Oil Stock Gains in 1H 2023

As crude oil prices cool, value remains high for select large caps 

Russia’s invasion of Ukraine in late-February 2022 sent oil prices through the roof… spiking to an interim high of $139 per barrel in early-March and sending gasoline prices to record highs across the United States.

The last time we saw something like that was in July 2008 when crude set an all-time high of $147 per barrel amid global supply worries, growing tensions over Iran, and a weak US currency.

The situation is starkly different in today’s macro environment with a strong US dollar and a highly hawkish Fed. 

With the prospects for a long, drawn out war in Ukraine — coupled with strong travel numbers amid constrained global refinery capacity — we expect crude oil prices to remain in a relatively tight $70 - $85 per barrel range over the next several months with a slight bias to the downside as slowing growth manifests in the US.

What About Oil Demand?

Although choppy, oil demand looks to be robust for 1H 2023.

COVID lockdowns in China — which have been reined in to some degree following mass protests — have somewhat cooled oil demand in that part of the world but we see that as being temporary. 

A newly-released report by OPEC maintained its forecast of world oil demand rising by 2.25 million barrels per day (bpd) in 2023 — extending a multi-year recovery from 2020’s COVID-induced slump.

Output Falls After OPEC Cut 

The latest report shows that OPEC’s production dropped in November 2022 after the wider OPEC+ alliance — which includes pariah state Russia — pledged steep output cuts to support the market amid the worsening economic outlook and weakening prices.

OPEC+ agreed to a 2 million bpd reduction in its output target, the largest since the early days of the pandemic in 2020. OPEC’s share of the cut is 1.27 million bpd.

In the report, OPEC said its output in November fell by 744,000 bpd from October to 28.83 million bpd, led by top exporter Saudi Arabia and other large producers such as Iraq. OPEC compiles the figures using secondary sources.

Based on a Reuters calculation using OPEC’s figures, the 10 OPEC members covered by the OPEC+ agreement complied with 174% of the pledged supply cuts because some members, notably Nigeria and Angola, are pumping well below their targets due to a lack of production capacity.

This is higher than the 163% compliance rate found by a Reuters survey.

How to Best Play the Oil Market in 2023

Despite oil trading ~45% below the 2022 peak of $139 per barrel, we expect select large caps with proper diversification to continue to outperform the broader market in the current oil-price environment.

ExxonMobil Corp. (NYSE: XOM) 

We particularly like some of the top dividend paying companies such as Irving, Texas-based ExxonMobil Corp. (NYSE: XOM). 

ExxonMobil is an integrated energy firm that has grown to become a leader in almost every aspect of the energy and petrochemical manufacturing sector. 

That includes both upstream (exploration and production) and downstream (manufacturing, refining, and distribution) segments as well as a chemicals segment. 

That diversification aids in softening the blow of the industry’s wild price gyrations since downstream businesses tend to benefit when oil prices are low while upstream businesses tend to prosper when they're high. 

At present, ExxonMobil’s downstream segment generates the most revenue while its upstream segment generates the most profit.

ExxonMobil also pays a strong quarterly cash dividend of $0.91 per share (~4.2% divided yield) and has increased its dividend annually for roughly four decades.

Shareholders can opt for a DRIP (Dividend Reinvestment Plan) wherein they can automatically have their cash dividends reinvested in additional, or fractional, shares of the company on the dividend payment date. 

Marathon Petroleum Corp. (NASDAQ: MPC) 

From the downstream market segment, we like Findlay, Ohio-based Marathon Petroleum Corporation (NASDAQ: MPC).

Marathon has declared a dividend of $0.75 per share (~2.7% divided yield), an increase of approximately 30% over its previous dividend of $0.58 per share.  Marathon’s dividend can be converted into a DRIP.

In the petroleum sector, the refining process can take place either in the midstream or downstream market segment. 

In the case of Marathon, the company is a leading integrated downstream energy company that operates the nation’s largest refining system with 13 refineries and 2.9 million barrels per day of refining capacity. 

The company’s refineries are integrated via pipelines, terminals, and barges to maximize operating efficiency. That allows the company to utilize its processing capacity to optimize operations and produce higher margin products while offsetting some of the increased operating expenses resulting from ongoing supply chain bottlenecks. 

Marathon’s marketing system includes 6,900 independently owned retail outlets across the United States.

Marathon also owns the general partner and majority limited partner interest in MPLX LP — a midstream company focused primarily on the transport, storage, and distribution of crude oil and refined products. 

As primarily a downstream energy company with a substantial midstream component, Marathon Petroleum remains highly flexible, making it uniquely positioned to capitalize on the current oil-price environment amid persistent supply chain disruptions brought on by the pandemic and exacerbated by Russia’s invasion of Ukraine. 

Long and Short ETFs

To play the direction of oil’s price to the up or downside in the short-term, you might look at leveraged ETFs designed to reflect twice the daily price movement of the oil and gas exploration and production subsector.

Using our projected oil-price range of $70 to $85 per barrel for the next six or so months, you could go long near the low end and short near the high end. 

The Direxion Daily S&P Oil & Gas Exp. & Prod. Bull (NYSE: GUSH) is designed to deliver 200%  to the upside. 

The Direxion Daily S&P Oil & Gas Exp. & Prod. Bear (NYSE: DRIP) is designed to deliver 200% of the inverse of the downside. 

Two important notes: 

1. These funds do not track oil’s price. Their underlying index is the S&P Oil & Gas Exploration & Production Select Industry Index, which generally moves higher or lower with oil prices.
    
2. These would be short-term trades not to be held more than a week or two.

Wrapping Up… 

Our flagship broad market monthly premium newsletter, Foundational Profits, turned bullish on oil and select oil stocks in late-2020 when oil was well below where it’s trading today.

We correctly warned of the impending “Return to $100+ Oil” and positioned our readers accordingly. 

We bought oil stocks when oil was trading close to $40 per barrel and held them for a year until it was closer to $85 per barrel. 

We did that first via the Energy Select Sector SPDR Fund (NYSE: XLE) and then with the SPDR Oil & Gas ETF (NYSE: XOP) — owning one or both of them from November 2020 through December 2021, and harnessing the bulk of the inflationary move in energy that most government officials and pundits said was “transitory” until very recently. 

And although we couldn’t predict an outbreak of war in Europe, our forecast for rising oil prices proved highly accurate and lucrative.

So what’s next in the oil space? 

We are anticipating somewhat choppy trade in the oil sector for 1H 2023 at the $70 to $85 per barrel range as discussed earlier.

As noted, we still see plenty of long-term value upside in select diversified large-caps with robust dividends. 

Some of that upside will be tempered slightly due to the increased likelihood of a mild recession hitting the US economy in or around Q2 2023. 

Yet, those taking a long-term value approach by establishing positions in select, well-diversified oil firms with solid projects, robust dividends, and healthy balance sheets should be well-rewarded over the longer-term. 

As always, establish your positions incrementally and look for opportunities to buy the dips.