Anyone who has filled up the tank of their car this year will be aware of the rollercoaster ride that the price of oil has been on.
I published analysis earlier this year about the key role that oil plays regarding the stock market and recessions. But here, I want to talk about how energy stocks perform relative to oil, because recent trends in the oil news cycle are throwing up some interesting readings.
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The war in Ukraine, alongside a global cost-of-living crisis, has sent oil prices skyward. This is good news for companies in the sector, who have been reaping increased profits. Using the Energy Select Sector SPDR ETF as a proxy for oil stocks, shareholders have enjoyed a nice 53% rise this year.
Crude oil closes at 2022 low
Yet despite energy stocks trading up 53% from the start of the year, the price of oil has fallen back down.
In fact, oil closed yesterday at its lowest price of 2022, trading at $77.17 per barrel. This is a 40% fall from the highs of March, when it closed close to $130 per barrel. As of yesterday, the rise in price as a result of Putin’s war in Ukraine had all been forfeited.
Why has the price of oil fallen?
This may seem counterintuitive. China is reopening after strict lockdowns, which should increase demand going forward. Their November imports of oil were already up 12% from one year previously. This should, therefore, be a boon to oil prices.
So too, should the ban on Russian exports of crude oil implemented by G7 nations this week.
But the overall concern of weakening economic growth is pulling prices down, as investors fear demand will fall off worldwide. Thus far, interest rate rises have sucked liquidity out of the economy, yet the tightness is yet to be seen noticeably in the labour market, while inflation has been stubborn.
Increased warnings of impending recessions, and the Federal Reserve affirming that rates could rise longer than previously anticipated, have dampened sentiment and pulled oil prices down.
So why are energy stocks not falling?
This brings us to the next question. If the oil price has come down so drastically, why have energy stocks not followed?
The below chart shows the pattern well. The price of oil and energy stocks’ share price tracked reasonably well until the last couple of months when a significant deviation has transpired.
It shows that the simple conclusion of oil price tracking energy stocks’ performance is not always as solid as it seems. I plotted the correlation of the oil price against the sector to show this graphically below. While it has been close to 1 for a lot of the time since Russia invaded Ukraine, it has also dipped substantially – with large deviations three times during 2022 (April, September and November).
This throws a spanner in the works of short sellers looking to target oil stocks simply because the price has not fallen in line with the oil price.
The reality is that equities move based on several factors. Stewart Glickman, deputy research director at CFRA Research, told Marketwatch that he has a “buy” opinion on Exxon (XOM) and a “strong buy” opinion on Occidental Petroleum (OXY).
He is optimistic that master limited partnerships will increase pipeline capacity, especially natural gas capacity. He also says that takeaway capacity could be increased.
“Then you can liquify it, put it on a boat and send it to Europe, which is looking for anyone but Russia for gas”.
Then you can liquify it, put it on a boat and sent it to Europe, which is looking for anyone but Russia for gas
There is also the fact that energy stocks have been suppressed for a while now when looking at oil prices.
“In some ways, I think this is a bit of a catchup. Over a longer-term basis, it’s actually not so far out of whack,” Glickman says.
So, it may not be as simple as it seems. Oil prices and energy stocks may look jarringly out of whack on the surface, but there is more here than a simple 1:1 relationship.
As long as Russia’s war in Ukraine continues to rage, the energy crisis will grip Europe hard. This is even more true in the winter months, with the thermometer now dropping across the continent.
With the war ongoing, it remains a daunting proposal to bet against energy stocks, regardless of what the oil price may be showing in the short-term – especially when it has been so volatile thus far this year.