Energy Sector Suddenly Comes Roaring Back
“It’s a gusher!” That’s the cry of a wildcatter when he strikes oil and watches a tower of black gold streaming into the sky. Well, investors are discovering that striking it rich in the oil patch of energy funds can be almost as exciting.
Energy funds, which invest heavily in oil and gas stocks, were losers in 1994 and even in the early months of this year. Oil and gas prices were depressed through much of last year--and few investors wanted to wait around. But those who left missed the gusher. In April and early May, the energy funds suddenly soared, thanks to a huge rally in oil and gas stocks.
After losing 4.05% last year, natural resources funds have gained 8.75% through May 11. Fund managers say conditions are right for energy stocks to remain strong the rest of the year.
The catalyst that sent energy stocks to new highs early this month was President Clinton’s decision to sever U.S. trading ties with Iran--a major oil producer. Although industry observers don’t expect the ban to seriously affect world oil supplies, the suggestion of a shortfall--leading to higher oil prices--was enough to send energy shares climbing.
Actually, fund managers said, there were better reasons for the surge in energy stocks. For instance, on the day of President Clinton’s announcement, Mobil Corp. said it would trim 4,700 jobs as part of a cost-cutting program needed to remain competitive. Mobil already has pared 10,000 jobs since 1991. The news from Mobil quickly sent its stock to $100 a share. It has since slipped back to $97.25, but remains up nearly a third since last fall.
“It’s a cost-cutting story. Mobil’s delivering. The Street loves it,” said Thomas R. Samuelson, manager of the Invesco Strategic Energy Fund.
“Lean and mean” has become a dominant investment theme in the energy business, the fund managers said. Thus, managers have searched for companies that are able to cut costs and improve efficiency.
“We’re at the point where you cut, you cut, you cut, and it’s showing up in the earnings of these companies,” said Daniel Pickering, manager of the Fidelity Select Energy Service Fund.
Cost-cutting is one reason that oil companies recently reported higher-than-expected earnings. Those gains, in turn, were helped by strong showings by the firms’ chemical operations, according to Jeanne L. Mockard, manager of the Putnam Natural Resources Fund. Another key profitability factor, fund managers said, was the rise in oil and gas prices. Gas prices, which stood at about $2.30 per thousand cubic feet in early 1994, fell throughout the year and dropped to $1.25 in January. They have since moved back up to $1.66. Pickering said he expects prices to get as high as $1.85 this year and to average $1.65.
Oil prices, which stood at $14 a barrel in early 1994, moved up to $17 in the second half of the year and now stand at $19.50. A key factor, Pickering said, is concern about Iraqi oil coming back on the market, which he called “a psychological negative.” However, by the time Iraq could bring its 2.8 million barrels a day back on line, he said, the oil may be needed.
“We’ve got demand growing by 1 million barrels a day, driven by Third World developing markets,” Pickering said.
Daniel Rice, manager of the State Street Research Global Energy Fund, said he expects natural gas prices to rise above $2 per thousand cubic feet and oil prices to remain in the range of $18 to $22 per barrel. He predicted energy stocks will rise 10% to 15% by late fall. “The real upside will come from natural gas,” he said.
With hindsight, it is clear that a turnaround in energy stocks has been brewing quietly since late last year. Standard & Poor’s energy industry indexes hit bottom between Dec. 5 and Feb. 13, before starting to climb steadily.
Investors interested in energy funds should be aware that such funds often are structured as natural resources funds, meaning that they may invest in mining stocks, including gold and other precious metals, which can be volatile.
Among the purest energy “plays” are two Fidelity funds: Select Energy, which has most of its money in large domestic integrated oil companies, and Select Energy Service--Pickering’s fund--which concentrates on companies that provide drilling services and equipment.
At Putnam’s Natural Resources Fund, manager Mockard said she changed the fund’s emphasis when she took over about a year ago. She reduced the fund’s reliance on energy stocks and increased its investments in chemicals, steel, paper and precious metals. “I thought that would give the investor a better return,” she said.
Another investment style is found at State Street Research Global Energy Fund, where manager Rice specializes in the stocks of small companies in the energy production and service sector. In good times, he said, his stocks tend to rise twice as much as others; in bad times, his stocks fall twice as hard, a feature typical of small stocks. Thus, Rice’s fund, which lost 4.4% in 1994, and dropped another 5.3% in the first quarter of this year, gained 9.2% in April alone.
One of the more unusual investments by a natural resources fund can be found at the T. Rowe Price New Era Fund. Manager George A. Roche has 4.5% of his money in Wal-Mart Stores--a major retailer. Roche made the investment to try to protect the fund during times when energy, mining and other resources stocks are out of favor.
Energy and natural resources funds spend a lot of time being “out of favor,” but for now, at least, their investors can sit back and enjoy the gusher.
