If you are in the camp that oil will be heading back to $40 or $50 per barrel anytime soon, I’m afraid you are sorely mistaken. After hitting new record highs earlier in the week, crude prices are still above the previous highs set last hurricane season. Surprisingly though, energy stocks mostly sit decently below their 52-week highs.
I haven’t written about energy lately, but I am still bullish on the sector and recommend investors continue to overweight the group in their portfolios. Single digits P/E multiples coupled with attractive outlooks make the stocks very attractive, especially in a market where very few stocks have worked thus far in 2006.
Energy bears will focus on the lack of supply constraints currently in both the crude oil and natural gas markets. However, merely focusing on what the situation is right now misses the point. Barring a global recession, energy demand will continue to rise and supply will have a hard time expanding at a rate that keeps pace. Surely there will be periods of both low and high supplies, based on weather patterns and other factors, but investors should focus on the big picture. As long as annual oil demand continues to rise, and few new wells are discovered across the globe, the bull market for energy will continue.
As far as where to look for investment opportunities, I continue to focus on the producers and sellers of the actual commodity, as opposed to the equipment and drilling suppliers. Rig owners, for example, will profit based on day-rates, or the price of renting out their rigs. There is nothing stopping more rigs from being built, thereby reducing the prices the equipment companies can charge to lease them. And who knows what would happen to the fortunes of a company like Halliburton (HAL) after the Bush administration has left office.
Conversely, it is much more difficult to find new sources of oil. As a result, those exploration and production companies with the best assets will continue to thrive in a tight energy market. Leading E&P companies can be had for between 6 and 9 times earnings, quite a bargain if you ask me.