Last month, oil prices settled above the psychologically important $50 per barrel level for the first time in more than 10 months.
Crude prices, which reached $110 per barrel in mid-2014, fell to a 12-year low of $26.21 in Feb as investors worried about the oversupplied market. The commodity’s collapse threatened the industry’s creditworthiness by hurting cash flows, drying up liquidity and pummeling producer’s profit margins.
However, indications that supply was easing helped oil prices rebound some 90% since then.
The surge in benchmark crude is being driven by supply outages in Nigeria, Libya, Venezuela and Canada – countries that hold some of the world’s major sources of crude.
The upward pressure in oil prices also reflect the U.S. Energy Department's recent inventory releases that show crude stockpile builds turning into draws. Things have been further helped by a continued decline in U.S. crude production.
Has the Bull Run Ended?
Oil prices dropped to two-month lows of around $45-a-barrel on Friday over indications of resurgence in shale drilling activities and signs of economic sluggishness in Asia. A strong dollar – which makes the greenback-priced crude dearer for investors holding foreign currency – also played spoilsport. As it is, traders are concerned over the effects of Brexit – the short way of saying Britain’s exit from the EU – on crude demand.
What Does the Future Hold?
The uncertainty of oil prices means that the future direction of the commodity’s movement is anybody's guess. However, fundamentals suggest that the odds are firmly stacked against a sustained rally and point toward sideways-to-flat crude price expectation. In fact, some industry observers feel that the door is open for one more retest of the recent multi-year lows.
On the contrary though, the commodity’s recovery to $50, predictably, has had a positive effect on stocks in the sector. In particular, savvy investors might view the price bump as the impetus the stocks need after freefalling for two years. Undoubtedly, still a long way to go, but improving crude prices may have already primed certain oil producers and linked entities for upward momentum.
Play It Smart
But it’s important to keep in mind that even in these tumultuous times, there are some stocks that stands out.
Amid the uncertainty, it is necessary that investors adopt a cautious approach. It is prudent to opt for large cap stocks. These have a market capitalization of over $10 billion, and also have further room for upside. These companies enjoy leading market positions, have a global footprint, strong cash positions and are large enough to stay strong even in the face of unfavorable events.
The first such stock is integrated energy major Chevron Corp. (CVX - Free Report) , which recently climbed to a 52-week high. The company’s current oil and gas development project pipeline is among the best in the industry, boasting large, multi-year projects.
Chevron has been able to boost returns and remain competitive by embarking on aggressive cost reduction initiatives, exiting unprofitable markets and streamlining the organization. The recent approval of the $37 billion expansion of Kazakhstan's huge Tengiz oilfield also marks an important landmark for the company, which considers the Central Asian nation a cornerstone of its business.
Zacks Rank #1 (Strong Buy)
Market Capitalization: $201 billion
The second pick, ConocoPhillips (COP - Free Report) , is the world's largest independent exploration and production firm with an asset base that is not only diverse but also boasts of a low decline rate. Additionally, the company possesses large, low cost properties that offer attractive long-term opportunities.
The ongoing rebound in oil prices will help ConocoPhillips' business to gain momentum, while the dividend cut will help deal with more challenging times ahead. The Houston, TX-based U.S. energy producer has also gone for a leaner capital spending for 2016 to tackle the commodity price volatility.
Zacks Rank #2 (Buy)
Market Capitalization: $54 billion
We advise investors to add Suncor Energy Inc. (SU - Free Report) – Canada’s biggest energy firm and the largest oil sands outfit – that has an impressive portfolio of growth opportunities, a unique asset base and high return potential for the long run. Of late, the company has been divesting a number of its assets, particularly those that do not fit into its long-term growth plan.
The proceeds from the sales will likely be used for more profitable projects. Moreover, Suncor’s recent transactions to gain a majority stake in the massive Syncrude oilsands project is also a positive as it gives more leverage to the company to ride the rebound in oil prices.
Zacks Rank #2
Market Capitalization: $47 billion
Houston, TX-based Apache Corp. (APA - Free Report) is also on our radar. The energy explorer has a large, geographically diversified reserve base and multi-year trend in reserve replacement and production growth.
We appreciate the company’s initiatives to align capital spending with its cash flows while continuing to build a high-quality inventory of projects capable of delivering attractive returns even in a low oil price environment. We also believe that Apache's recently undertaken portfolio restructuring initiatives and cost-cutting measures should allow it to improve its earnings performance in the future.
Zacks Rank #2
Market Capitalization: $22 billion
While there are ample reasons to be cautious, there is still enough room to make money in energy stocks, if one focuses on the right companies. In particular, large cap stocks with a favorable Zacks Rank prove to be attractive options for investment.
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