Oil prices are a major valuation driver for energy stocks
West Texas Intermediate (WTI) crude (priced at Cushing, Oklahoma) is the benchmark crude for US oil. Therefore, movements in WTI oil prices are a major driver in the valuation of domestic oil producers. Higher oil prices also incentivize producers to spend more money on drilling, which results in increased revenues for oilfield service companies (that is, companies which provide services such as drilling, fracking, and well servicing). Consequently, WTI prices are an important indicator to watch for those owning domestic energy stocks.
Oil prices spiked on a positive inventory figure and jobless claims figures
Last week West Texas Intermediate (WTI) crude oil prices were up as WTI finished at $108.05/barrel on Friday, July 19 compared to $105.95/barrel a week earlier. A larger than expected inventory draw implied increased demand and caused prices to spike. For more on this please see “Why another large inventory draw boosts oil prices, a short-term positive”. Additionally, a positive jobless claims report also helped to support oil prices. For more on this please see “Strong jobless claims figure sends crude upward yet again”.
Note that WTI is more representative of the price that producers receive in the US and there is another benchmark for crude called Brent which is more representative of the price that producers receive internationally. For more on the price difference between the two, please see “What happened to the WTI-Brent spread?”. As the domestic benchmark, WTI prices matter more for domestic companies such as Chesapeake Energy (CHK), Range Resources (RRC), EOG Resources (EOG), and Pioneer Natural Resources (PXD).
Oil prices have remained relatively high and stable, supporting energy company valuations
For most of this past year, WTI crude oil has been range-bound between ~$85/barrel to ~$100/barrel, however recent events such as unrest in the Middle East and large inventory draws have helped to push WTI upward to current levels of ~$108/barrel. As previously mentioned, higher crude prices generally have a positive effect on stocks in the energy sector. The below graph shows WTI crude oil price movements compared to XLE and EOG on a percentage change basis from January 2007 onward. One can see that crude oil, the XLE ETF, and EOG (one of the largest US-concentrated companies in the energy space) have largely moved in the same direction over the past several years.
As demonstrated in the graph above, crude oil prices are a major driver in the valuation of many energy investments. Oil prices affect the revenues of oil producers, and consequently affect the amount of money oil producers are incentivized to spend on oilfield services. Therefore, this past week’s upward movement in prices was a short-term positive for the sector, furthermore the longer term stable and elevated price of oil has generally been positive. Investors with domestic energy holdings in names such as CHK, EOG, RRC, or PXD may find it prudent to track the movements of benchmarks such as WTI crude.
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