Fuel For Thought
Oil seems to coat every conversation about the stock market, bringing to mind images of animals lathered in the substance following a spill. In the first 20 trading days of 2016, Brent crude-oil prices and the S&P 500 Index experienced their tightest correlation in 26 years, according to The Wall Street Journal.
Oil prices recently bounced from a 12-year low after the world's two largest oil producers, Saudi Arabia and Russia, pledged to freeze output at January levels as long as other major producers follow suit. Not all members of the Organization of the Petroleum Exporting Countries (OPEC) are onboard yet, and there's no telling how U.S. drillers may react.
Neither falling oil prices nor a decline in drilling rigs have as yet put much of a dent in U.S. oil production, down just 4% from its June 2015 peak, according to the U.S. Energy Information Administration.
What does all this mean? That oil may continue to search for a bottom. Some analysts envision scenarios with oil prices falling below $20 a barrel, citing decelerating demand growth and storage sites nearing capacity.
Of course, there are two sides of every trade. Below, we look at industries benefiting and suffering from lower oil prices.
• Airlines, truckers, and other companies for which oil makes up a large portion of operating expenses. Current conditions favor Alaska Air Group ($72; ALK) and Southwest Airlines ($39; LUV), as well as third-party shipper C.H. Robinson Worldwide ($71; CHRW). Per-gallon fuel costs fell more than 35% in 2015 for both Alaska Air and Southwest. As a result, aircraft fuel accounted for 22% of Alaska Air's operating expenses last year, a six-year low. Southwest said fuel represented 23% of operating expenses in 2015, its lowest since 2005.
Looking ahead, both airlines anticipate even lower per-gallon fuel expenses in the months ahead. Although lower fuel prices have translated into lower rates for C.H. Robinson, most U.S. airlines have raised fares twice this year. Alaska Air and C.H. Robinson are Focus List Buys and Long-Term Buys. Southwest is a Buy and a Long-Term Buy.
• Automobile manufacturers and suppliers. U.S. automobile sales rose 6% last year to an all-time high of 17.5 million units, as low fuel prices helped drive demand for trucks and sport-utility vehicles. Yet shares of automobile makers have slumped in recent months on fears that growth in car sales may have plateaued, despite aggressive promotions.
Auto-parts supplier Lear ($106; LEA) says it hasn't seen any indications of a downturn, while Wells Fargo ($48; WFC) CEO John Stumpf expects another strong year for the automobile market if oil prices remain low. Vehicle production is projected to grow 4% in North America and 3% globally in 2016, says industry researcher IHS Automotive. Lear is a Focus List Buy and a Long-Term Buy. Wells
Fargo is a Buy and a Long-Term Buy.
• Energy companies. The average S&P 1500 energy stock has lost 50% of its value in the past 12 months and 22% in 2016 alone. Stocks in all seven energy industries have lost an average of at least 15% in the past year. Energy stocks average Quadrix Overall scores of 31 and rank last among the S&P 1500 Index's 10 sectors for five of the six categories. Although the sector earns an attractive average Value rank of 61, its average forward P/E ratio is 18.3, only slightly below the index average of 18.7.
Dividends have become unwieldy for many companies. ConocoPhillips ($34; COP) cut its dividend 66% in February, its first reduction in at least 25 years. Just three months earlier, Conoco proclaimed the dividend "a top priority." Anadarko Petroleum ($41; APC) slashed its quarterly dividend 81%, while Hess ($43; HES) said it would issue $1.5 billion in shares to shore up its balance sheet.
On the bright side, Chevron ($88; CVX) reiterated in January that maintaining and growing its dividend is its "number one financial priority." Exxon Mobil ($82; XOM) also reaffirmed its commitment to growing the dividend, though it will continue to taper share repurchases. Exxon typically announces dividend hikes in April. Virtually all oil producers are reducing their capital budgets, squeezing oilfield-services providers and equipment makers. Anadarko, Exxon, Chevron, ConocoPhillips, and Hess are rated C (below average).
• Financial companies with exposure to the energy sector. U.S. life insurers potentially face up to $4 billion in losses from energy-related corporate bonds, estimates Fitch Ratings. Meanwhile, banks are building their reserves in anticipation of mounting loan losses. Loans to energy-related companies represent 1.9% of total commercial loans for Wells Fargo and 1.6% for J.P. Morgan Chase ($59; JPM) — relatively low exposure compared to other large banks.
Wells Fargo says more than 90% of its oil-and-gas loans are current on interest payments. Yet its provisions for credit losses jumped 75% last year, while J.P. Morgan boosted its provisions 22%. Despite the turmoil, J.P. Morgan CEO Jamie Dimon says he has no intention of pulling out of the sector, stressing that the company's loans are backed by assets it could recover in the event of a bankruptcy. J.P. Morgan is a Long-Term Buy.