In a major respite for consumers globally, crude oil prices have come down. Meanwhile, falling energy prices haven’t been pleasant news for oil and gas producers, and their stock prices have also followed crude oil lower. Would it make sense to buy oil stocks now and which energy stocks look like good buys? Here are the risk-reward dynamics of investing in oil stocks.
The global energy market has come full circle over the last 20 months. In 2020, WTI prices briefly went negative for the first time in history because there was simply too much oil and no buyers. Fast forward to 2021 and we have a situation where oil suddenly seems to be in short supply.
What are crude oil's demand and supply dynamics?
Like every other commodity, crude oil prices also depend on the underlying demand-supply dynamics. Oil demand has spiked in 2021 amid the reopening of economies around the world. As for supply, the OPEC+ block has maintained discipline and hasn't increased supply much despite pressure from oil-importing countries.
Oil prices came down amid the omicron variant threat.
Meanwhile, the emergence of the omicron variant of the COVID-19 virus took a toll on energy prices. While none of the major economies are currently contemplating a full lockdown due to the omicron variant, it could take a toll on international air travel. Also, several countries including the U.S., China, India, and South Korea released oil from their strategic reserves to tame the rising oil prices.
OPEC+ agreed to hike the output.
The OPEC+ block has decided to increase production by 400,000 barrels per day from January. The production hike was agreed upon previously only and the block didn't budge under pressure from other countries including the U.S. to hike output even more.
The production hike was already priced into prices and we saw a relief rally in crude oil prices. Brent now trades around $70 per barrel and has come off its 2021 highs.
Oil stocks are a bet on politics and the global economy.
Oil is perhaps the most politicized commodity. The OPEC+ countries have given up their insistence on protecting market share and are now rather keen to support oil prices. President Joe Biden doesn't seem to have the same leeway with OPEC countries as his predecessor Donald Trump.
Also, oil is ultimately a play on the global economy. If the omicron variant doesn't cause much damage, we could see a rise in oil prices and by their extension oil and gas stocks. However, if the omicron variant turns out to be as bad as the delta variant and we see lockdowns again, oil prices might come under pressure.
While OPEC+ could adjust its output if oil demand is hit due to the omicron variant, it might not help prevent a slide in oil prices.
Some oil stocks look like good buys.
Meanwhile, if the global economic momentum sustains in 2022, oil stocks could continue to do well, just like they did in 2021. Among energy names, Chevron, Shell, and BP look like good buys. These companies have strong balance sheets and healthy dividends. Also, they're pivoting towards renewable energy, which will add long-term shareholder value.
BP has been focusing on renewable energy and it's targeting a renewable energy capacity of 50 gigawatts by 2030. It's also focusing on hydrogen to drive its growth and has been exiting some of the fossil fuel business to lower its carbon footprint.