Oil Brings Higher Income
September’s song was a sad one for stocks as the market ended with its worst quarter since the financial crisis in 2008. The S&P 500 Index lost 14% for the quarter, leaving it down 12% for the year so far. The Dow Industrials lost a little less, reflecting investor preferences for larger companies during troubled times.
As the stock market zigzags, oil prices are also erratic, as investors have begun using them as a trading proxy for the strength of global economic recovery. Such short-term fixation with daily news ignores the underlying forces that will press energy prices higher. These anxieties are also creating remarkable bargains in global energy stocks.
Daniel Yergin, a leading energy consultant, won a Pulitzer Prize twenty years ago with The Prize, which traced and analyzed the world’s search for oil from its discovery until 1990. Since then, the search for energy has almost turned the world upside down. His new book, The Quest, begins with the Persian Gulf War of 1990-91 and continues through the return of Russia as an energy power, the rise of China and India as energy consumers, the acceleration of global warming and the persisting shortfalls of cost effective energy sources other than fossil fuels.
Energy trends are powerful and difficult to forecast. In 1957, Admiral Rickover, creator of nuclear naval propulsion, calculated that a hundred years of industrial changes had seen the provision of energy by men and animals shrink from 94 percent to 6 percent. Noting the demand in 1957 for energy, the Admiral predicted that by now we would have run completely out of fossil fuels.
Amazingly, since 1957, oil production is factually five times greater. Coal remains the principal (and dirtiest) source of global electricity production. Oil and gas make up 80 percent of the world’s energy use. Automobiles use a lot of that with a billion cars on the planet and another billion expected in twenty years.
The only alternative energy source to reach large scale us is nuclear. It is the cleanest but comes with huge startup costs and unsolved problems of waste disposal. Unfortunately, it may already have peaked in the face of public opposition even though many more people die every year from coal mining or oil drilling than have been lost in the entire history of nuclear energy production.
These forces all point to inexorably increasing demand for oil and natural gas for the foreseeable future. Currently, energy stocks are depressed due principally to a fear-ridden stock market and illogical worries of weakening global energy demand. Lasting values are at bargain prices but these fears, even if irrational, are likely to keep a lid on prices until these anxieties dissipate.
This is not a time for stock investors to go “wildcatting.” I recommend stocks in larger companies like ExxonMobil (XOM-$73), the world’s largest privately operated energy company. It bought XTO Energy, making it a big player in natural gas. Recently, it struck a deal with Russia’s state owned oil company to swap assets for drilling rights in the Russian Arctic. Sales are $440 billion, growing at over 20% with earnings moving even faster.
Remarkably, all this is trading at only eight times earnings. Investors currently receive dividends at a 2.6% rate and Exxon has increased its dividend for 28 straight years. Further gains seem assured and an investor with capital for only one energy stock can anchor investments with this one stock.
Chevron (CVX-$93) is an attractive alternative. Sales are “only” $233 billion but it is growing earnings faster than Exxon and has a 3.1% yield. There are many others in this essential stock sector. Occidental (OXY-$78) ($21 billion sales) is growing even faster while providing a 2.5% yield. Norway’s Statoil (STO-$22) combines strong overseas growth and a 5% yield.
For investors looking for even higher yields, I suggest Sandridge Permian Trust (PER-$17), a new issue that went public this summer at $18. It owns royalty interests in 509 oil and natural gas producing wells in West Texas. The company plans to drill an additional 888 wells. Future results will depend on the success of these wells but current projections are for cash distributions for 2011 of around $1.15, doubling in 2012. This stock is projected to return almost its entire present value by 2016. The company will soon declare its first distribution, probably for November, and I expect investor attention to pick up once this is confirmed.
The much-discussed “end of oil” is nowhere in sight. Investors should take advantage of current fears and establish or augment positions in these energy stocks. Their proven management and unrelenting global energy demand will do the rest.
Tony Crowell manages stock portfolios for individuals and their trust and retirement accounts with CROWELL•ROBERTS Investment Counsel, a registered investment advisor in Laguna Beach since 1993. [email protected] 949.494.1376/