21 Dec

How Tax Reforms Could Affect Energy Stocks

WRITTEN BY Rabindra Samanta

Crude oil

On December 20, 2017, US crude oil (USO) (DBO) February futures rose 0.9%. On the same day, US crude oil futures settled at $58.09 per barrel.

How Tax Reforms Could Affect Energy Stocks

On December 20, 2017, the US Congress passed the new tax policy, the Tax Cuts and Jobs Act. Domestic sales account for a major portion of the revenue for most US-based upstream companies. Under this act, the effective tax rate of upstream companies could fall. Moreover, some provisions like capital expenditure deductions could encourage drilling and exploration activity in the energy sector.

So, the new US tax policy, yet to be signed by President Trump, could pose a threat to higher oil prices once effective due to increased cash available for these companies and greater incentive to drill for more oil. In the week ended December 15, 2017, US crude oil production made a new high of ~9.8 million barrels per day, according to EIA weekly data released on December 20, 2017.

Between December 13 and December 20, 2017, US crude oil February futures rose 2.7%. During this period, both the S&P 500 Index (SPY) and the Dow Jones Industrial Average Index (DIA) rose 0.6%. Oil’s gain is key due to the energy exposure of these equity indexes.

Oil-weighted stocks to watch

Between December 13 and December 20, 2017, Diamondback Energy (FANG) and Occidental Petroleum (OXY) had positive correlations of 43.4% and 43.3%, respectively, with US crude oil February 2018 futures. The oil-weighted stocks on our list, except FANG and OXY, had either low or negative correlations with US crude oil prices over this time period. The tax reforms could have steered these oil-weighted stocks’ movement.

The oil-weighted stocks with the highest negative correlations with oil prices in the trailing week are:

  • Whiting Petroleum (WLL) at -52.4%
  • Callon Petroleum (CPE) at -61.2%

WLL was the second-highest gainer on our list of oil-weighted stocks. We will discuss stock returns in the next part.

For this analysis, we have taken energy stocks from the SPDR S&P Oil & Gas Exploration & Production ETF (XOP) that have a minimum production mix of 60.0% oil.

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