Dave Gilbert here, Editor of Smart Money.
A billion here, a billion there, and pretty soon you’re talking about real money.
That statement is attributed to former Senate minority leader Everett Dirksen expressing his concerns about government overspending. He served until his death in 1969, so if he, in fact, said it (seems there is often a dispute over quotations), it was at least 50 years ago.
I wonder what he would think about one person from his home state of Illinois winning $1.34 billion in the Mega Millions lottery this past weekend.
Or what he would think about the three largest Western oil companies making a record $46 billion in profits… in one quarter.
Winning the lottery is once and done for those lucky few who hit the jackpot. But think about this: Those oil companies could continue earning billions of dollars every quarter for some time to come.
Investing in them won’t land you an instant $1.34 billion, but you sure could see nice profits along the way…
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Pumping Oil, Pumping Profits
Knowing what we all pay for gasoline, it shouldn’t be a surprise that oil companies are making gobs of money right now.
The three largest Western companies – Exxon Mobil Corp. (XOM), Chevron Corp. (CVX), and Shell PLC (SHEL) – generated a staggering $46 billion in profits in the second quarter.
No wonder their stocks are up an average 37% in 2022 when the S&P 500 is down more than 13%.
And now wonder that the energy sector is outperforming all other sectors by a mile. The S&P energy sector is up 38.5% so far in 2022, with the next closest sector (utilities) the only other one that’s positive – and just barely so at +3.4%.
Seven months into the year, and it is clear that folks not investing in old-school energy companies are missing the only place where sizable money is being made right now.
And yet, many investors still can’t get their heads around oil being better than technology right now. Technology is where the cool stuff, massive growth, and big profits are, right?
That has certainly been the case. Breakthrough technologies and the megatrends the drive will continue to make investors a lot of money over time.
But as Eric Fry is quick to point out that it doesn’t have to be an either/or. He’s not pro- or anti-technology. He’s not pro- or anti-oil. He’s pro-making money.
Oil will, in the future, cease to be the opportunity it is today as more efficient and environmentally friendly energy sources become dominant. But that day is a long way away, and current trends show oil companies continuing to pump out massive profits.
It’s the law of supply and demand… a law as old as oil itself.
In a nutshell, global demand for oil is rising after years of COVID-related shutdowns, and the war in Ukraine has disrupted supply in many parts of the world.
At the same time, supply growth is not keeping pace with demand growth. The International Energy Agency recently said it expects demand to surpass pre-COVID levels in 2023, but it also expects supply growth to fall short of higher demand by half a million barrels of oil per day. Much of whatever supply growth is mustered is expected to come from U.S. companies.
This supply/demand imbalance enabled Exxon, Chevron, and Shell to record huge profit margins in making fuel – the refining process. Exxon CEO Darren Woods told The Wall Street Journal…
Demand recovers, and we don’t have the capacity to meet that, which has led to record refining margins. This will be a few-year price environment.
Catch that? A “few-year” price environment.
Eric has pointed to this shortfall all along. As he boldly predicted seven months ago…
To put it simply, the road to a $10-per-barrel oil price might pass through $150, or even $200, on the way. Because this sort of scenario could unfold over the next year or two, one of my Power Trends for 2022 is Energy’s Swan Song.
I understand that many investors may have little interest in energy stocks. I get it; I don’t have much interest in recommending energy stocks.
But the near-term bullish backdrop has become too compelling to ignore.
According to Rystad Energy, global investments in oil and gas E&P have plummeted by about 65% since the 2014 peak.
This non-spending creates two bullish tailwinds for oil company stocks…
- It will reduce future crude production, which could lead to soaring oil prices.
- It will convert the oil sector into a sort of publicly-traded garage sale – an industry that simply sells off what it already owns.
You see, as oil companies slash their spending on exploration and development, their free cash flow will surge. Instead of continuously plowing that cash into future projects, oil companies can drop most of it onto their balance sheets like dollar bills into a shoebox at a garage sale.
That is indeed what happened with the big three oil companies in the past quarter, and they returned a lot of that cash to their shareholders. Exxon returned $7.6 billion. Chevron raised the ceiling of its share buyback program from $15 billion from $10 billion. And Shell expects to buy back $6 billion in shares this quarter. All three also reduced debt.
Profits might not soar from last quarter’s record, but even so, Eric believes the market is underpricing oil stocks for the level of profits they are poised to continue producing. Even if profits slow down, that undervaluation gap should narrow at least somewhat and help drive the right stocks higher.
So a billion here and a billion there does still add up to real money, and investors who know where to find those kinds of profits stand to benefit.
Regards,
Dave
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On the date of publication, Eric Fry did not have (either directly or indirectly) any positions in the securities mentioned in this article.
