Exploring for Summer Profits in Energy

Despite record corporate profits, a big tax cut, and falling unemployment, investors have been reluctant to bid stocks higher this quarter. There are no fundamental hints of an inbound bear market, so this may just be a manifestation of “Sell in May and Go Away,” an old stock market adage.

In the Investopedia Daily Market Commentary webinar, we have been focusing on the reasons investors should stay involved in the market this summer. Although some of the traditional market leaders such as tech, retail and industrials have been lagging, there are a few sectors and groups with concentrated growth potential if you know where to look.

Energy services and transportation stocks may have hidden value

Oil prices are up 20% since the beginning of the year, and yet average energy stock prices are up by less than half that. Normally, the leading-lagging relationship is just the opposite and oil stocks would be much higher. Much of the blame can be placed on uncertainty around energy supplies from Iran and Venezuela, but there are other issues at play that may be obscuring some of the best value in the market. 

For example, an expected 3% growth in the U.S. economy and rising industrial production will boost stock prices regardless of global uncertainty. However, large integrated oil companies like Exxon Mobil (XOM) and Chevron (CVX) aren’t as interesting as they otherwise would be because of debt burdens and sluggish responsiveness to market changes in 2017-2018.

Smaller, independent, oil exploration companies, such as Cabot Oil (COG), or Apache (APA) have been more responsive to market changes than the integrated firms, but many of them excessively hedged away much of their upside in 2017, which has led to similar underperformance compared to their larger peers. 

The problems facing the big integrated oil companies and the smaller independents have been largely avoided by the stocks we think are the most likely to outperform this summer as demand for energy rises. That would be the likes of energy services and supply companies, and transportation stocks within this sector. For example, U.S. Silica (SLCA), a supplier of fracturing sand for oil recovery, is on the rise in the second quarter as North American producers turn on more wells. Rising demand from increased production (supported by OPEC’s ongoing supply cuts) has the potential to take the stock back above its recent highs, which would complete an attractive double-bottom, bullish technical pattern. 

Railroad companies like Norfolk Southern (NSC) and Burlington Northern Santa Fe (BNSF) through the parent company, Berkshire Hathaway (BRK-A) are also very interesting as demand rises for shipping to refineries on the coasts and materials shipments back to the wells.  Warren Buffet’s company has already been mostly paid back for the acquisition of BNSF through dividends since its 2009 purchase.

The companies we have highlighted have already announced, or in our opinion, are likely to announce stock buyback programs funded by the 2017 tax cut. We believe this puts investors in a unique position to profit from the summer energy season when the major indexes seem likely to “climb the wall of worry” and once again frustrate stock naysayers.

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John Jagerson is a CFA and CMT and has worked in the capital markets and private equity for most of his career. He is an author or co-author of five books on investing, currencies, bonds, and stocks. John is one of our Investopedia Academy Instructors and he has been featured in Forbes.com, BBC Radio, Nasdaq.com, and CBS.