In this article, we will take a look at the top 10 oil and gas stocks to invest in. You can skip our comprehensive analysis of the oil and gas industry and go directly to the Top 5 Oil and Gas Stocks to Invest In.
The COVID-19 crisis clobbered the oil and gas industry. The industry that was already going through major changes amid price volatility and global shift to renewable energy saw billions of dollars disappear in value within a matter of weeks after the pandemic. According to energy consultant Wood Mackenzie, the global investment in oil and gas production is forecasted to remain below pre-pandemic levels until 2025. In 2020, oil and gas firms made up only 2.3% of the S&P 500, down from 15% in 2008. In the same year, S&P Dow Jones Indices reported the most significant revisions in the index in seven years where Salesforce.com, Inc. (NYSE:CRM) replaced the longest-serving component, Exxon Mobil Corporation (NYSE:XOM), which has been in the Dow since 1982. During the pandemic, the global oil demand decreased by up to 30 million barrels per day. In the United States alone, oil output dropped by approximately 2 million barrels per day, the largest monthly decrease since 1980.
Growth Catalysts for Oil and Gas Stocks
The pandemic may have taken its toll on the oil and gas industry, the sector will continue to thrive, given its essential nature to the global economy. In the United States alone, there are already 1.7 million operating oil and gas wells. In an analysis by Research and Markets, the worldwide oil and gas demand is forecasted to rise at a compound annual growth rate (CAGR) of 25.5%, from $4677.45 billion in 2020 to $5870.13 billion in 2021.
As the world slowly recovers from the COVID-19’s economic and social disruptions, most nations start to lift quarantine restrictions and ease travel bans, which rings the bell for the travel and leisure industries. Oil research firm Rystad Energy projects that road and jet fuel demand would increase 9% and 21%, respectively. And as travel restrictions ease, road fuel will lead the global oil recovery this year.
The International Energy Agency (IEA) is optimistic that the demand for oil and gas will continue to grow given the rapid economic recovery. The world’s oil demand is forecasted to rise by 5.7 million barrels per day to 96.7 million barrels per day in 2021.
Oil and Gas Industry in the Biden Administration
During Biden’s first few months in office, the administration issued a leasing ban for oil and gas sales in climate change worries and in line with the government’s plans for net-zero emissions by 2025. It is still unclear how much legal power the government has to halt fracking on the roughly 23 million acres (9 million hectares) of land formerly leased to oil firms.
Gas and oil companies are starting to adjust for and prioritize net-zero greenhouse emissions. For instance, Duke Energy Corporation (NYSE:DUKE) cut its emissions by above 30% since 2005. The company has also purchased a 37-megawatt portfolio of distributed solid cell technology servers from Bloom Energy Corporation (NYSE:BE). The servers use reliable oxide fuel cell technologies to turn natural gas or biogas into electricity without combustion. The servers decrease greenhouse gas emissions equal to level zero-emission wind. In 2020, Duke’s revenue came in at $23.9 billion, down from $25.1 billion in 2019.
Technology and the Oil and Gas Industry
Oil and gas companies are starting to turn to tech giants to support streamlining processes and increase productivity. The industry will continue to progress, given its ability to adapt to the digital world. In 2019, Exxon Mobil Corporation (NYSE:XOM) announced a partnership with Microsoft Corporation (NASDAQ:MSFT) to improve real-time oilfield data, prioritize staff deployments, track leakage, and control greenhouse gas emissions. Microsoft’s cloud Azure will boost oil production by as much as 50,000 barrels a day by 2025. Other companies, such as Sinopec Shanghai Petrochemical Company Limited (NYSE:SHI), a Chinese chemical and petroleum conglomerate, have announced plans to build ten intelligent centers to help cut operating costs by 20%.
In February 2021, Chevron Corporation (NYSE:CVX) launched its $300 million Future Energy Fund II, progress from Future Energy Fund in 2018. The technology focuses on innovations that can make energy more efficient, secure, and environmentally friendly for all. The company’s operating revenue came in at $94.47 billion in 2020. Chevron also recently invested in Blue Planet Systems Corp, a company that produces and implements carbon capture technologies to offset carbon emissions. Chevron and Blue Planet signed a partnership deal on pilot projects and commercial production in several areas.
Despite the significance of the oil and gas industry to the growing economy, investors must remain cautious about investing in these stocks, given the decrease in demand. The entire hedge fund industry is feeling the reverberations of the changing financial landscape. Its reputation has been tarnished in the last decade, during which its hedged returns couldn’t keep up with the unhedged returns of the market indices. On the other hand, Insider Monkey’s research was able to identify in advance a select group of hedge fund holdings that outperformed the S&P 500 ETFs by more than 124 percentage points since March 2017. Between March 2017 and February 26th 2021 our monthly newsletter’s stock picks returned 197.2%, vs. 72.4% for the SPY. Our stock picks outperformed the market by more than 124 percentage points (see the details here). We were also able to identify in advance a select group of hedge fund holdings that significantly underperformed the market. We have been tracking and sharing the list of these stocks since February 2017 and they lost 13% through November 16th. That’s why we believe hedge fund sentiment is an extremely useful indicator that investors should pay attention to. You can subscribe to our free newsletter on our homepage to receive our stories in your inbox.
To identify the top 10 oil and gas stocks to invest in, we started with the 30 holdings from the iShares US Oil and Gas Exploration & Production ETF as of April 16, 2021, and we were able to narrow down our list to 10 stocks by using the hedge fund sentiment scores. Hedge fund sentiment means the number of hedge funds bullish on a stock. We calculate that by evaluating 13F holdings disclosed by over 800 hedge funds. With that said, we present to you the top 10 oil and gas stocks to invest in.
No of Hedge Fund Holders: 26
Total Value of Hedge Fund Holdings: $191 Million
The American multinational energy company Phillips 66 ranks 10th in the list of top 10 oil and gas stocks to invest in. Phillips 66 is an energy manufacturing and logistics company that has over 400,000 fractionation capacity at Sweeny. In a recent report, the energy giant set a $1.7 billion 2021 capital budget to prioritize the execution of ongoing programs and increase investments in renewable fuels. The company recently opened its 3 acres, 24 fueling modernized gas stations in Houston. The new station exemplifies Phillips 66’s continuing attempts to elevate its fuel brands, including Conoco and 76, JET, and JET and Coop.
On April 1, Piper Sandler’s analyst downgraded PSX from Overweight to Neutral. The analyst raised his price target to $85, up from $80. Long-term, the analyst argues that Phillips 66’s “diversified” portfolio base offers “secular advantages” and that the market currently represents an acceptable risk profile for the stock. The company has a market cap of $34.1 billion and offers a dividend yield of 4.62%. Philipps 66’s operating cash flow in the full year 2020 came in at $2.1 billion. Shares of PSX jumped 34% over the last twelve months.
The number of bullish hedge fund bets went down by one recently. Phillips 66 was in 26 hedge funds’ portfolios at the end of December. An insider recently purchased 77 shares at $76 in February 2021. The stock is up 1% since then.
Black Bear Value Partners mentioned that PSX should be able to extract significant volumes of cash in the coming years, with a free cash flow yield of 15% or higher based on quarter-end pricing in its Q4 2020 investor letter:
“PSX has been a top 5 position in years past. Its long-term value is similar to when we last owned it but is down 50+% in price in sympathy with broader energy concerns.
PSX is an integrated energy company with 4 central divisions: refining, chemicals, midstream (pipelines etc.) and marketing (gas stations). Due to downstream demand destruction, the refining businesses is taking it on the chin. This could persist for the remainder of 2020 and into 2021. As in years past, a lot of focus is given to the refining business as it has historically been the lion’s share of the value for PSX. Management has invested in the non-refining businesses who now make up most of the value of the company.
Management is extremely thoughtful with capital allocation and has focused on a healthy balance sheet with opportunistic share repurchases. They do not spend capex on projects unless they meet a healthy margin of safety for returns.
PSX should be able to generate substantial amounts of cash in the coming years and generate a 15+% free cash flow yield on quarter-end pricing. If the stock remains low management will be buying in a lot of stock.”
No of Hedge Fund Holders: 33
Total Value of Hedge Fund Holdings: $366 Million
Hess Corporation is ranked 9th in our list of top 10 oil and gas stocks to invest in. Hess Corporation was formed by a merger in 1968 of Hess Oil and Chemical and Amerada Petroleum. It is an independent energy company that focuses on the generation of crude oil and natural gas. In 2018, Hess bought a 15% stake in the Kaieteur Block, which is about 155 miles offshore and adjacent to the Stabroek Block. The Kaieteur Block is made up of 3.3 million acres of land. For 2021, the company allocates $1.9 billion for research and production capital and exploratory resources for plans offshore Guyana and in the Bakken.
On April 1, Piper Sandler kept an Overweight rating Hess and raised the price target to $86. Shares of HES soared 93% over the last twelve months. The company has a market cap of $21.3 billion and offers a dividend yield of 1.42%. Hess Corporation’s full-year 2020 revenue came in at $4.7 billion, down from $6.5 billion in 2019. The stock was in 33 hedge funds’ portfolios at the end of the fourth quarter, down from 35 in the third quarter.
“We took a short position in Hess (HES) during the first quarter due to what we believed to be a weakness in their assertion that the Bakken would serve as a cash engine, along with their Gulf of Mexico assets, to pay for the development of their offshore Guyana fields. Our analysis suggested that not only was their fracking in the Bakken unprofitable but that it was unlikely ever to be so. The market very quickly told us that although we might be right in our analysis of the fundamentals, it did not care. We suspect that much of this has to do with the fact that Hess had hedged nearly 100% of their production in 2020 during the relatively high priced 2019 period, but we cannot be certain. Since we closed out the position, the stock has rallied a further 45%. We take this as directional evidence (perhaps) of a good decision. Hess contributed -0.19% to the portfolio during the quarter.
We have mostly avoided shorting oil companies in the last few years. The opportunity is appealing but extremely tricky to evaluate. Hess remains an interesting short. We have little confidence in the long-term viability of operations in the Bakken, and Hess remains a large player. Yet as the firm moves further along in their development and monetization of assets in Guyana, the weight of the Bakkens failure to play a meaningful role in producing positive free cash flow becomes increasingly difficult to determine by looking at the financials and perhaps less significant to the market. One thing that seems increasingly true of the environment we are investing in is that bad capital allocation by management teams can be easily forgiven if there is plenty of liquidity, even if access to liquid capital imperils long-term solvency.”
No of Hedge Fund Holders: 34
Total Value of Hedge Fund Holdings: $412 Million
Ranking 8th on the list of top 10 oil and gas stocks to invest in is Diamondback Energy, Inc. The Midland, Texas-based energy company has over 1,316 barrels of oil equivalent of measured fixed resources in the Permian Basin. The company recently purchased QEP Resources, the natural gas and oil production company, in a $2.2 billion including debt deal. The company expects net oil output of 360,000 to 370,000 barrels of oil equivalent per day in 2021, up from earlier estimates of 308,000 to 325,000 barrels.
Diamondback Energy, Inc has a market cap of $14.0 billion and offers a dividend yield of 2.02%. The company’s cash flow in 2020 came in at $2.1 billion. The stock has gained 151% over the last twelve months. On April 19, Morgan Stanley kept Diamondback Energy as an Overweight stock and raised the price target to $107. There were 34 hedge funds that reported owning stakes in Diamondback Energy, Inc at the end of the fourth quarter, up from 23 funds a quarter earlier.
“We also bought Diamondback Energy. For the first time in decades, we find energy to be quite attractive. Companies are finally focusing on cash flow and returns. Diamondback is a low-cost shale producer that screened well on a number of metrics we pay attention to (dividend yield, free cash flow yield, discounted cash flow, and insider buying). They recently added ROIC to their management incentive compensation. They plan to continue to pay down debt and maintain the dividend. The company is obviously levered to increasing oil prices.”
No of Hedge Fund Holders: 38
Total Value of Hedge Fund Holdings: $409 Million
Ranking 7th on the top 10 oil and gas stocks to invest in is Valero Energy Corporation. Headquartered in San Antonio, Texas, Valero Energy Corporation is among the biggest petrochemical products and power manufacturers, with over 15 petroleum factories located in the United States, Canada, and the United Kingdom. The company is the most prominent buyer of Venezuela’s oil. In 2018, VLO purchased 207,800 barrels per day for its Texas and Louisiana refineries. The company recently entered a partnership with Navigator Energy Services to construct an industrial-scale pipeline to collect, ship, and store CO2 emissions from initially 1,200 miles through Illinois, Iowa, Minnesota, Nebraska, and South Dakota.
On April 16, Raymond James Financial, Inc. analysts rated VLO a Strong Buy with a price target of $96.00. The analyst mentioned there is a 35.40% upside opportunity at the share price of $70.90. The company has a market cap of $28.9 billion and offers a dividend yield of 5.41%—Valero Energy Corporation’s full-year revenue was at $64.9 billion in 2020. Shares of VLO jumped 43% over the past twelve months.
No of Hedge Fund Holders: 38
Total Value of Hedge Fund Holdings: $2.27 Billion
Houston, Texas-Based liquified natural gas company Cheniere Energy, Inc. ranks 6th on the list of the top 10 oil and gas stocks to invest in. The company operates through two segments: LNG terminal business and LNG and natural gas marketing business. In 2019, the company received approval from the US Federal Energy Regulatory Commission (FERC) to site, develop, and run the Corpus Christi Stage 3 expansion project. Stage 3 is designed to accommodate up to seven midscale liquefaction trains, with a gross nominal LNG output capacity of about 10 million tonnes per year.
Cheniere Energy, Inc. has a market cap of $18.92 billion. The company’s full-year 2020 total revenue is $9.35 billion, down 3.8% from 2019. The stock gained 80% in the last twelve months. As of the end of the fourth quarter of 2020, there were 38 hedge funds that reported owning stakes in Cheniere Energy, Inc., down from 40 funds a quarter earlier.
Horizon Kinetics mentioned that Cheniere is currently undergoing a long-term expansion that will result in major capacity additions in the coming years in its Q2 2019 investor letter:
“Cheniere Energy was formerly an oil and gas exploration company. Around 1999, it abandoned its oil and gas drilling strategy in favor of building a liquefied natural gas terminal on the Gulf Coast – management at the time believed that the abundance of the natural gas reserves held within the United States could position it as a large net exporter of liquefied natural gas.
Over the course of the next two decades, Cheniere managed to navigate the quite cumbersome regulatory and permitting process. Eventually, permission was granted, and construction of the Sabine Pass facility commenced. Yet, given the immense capital requirements of the export facilities, Cheniere financed construction mostly through debt. Since a number of years were required to complete the construction, during which no operational revenues were produced, the incremental debt continued to accumulate, leaving it as a highly leveraged company.
However, the debt obligations (in particular, the interest payments on the debt) can be predictably managed through the structure of the revenue stream. The company’s shipments are based on contracts that generally extend 20 years. They allow for a fixed annual fee to be paid, in addition to a variable rate that is based on the prevailing Henry Hub natural gas spot price. The fixed payments are essentially a non-refundable deposit paid to Cheniere regardless of the volume shipped. The variable payments, of course, depend on the quantity of LNG shipped to each customer, and are structured such that Cheniere collects a price equal to 115% of the Henry Hub price – meaning, it should never be forced to deliver LNG at below market prices. In essence, there is a highly predictable, programmable element to the company’s forward earnings and cash flow, to a degree rarely encountered.
Currently, Cheniere operates six natural gas liquefaction terminals, or trains (five at its Sabine Pass, Louisiana facility and one at the newly constructed Corpus Christi, Texas facility). Production capacity for 80%-95% of its total shipment volume at most locations already has been secured under contracts lasting at least 20 years. In 2018, the company generated $8 billion in revenues and $1.2 billion of net income.
Given the abundance of natural gas being produced in the United States right now, Cheniere has embarked upon an expansion strategy, which will consist of three additional trains at a new export facility in Corpus Christi, Texas (strategically located near the Permian Basin). Commercialization of two of these trains is expected to occur in 2019, with the total project reaching completion in 2021. Based on current plans, the company will have nine full-size trains operating overall, as well as several smaller trains at the Texas location.
Cheniere is in the middle of a long-term growth expansion that will add significant capacity in coming years (and quite a bit in 2019 alone). It currently has $32 billion in total assets (and $28 billion of debt). One way to roughly estimate the earnings power of this balance sheet is to compare the returns of the oil/gas pipeline companies – a somewhat similar set of regulated energy companies with long-term revenue contracts. Based on a sample of the largest pipeline operators, the after-tax return on assets is in the range of 3%-10%. If Cheniere can only earn a 6% ROA, it would generate over $7/share of net earnings. At a low multiple of 12x, the share price would be $89, which is a significant premium over the current price.
Additionally, only half of the company’s assets are actually operational, while the balance still represents construction-phase projects. Based on income recorded in 2018 relative to the operational assets, the longer-term ROA (when all construction is finished and the assets are mobilized) might be closer to 8%. This would suggest a share price of roughly $120, which is twice the current price.”
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Disclosure: None. Top 10 Oil and Gas Stocks to Invest In is originally published on Insider Monkey.