-oil-supply-growth-forecast-on-a-flood-of-us-crude.html
4 gurufocus.com/news/148496/john-neff-the-lowpe-investor
5 bloomberg.com/research/sectorandindustry/sectors/sectordetail.asp?code=10
6 seekingalpha.com/article/4174852-iea-omr-global-oil-storage-falls-5-year-average
7 money.cnn.com/2018/05/08/investing/oil-prices-trump-iran-sanctions/index.html
8 bloomberg.com/news/articles/2018-04-24/permian-basin-seen-growing-to-largest-oil-patch-in-the-world
9 businessinsider.com/12-brilliant-insights-from-seth-klarman-2013-2#they-realize-investing-is-the- intersection-of-economics-in-psychology-3



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About the author

4054781971

DYepez@exencialwealth.com

Oklahoma City, Ok

Senior Investment Analyst

David Yepez joined Exencial Wealth Advisors in 2014. David is in charge of performing quantitative and qualitative analysis of companies in the S.E.L.E.C.T. portfolio. David developed a fascination... CLICK HERE TO READ MORE