Now that the screaming regarding the collapse in oil prices has settled down, we can take a more sober look at the energy sector and determine which energy stocks might be good for your long-term diversified portfolio.
I get an e-mail now and then asking me what’s so special about the energy sector when there are so many other stocks that have higher yields, higher capital gains prospects, and higher growth prospects.
The answer is that they often have higher risk, as well. Remember, it isn’t that we want to beat the market, it’s that we want to beat the market while taking on minimum risk.
The energy sector provides above-average long-term performance balanced against below-average long-term risk. That’s because energy is a global necessity. Humans need fossil fuels, because they continue power the world, no matter what the green energy people say.
With that in mind, here are three of the best buys in the energy sector.
Energy Sector Buys: ExxonMobil (XOM)
The first no-brainer stock in the energy sector is the 800-pound gorilla known as ExxonMobil (XOM).
Frankly, out of all the energy stocks, any of the big explorer/producers will work in your portfolio. I just choose XOM stock because it has just about the best balance sheet, and has only fallen 23% from its high during the oil price collapse.
XOM stock is the largest beast in the energy sector with a market cap of almost $350 billion. It is the strongest of the energy stocks thanks to that amazing balance sheet. Its $30 billion in cash and long-term investments are offset by $25 billion in debt, and it generated over $12 billion in free cash flow last year, almost all of which is paid out in dividends. That combination earns it the only AAA-credit-rated company in the energy sector.
Once sanctions with Russia are lifted, it will also have a massive opportunity in all the real estate it has purchased over there.
Energy Sector Buys: Kinder Morgan (KMI)
The next stock in the energy sector to consider is the big boy in infrastructure, Kinder Morgan (KMI). KMI stock owns a massive network of pipelines — almost 80,000 miles of them — as well as 180 terminals where energy gets stored. By energy, I’m not just talking oil, but also natural gas and CO2, as well as bulk products like cement and chemicals.
Transporting this stuff is expensive, and maintaining the infrastructure costs a lot as well. That means KMI stock gets paid by a lot of companies to make sure their product gets to where it is needed.
Why choose KMI stock? To diversify. If you are going to hold an oil producer, then it’s good to augment that holding with a transport/pipeline business. Management seems to like their own company, as the executive chairman spent $4 million buying about 100,000 shares recently.
Energy Sector Buys: Energy SPDR (XLE)
As for the last of the no-brainer energy stocks in the energy sector, you have to go with the Energy SPDR Fund (XLE). In fact, if you want energy exposure, you could just buy the XLE alone. Not only does it hold XOM stock and KMI stock, it also holds a whole lot of other energy stocks, including all the big names.
Although I would prefer that XLE stock have more diversification, as the top 10 holdings account for 61% of assets, it remains the simplest way to give your portfolio the energy exposure it needs. It is presently trading near its 52-week low. That may spook some investors, but because I see energy as a must-own sector that will eventually rebound, even if XLE stock falls further, I would average down.
By the way, you also capture yield from all the stocks in the portfolio. So while 2.7% isn’t exactly what I’d call generous, I’m happy to take it as a bonus.
Lawrence Meyers is the CEO of PDL Capital, a specialty lender focusing on consumer finance. As of this writing, he was long XLE. He has 20 years’ experience in the stock market, and has written more than 1,200 articles on investing. He also is the Manager of the forthcoming Liberty Portfolio. Lawrence Meyers can be reached at TheLibertyPortfolio@gmail.com.
