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Written by: Jan van Eck
As the year progresses, commodities look as if they could become the best performing asset class in 2018 (see Q2 2018 Investment Outlook: Commodities Seizing Their Moment ). We believe that major opportunities continue to exist – especially in energy stocks.
Back in March, our view was that with global growth kicking in and fueling demand, commodities were well positioned for a strong year and significant opportunities were emerging.
For several years now, one of our main themes has been that, beyond the macro trends, commodity companies have been undergoing a rationalization process. Since the end of 2015, supply has been constrained. Precious metals companies were the first to restructure and focus on shareholder returns and shareholder equity, followed by the base metals sector. We have, subsequently, seen good rallies in both.
We believe the time has now come for energy companies. For the last year, we have been examining how such a reform process, when applied to the U.S. energy market, has the potential to transform that industry too. Our fund managers note how energy companies, especially those in unconventional oil and gas exploration and production, are now transitioning from “investment” to “harvest” mode, with mature, cash-flow heavy business enabling dividends and share repurchases (see Natural Resource Companies Focus on Returns in 2018 ).
Energy Stocks: The Opportunity Is Now
Since the beginning of 2018, oil prices have continued to march towards $80 a barrel, but energy stocks have lagged behind. 1 Our recent research in the space shows that the returns of unconventional oil & gas equities, or exploration and production (E&P) companies, can mostly be explained by the performance of three independent variables: oil, natural gas, and the U.S. stock market. Meanwhile, similar research has shown that oil service equity returns are predominately driven by oil prices and the U.S. stock market.
The performance variance between E&P companies and the three key independent variables has recently narrowed significantly from widths not seen for nearly a decade. However, oil servicers still appear to be trading at a discount when we compare actual performance of oil servicers with their predicted performance based on oil and U.S. stock market returns. These levels are close to some of the lowest historical values since 2001, and we believe that this trade in energy stocks constitutes one of the most exciting currently available.
Performance Variance of Oil Servicers and Key Independent Variables
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Related: Why Investors Should Focus on Real Yields
1Source: Bloomberg
MVIS ® U.S. Listed Oil Services 25 Index is intended to track the overall performance of U.S.-listed companies involved in oil services to the upstream oil sector, which include oil equipment, oil services, or oil drilling.
S&P 500 ® Index consists of 500 widely held common stocks, covering four broad sectors (industrials, utilities, financial, and transportation).