Energy Select Sector SPDR (ETF) (NYSEARCA:XLE) is again in focus. The entire energy sector took a major blow when oil prices fell from over $100 per barrel in 2014 to briefly under $30 per barrel in early 2016. However, conditions have improved, with crude prices and oil company revenues going along for the ride. As crude prices rise toward $60 per barrel, XLE stock finds itself well-positioned for further gains.
XLE — which tracks a market-cap-weighted index of U.S. energy companies in the S&P 500 Index — allows investors to enjoy the benefits of higher energy prices without the risks posed by any one company. The XLE stock price has risen about 10% since reaching a 52-week low of $61.80 per share in mid-August. Crude oil also has risen since the early summer, up from the mid $40s per barrel to around $57 per barrel in a five-month time span.
The fund holds 32 stocks, although Exxon Mobil Corporation (NYSE:XOM), Chevron Corporation (NYSE:CVX), oil field equipment maker Schlumberger Limited. (NYSE:SLB), and ConocoPhillips (NYSE:COP) make up slightly more than 50% of its holdings. Of the sectors within the energy industry, about 50% of the fund has refining exposure. Exploration and services make up an additional 40%.
XLE Stock’s Compelling Value Proposition
The 10.7% run up over the past three months trimmed XLE stock’s year-t0-date losses. Still, the financial metrics remain favorable. The fund claims about $16.4 billion in assets under management, with an expense ratio of 0.14%. The price-to-book (PB) ratio stands at just under 2. While distributions vary from quarter to quarter, the fund currently pays an annual distribution of almost 3.2%.
As my colleague James Brumley mentions, XLE stock, along with its peer iShares Dow Jones US Energy Sector ETF (NYSEARCA:IYE), lost more than 50% of its value during the 2014 oil price collapse. However, profitability returned in the second half of 2016, and the outlook has improved since. Contrary to popular belief, hurricanes were not the main culprit. While Hurricane Harvey temporarily knocked out 25% of U.S. refining capacity, the disruption did not last.
Shifting political winds, particularly out of Saudi Arabia, have served as a much more serious factor. Prince Mohammed bin Salman has arrested several Saudi elites in a bid to fight corruption. The uncertainty created by this purge has sent oil prices higher.
Prices are Rising on Production Cuts and Higher Demand
OPEC and Russia also put production cuts in place late in 2016. This move increased prices and it remains in place today. Prince Mohammed favors keeping the cuts in place for a longer period, which should keep prices higher. Russian President Vladimir Putin, OPEC’s key ally outside of the cartel, has also worked to maintain the lower production levels.
Also, lower demand contributed to the price collapse in 2014. That lower demand trend appears to have shifted. This year, demand for crude oil has increased on an improving world economy. Gasoline use in the U.S. is also on the rise, and the International Energy Administration raised its forecast for world oil consumption three times in a three-month period.
Bottom Line on XLE Stock
This improved outlook should translate to higher values for XLE stock. The fund’s constituents have also shown gone up in value. Exxon Mobil and Chevron, XLE’s two largest holdings, expect revenue growth for the first time in several years. Also, XOM’s net income will again exceed the company’s dividend, bringing further stability to Exxon and by extension, XLE.
Others in XLE’s basket of stocks are also helping to drive the value of the ETF higher. Crude oil prices have recovered from their mid-decade slump. Now, oil prices have found their footing with OPEC and Russia putting in place a production cut that’s holding (so far). Moreover, surprising events such as political turmoil in Saudi Arabia and rising oil demand have further bolstered prices.
All these conditions place XLE in a strong position. By buying XLE, investors have a vehicle to capitalize on higher oil prices, without the risk of individual stocks.
As of this writing, Will Healy did not hold a position in any of the aforementioned stocks.
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