The rout in crude oil prices this year came at the expense of nearly every company in the energy market. From large, integrated oil producers to smaller equipment and exploration stocks, the carnage produced declines of 30-70% from high to low. While those losses seem severe on the surface, they have also set up an amazing comeback story.
As we enter 2015 and the expectations for energy services have been lowered to pre-financial crisis levels, we anticipate this sector making a turnaround in the near future. The world economy is still heavily dependent on oil, and companies focused on equipment to meet those needs are uniquely positioned for a strong recovery.
We feel the ability to profit from the extraction and delivery of this essential commodity can be best played through the iShares U.S. Oil Equipment & Services ETF (IEZ).
IEZ is a traditional market-cap weighted index that tracks 53 stocks in the oil services industry. What this means is that heavyweights such as Schlumberger Limited (SLB), Halliburton Company (HAL), and National-Oilwell Varco, Inc. (NOV) make up the top holdings.
This slant towards larger and more established companies within the industry makes IEZ more attractive than other equal-weighted ETF alternatives. In addition, these larger companies may benefit from merger and acquisition activity within the energy services industry as smaller firms look to survive or consolidate their assets.
From high to low last year, IEZ lost more 40% of its value in the second half of 2014 and has recently shown signs that a short-term low is taking shape. These losses in IEZ were more severe than the sector benchmark Energy Select Sector SPDR (XLE), which make IEZ ripe for a stronger comeback as well.
IEZ currently trades with a price-to-earnings ratio of 12.3, which makes this fund a deeper value than the 13.4 P/E of XLE or the 18.67 P/E of the SPDR S&P 500 ETF (SPY). But make no mistake, a comeback in oil services will be largely driven by stabilization and ultimately a rally in crude oil prices. That is the lynchpin that will govern a counter-trend rally in the energy sector.
From a trading standpoint, IEZ has average daily volume of more than 200,000 shares, which makes it liquid enough to meet our screening requirements. In addition, the large asset base of nearly $400 million and reasonable expense ratio of 0.43% make this ETF a worthy candidate for value seekers.
Investors that do decide to invest in this arena should be aware that IEZ carries a beta to the market of 1.27, which means it will be a more volatile position than a broad-based equity play. That volatility means the ETF may not meet the risk profile of more conservative investors.
But for investors who are willing to take on a little risk, the additional volatility is one means by which IEZ seems ready to extend itself next year above both XLE and SPY.
David Fabian is Managing Partner and Chief Operations Officer of FMD Capital Management.
Michael Fabian is Managing Partner and Chief Investment Officer of FMD Capital Management.
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