The OPEC production cut deal has propelled crude oil prices to their highest levels of the past year. While high oil prices are a lifeline for struggling oil and gas production companies, they will also be a drag on profits for a number of other companies.
Every day that passes, it seems more likely that the oil market has bottomed. The oil market will now re-balance over time, even if it takes several years to get there. With oil prices at or below $50 per barrel for the past year, it’s easy to forget that WTI crude spent most of the past decade in the $75 to $100 per barrel range.
Some companies rely so heavily on oil in their businesses that higher oil prices could drive up costs enough to have a serious impact on their stocks. For those companies, the oil downturn has been a blessing. The recovery could be a curse.
With that as a backdrop, here are three companies you should sell before high oil prices go even higher.
Stocks to Sell on High Oil Prices: American Airlines Group Inc (AAL)
For airline stocks, fuel has historically represented roughly a third of total operating costs. Even in a severely depressed oil market, American Airlines Group Inc (NASDAQ:AAL), Delta Air Lines, Inc. (NYSE:DAL), United Continental Holdings Inc (NYSE:UAL) and Southwest Airlines Co (NYSE:LUV) spent a combined $12 billion on fuel in 2015.
Timing the market can be difficult for traders, and it can be just as difficult for companies. Airlines have historically hedged against soaring oil prices by buying expensive futures contracts to lock in oil prices. Of course, when oil prices fall, these hedges end up locking in fuel prices higher than the market price.
AAL, however, didn’t have expensive fuel hedges in place during the downturn. That move resulted in a record $7.6 billion in profits in 2015. Unfortunately, every dollar that American Airlines saved by not hedging as oil prices dropped, it stands to lose when oil prices rise.
Now that the other major airlines have joined AAL in dropping oil hedges, its margins have already dropped to among the worst in the group. As oil prices keep rising, things will only get worse for American Airlines and AAL stock.
Stocks to Sell On High Oil Prices: PPG Industries, Inc. (PPG)
PPG Industries, Inc. (NYSE:PPG) makes house paints, protective coatings and other industrial materials. The company’s coatings protect everything from cars to jets to industrial machinery.
For PPG, oil isn’t a fuel. It’s an ingredient. The company uses oil in its paint and coatings production and natural gas in its fiber glass and commodity chemicals business.
Oil prices are trading near 52-week highs. Natural gas prices, on the other hand, recently spiked to their highest level since 2014. That move is likely already pressuring PPG margins.
PPG stock received downgrades from Deutsche Bank, Goldman Sachs and Argus Research in October. Deutsche Bank believes the company’s sluggish earnings growth doesn’t warrant a forward price-to-earnings multiple higher than the 15 to 16 range.
PPG stock certainly doesn’t have much wiggle room when it comes to valuation. It currently trades at a P/E ratio of 31, its highest level since 2010.
If oil and gas prices keep rising, the costs will start to take a significant bite out of PPG’s bottom line. That could make PPG stock seem even more expensive to investors than it already is.
Stocks to Sell on High Oil Prices: CVR Refining LP (CVRR)
Not all segments of the oil industry suffer during oil market downturns. An environment of cheap crude oil is the perfect storm for oil refiners like CVR Refining LP (NYSE:CVRR). Not only are crude feed stocks cheap, but there is also plenty of demand for refined fuels.
Of course, when oil prices start to rise, refiners’ margins start to shrink.
To make matters worse for CVRR, the company hasn’t even been able to enjoy the cheap oil opportunity in recent quarters.
As activist investor Carl Icahn recently pointed out in an article for the Wall Street Journal, the cost of purchasing Renewable Identification Numbers to comply with alternative fuel standards is crippling many smaller refiners like CVRR. Icahn argues that the RINs market is filled with “manipulation, speculation and fraud.”
President-elect Donald Trump has repeatedly pledged to de-regulate U.S. businesses. If he takes steps to change or eliminate the RIN requirement, it could be a game changer for CVRR stock. In the meantime, CVRR will remain among the stocks to sell as the company suffers under the weight of both high oil costs and skyrocketing RIN costs.
As of this writing, Wayne Duggan did not hold a position in any of the aforementioned securities.