Breakout

Time to Bottom Fish the Energy Sector: Belski

Breakout

If I was allowed to follow only one economic barometer—out of the scores of weekly and monthly reports out there—my pick would be oil, hands down and all day long. And why not? What other indicator can claim to fairly reflect domestic and global sentiment, geo-political trends, consumer spending, and even the weather, yet is also priced and traded 24-hours a day?

Right now, having shed 20% (or nearly $30 a barrel) in the past three months, this best-of-class barometer is clearly reflecting fear and despair about the economy from all corners of the world. In fact, the plummeting price of crude, as well as the outsized decline in energy stocks, is just one of the reasons why Brian Belski, chief investment strategist at BMO Capital Markets, thinks it's time to "bottom fish" the sector.

"Our call is for global growth to not melt down," he says in the attached video clip, in which he explains his ''overweight" rating on the Energy Sector (XLE). "Clearly prices reflect a slowdown in earnings due to conditions in the U.S. and globally, but we think investors are under-appreciating what is going on in U.S. energy stocks in terms of share buy-backs and dividend growth. So we think there is a value proposal to owning energy right now."

On the earnings side, to simply say "the bar is low" for energy stocks wouldn't fully capture the true degree of negativity that is already baked in. In fact, no sector reflects greater profit-pessimism right now than energy does, where second quarter sales and earnings per share are forecast to drop 12% and 18% respectively. That's not only the worst of 10 sectors in the S&P 500, but far less than the 3.8% growth expected for the full index, Factset data shows.

As for energy stock prices, it is a similar situation to earnings, in as much as the energy sector has been the recent standout in the under-performance category, and has lagged the benchmark by more than 10 percentage points in the past three months—again faring worse than the nine other sectors.

As Belski sees it, consensus estimates for crude suggest the commodity will be higher 12 months from now. Combine that with the fact that his research shows 90% of the price moves in energy stocks have been determined by crude, and the story starts to come together. But finally, he points out that a general shift in sentiment, where investors are focused more on downside than upside risk, shows a troubling trend that presents an opportunity.

"Over the past five years, investors have become more concerned with being wrong than actually creating wealth, and that tells us we're seeing a crescendo in the cycle of being negative," he says.

In terms of strategy, Belski says he prefers the cash flow and dividend growth found in the big, integrated players, and thinks individual stocks are the way to go rather than an ETF.

"Admittedly we're a little early, but I'd rather be early than late in the upgrade of a tactical sector move like this."

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