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Higher Oil Price: Winners and Losers

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Oil price has zoomed to the highest levels in more than three and a half years buoyed by potential export disruptions in Iran and falling production in Venezuela. Additionally, the historic output cut deal by OPEC, Russia and other producers to curb production is paying off, paving the way for a rebalancing of the oil market despite rising U.S. production.

The global benchmark Brent crude and U.S. West Texas Intermediate (WTI - Free Report) rallied above $77 and $71 per barrel, respectively. The bullish trend is likely to continue given that Trump has decided to restore sanctions on Iran, which will disrupt oil supplies in the major Middle East oil producer Iran, resulting in further tightening of the global glut.

Additionally, seasonality will continue to support a price surge in the coming months. This is because demand generally picks up in a summer driving season (which starts with Memorial Day at the end of May and lasts until Labor Day in September), leading to higher prices.

A Blessing

Higher oil price is big boon to energy stocks, especially producers and explorers, which get most of their revenues from selling the crude that they extract. This is because the cost of oil production or extraction remains low as companies look to lock in supply contracts at higher prices. The gap between production cost and selling price keeps on rising when oil price surges even higher, leading to fat profit margins and thus a spike in company’s share price.

As a result, the S&P Energy Index has gained 13.6% so far this quarter, easily outperforming the other sector. The Zacks Oil and Energy sector has gained 11% over the past month with some of the outperforming stocks including EP Energy Corporation EPE, Pioneer Energy Services Corp. (PES - Free Report) , Rex Energy Corporation , Transglobe Energy Corp (TGA - Free Report) , Penn Virginia Corporation PVAC, and W&T Offshore, Inc. (WTI - Free Report) . All these have soared more than 50% in a month.

The optimism in the energy sector has pushed up gains from Wall Street, which was struggling amid a series of woes. In fact, the major broad indices have turned green from a year-to-date look with the surge in oil prices.

Further, rising oil prices coupled with rising interest rates are acting as catalysts to the financial sector given that most banks are highly exposed to the energy space. This is because rising oil price alleviates the default risks for banks’ exposure to oil and gas companies, and creates additional credit demand that could result in improving credit quality. In particular, big banks like Bank of America (BAC - Free Report) , JPMorgan Chase (JPM - Free Report) , Wells Fargo (WFC - Free Report) , and Citigroup (C - Free Report) could be the largest beneficiaries with their direct exposure to the energy sector. These stocks climbed 2.4%, 0.8%, 3.7% and 0.6%, respectively, over the past month and have a Zacks Rank #3 (Hold).

A Curse

While almost every corner of the energy segment is shining, oil refiners might be hit. This is because the players in this industry use oil as an input for processing refined petroleum products. Hence, higher oil prices would crimp margins for refiners, leading to weak stock prices.

Higher oil price has also resulted in a spike in gasoline and jet prices that would make summer driving most expensive in four years, per the Energy Information Administration. According to AAA, the average price at the pump is about $2.83, up 21% year over year, with drivers in nine states paying $3 a gallon for regular gasoline. As such, transportation stocks could see rough trading with airline stocks such as American Airlines (AAL - Free Report) , Delta Air Lines (DAL - Free Report) , and United Continental (UAL - Free Report) being the biggest losers, as high fuel price may cut their profit margins.

Rising pump price is threating Trump’s tax cut benefits, which is the major pillar for future America. According to Morgan Stanley, higher gas prices are on track to cost Americans an extra $38 billion in 2018, wiping out about one-third of the benefits from the reduced tax rates. Per the analyst at Moody’s, sustained increase in the gasoline price would cost the average American $450 a year, offsetting about half the tax benefit.

Added to the woes is the resultant inflationary pressure that would raise the price of the products leading to a reduced consumer spending, which accounts for more than two-thirds of the U.S. economic activity. The discretionary and retail sectors would thus bear the brunt. However, these are the biggest gainers of the improving American economy and record consumer confidence. As a result, investors seeking to remain invested in these sectors should focus on the top-ranked stocks having Zacks Rank #1 (Strong Buy) or 2 (Buy). You can see the complete list of today’s Zacks #1 Rank stocks here.

Some of these include Sony Corporation (SNE - Free Report) , Ralph Lauren Corporation RL, Michael Kors Holdings Limited KORS, Dollar General Corporation DG, Kohl's Corporation KSS and Urban Outfitters Inc. URBN that are backed by strong fundamentals and analysts optimism.

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