Oil Shock And Oil Shelter

Oil is now defensive as investors look for places to hide from what could become a prolonged commodity shock. Energy stocks are up a stunning 31% YTD . . . while the market as a whole is down 9% over the same period.

That’s a huge rally. The question is how much of it we should attribute to headline anxiety over cutting Russia out of the global energy market.

Frankly, I think the energy sector has at least another year of outperformance left to run. Stocks like ExxonMobil (XOM) and Chevron (CVX) were simply too depressed for too long.

OPEC really did a number on them back in early 2020, when the pandemic’s early stages provided cover to cut back on petroleum production in the face of what turned into a worldwide crash.

Before that, cartel discipline was already starting to break down as each member cheated on supply targets in order to grab more money. Then, when it became clear that the world was going to stop driving under the COVID cloud, there wasn’t any money left to chase.

U.S. drillers imploded as well. But now, with Russian crude off the menu for Western consumers, political will is rising to get the rigs moving domestically. Once and for all, people in Washington say, it’s time to eliminate foreign oil from our economy at least . . . and then we can export what we need to our friends.

With that in mind, I don’t see another oil bust ahead for at least another year. Russia needs to be brought back into the global economy before we see a real glut. That will take a significant amount of time even after the current war ends.

Otherwise, short of immediate demand destruction, oil prices will remain high enough to keep the drillers busy, which will make shareholders happy.

But there’s more to this than simple “drill, baby, drill” politics. While energy stocks have not been a good investment in the long term, they haven’t been terrible either.

Since the birth of modern sector ETFs roughly 24 years ago, energy has given buy-and-hold investors an annualized compound return of about 5.35% through boom and bust cycles. Like I said, not great compared to the S&P 500, much less the NASDAQ.

It’s really only been impressive when you compound that return across decades. Yes, people who bought the sector back in 1999 have roughly tripled their money. Great . . . until you start getting jealous of a quadruple return for technology sector funds or a whopping 5X return on the NASDAQ.

When you really look at the numbers, oil has been a defensive play, shielding investors from inflation threats that emerge while moving slowly toward the sky just like everything else. On that basis, I think defense will play out in its favor in the coming year.

Inflation is not going away, as I’ve warned you. The Fed can’t control overseas commodity shocks and an embargo on Russia definitely qualifies.

And energy stocks have a long way to go before they catch up to where they were headed before the pandemic struck. I’m going to call it right here: XLE, the biggest energy sector fund, can soar another 25% in the coming year without straining the long-term trends one bit.

Where else are you likely to find a 25% return right now? It isn’t guaranteed, of course, but again, unlike a bet on Big Tech raising the roof and breaking records, XLE is still more in rebound than rally mode.

Ask me again in a year. And if and when “green” stocks become more prominent in the economy, they’ll rise in the sector weightings as well. Remind me again why Tesla (TSLA) isn’t an “energy” company yet, please.

The time is coming. When it does, old oil stocks will make room on the index and in their operational portfolios for new technologies. Maybe then these stocks will be exciting again in the long term as well as the immediate future.