With oil and natural gas prices where they are, most investors are just walking away from oil stocks and the energy sector.
After all, if you’re a shale producer like Chesapeake Energy (CHK), the lower the price of the commodity is, the lower your bottom line will be. With crude still scraping the bottom of the barrel, oil stocks just aren’t as good as they used to be a few years ago.
Or at least that’s what most investors think. The category of “oil stocks” encompasses more than just exploration and production firms and drillers of natural gas and crude oil.
In fact, some oil stocks are actually feasting on the lower prices for crude oil and natural gas.
That would be the refiners and processors of crude oil. These downstream players have been benefiting — in spades — from the downturn in crude oil. And with crude oil not showing any signs of surging anytime soon, the refiners could continue their outperformance over the next few years.
For investors, the downstream operators could be the oil stocks to buy.
Going With the Oil Stocks That Work
Lower crude oil prices have been a headache — and in some cases a massive hemorrhage — for some energy firms. That’s not true for the refiners. They are absolutely loving it.
And the reason is pretty simple. The refiners use crude oil in their facilities and turn that feedstock into higher-valued products. So it stands to reason that if you can get that input for cheaper than before, you’re going to realize some bigger profits.
And that’s just what’s been happening in the downstream sector.
With oil prices down about 50% in the last year, margins per barrel at the refiners have surged. Between 2009 and 2014, margins in the U.S. downstream sector averaged just under $15 per barrel. Today, with the oversupply of crude oil and drop in prices, that margin is north of $20 per barrel. It’s even more for those facilities that have the ability to process cheaper light, sweet West Texas Intermediate (WTI) benchmarked oil.
That’s resulted in some pretty sweet profits for the sector over the last few quarters. For example, sector bellwether Valero (VLO) reported a 30% increase to its latest earnings based on the improved margins.
Also benefiting VLO and its rivals among the oil stocks has been relatively low natural gas costs. A refinery is an immense consumer of energy and power when it runs. Lower natural gas costs have helped the refinery sector save on capex costs — which have boosted profits even more.
Now, margins during the fourth quarter have dipped a tad, thanks to the fall in gasoline prices and a slight uptick in oil prices. But investors shouldn’t be too worried — the sector still has the goods to keep going.
For starters, there’s going to be less refined product over the next few years. With margins so large, many refineries put off maintenance and expansion plans. That won’t be the case in 2016 and 2017 as many downstream oil stocks will make good on their plans to shut down and repair.
That will put a pressure on supplies of refined products. And since many American’s have once again fallen in love with cheap gasoline, demand has actually increased for the first time in years.
And then there are oil prices to consider.
The world is still awash in oil. The International Energy Agency’s (IEA) latest report for November showed a 1.6 million barrel-per-day surplus. This is now the eighth consecutive quarter of surpluses. That means oil prices may not rise meaningfully for quite some time. Higher refined-product prices and lower crude oil is what refining dreams are made of.
Two Refining Oil Stocks to Buy
Aside from refining leader VLO, there are plenty of ways for investors to get their refinery oil stocks fix. Two that stand out are Marathon Petroleum (MPC) and smaller firm PBF Energy (PBF).
MPC isn’t big as Valero, but it’s equally well run. Marathon has a host of assets across the United States, but it has the second-most facilities along the Gulf Coast — the kind that are able to take advantage of even cheaper crude oil prices from Canada and Mexico. That’s resulted in pretty decent earnings and cash flows over the last few quarters.
Those cash flows should continue to get better as Marathon continues to drop down more assets into its logistics MLP MPLX (MPLX), integrates its newly purchased service station assets from Hess (HES) and realizes once-again bigger margins per barrel. At a price-to-earnings ratio of only 9 and a 2.36% yield, MPC could be one of the best oil stocks to buy these days.
As could PBF. While not a household name, PBF is quickly becoming one of the largest refining groups in the country. The firm only owns a handful of facilities, but its current total throughput of 536,000 barrels per day has it on track to becoming the fourth largest refiner in the U.S.
That growth has come from some major acquisitions. PBF recently closed on its deal with Exxon (XOM) to buy its Chalmette Refinery. That deal is expected to instantly add 189,000 barrels worth of capacity to the refiner’s throughput without any effort. This will boost earnings and cash flows by about 20%.
The firm also has another deal pending to buy the Torrance refinery. These deals will boost PBF’s total throughput to over 900,000 barrels.
Adding in PBF’s big-time refiner move of recently adding a MLP to its arsenal — PBF Logistics LP (PBFX) — and you have the opportunity to play some real growth in the sector.
So, not all oil stocks are suffering. The refiners are just killing it.
MPC and PBF are ideal candidates to play the sector.
As of this writing, Aaron Levitt was long MPC and the Vanguard Energy ETF (VDE) –which holds all the stocks mentioned here.
