With crude oil continuing to trade at $90 to $100, and gasoline and diesel prices high enough to worry politicians, the wars in Ukraine and Iran have thrown global energy markets into disarray. To fully understand what’s happening, it’s important to also understand the broader energy sector, which divides naturally into three subsectors, depending on where a company operates in the supply chain.
Here is a quick overview of the sectors, my predictions about what third-quarter earnings might bring, and a representative stock for each sector.
Upstream energy companies drill holes to produce oil and natural gas. Three calendar quarters of high oil prices should produce great results for oil-focused drillers. (Pure-play natural gas producers are a different story, however—they have not gone along with the share price gains of their oily cousins.)
When earnings are announced, I will watch for share buybacks and/or special dividend announcements. Many companies in this sector will have been massively profitable in the quarter. Share buybacks reduce the number of shares outstanding, which helps grow earnings per share, even if crude backs off from the current prices.
Diamondback Energy (FANG) is currently a favorite in my newsletter portfolios.
Midstream energy companies own gathering systems, pipelines, storage, and terminals. These companies have stable, contracted revenue streams, and investors buy them for the yields and growing dividends.
The midstream sector has been growing, supported by infrastructure to move natural gas out of the Permian and Marcellus shales. Upstream oil producers get added revenue if they can sell associated gas. Supporting LNG for export is also a big midstream story.
As noted, midstream is the most stable sector, and investors should focus on yields and dividend growth. Antero Midstream (AM) supports upstream producer Antero Resources (AR) with midstream assets that support production and growth.
Downstream energy includes refiners that turn crude oil into gasoline, diesel, jet fuel, and other petroleum-based products. Refining oil is complicated, and refineries are large, amazing facilities. Refining profits are tracked by the crack spread, which is the difference between the price of a barrel of oil and the value of the fuels produced from that barrel.
Crack spreads have been at record levels since the Iran war started. These companies will report massive third-quarter profits, and I am also looking for stock buyback announcements.
Valero Energy (VLO) is one of my recommended refining stocks.
Earnings season starts in a few weeks, and I will analyze the results for my subscribers. We have done very well with energy stocks this year, and I think the trend can continue through the fourth quarter.
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