Energy funds are leading again, but the war in Ukraine makes the future uncertain

The wonderful pace of energy markets shows no signs of slowing down. After topping the charts in 2021, funds that invest in energy stocks again showed the strongest performance of each sector in the first quarter.

But some investors are wondering how much longer this series could continue in the face of growing uncertainty as European leaders discuss halting Russian imports and as sanctions, inflation and the pandemic threaten global growth.

“I don’t think I would add exposure to energy now,” said John Maloney, chairman of M&R Capital Management, a New York-based wealth management firm. “Stocks may have a bigger impact, but you don’t have to grab the last dollar of profit.”

Energy funds grew by 32% in the first three months of the year, which is the highest return on each sector. In 2021, when demand recovered from the depths of the Covid-19 pandemic, energy stocks rose 40.9 percent, compared to a 26.9 percent rise in the S&P 500.

As is often the case, shares of energy companies have taken signals from oil prices. Brent crude oil, a closely monitored global benchmark, jumped to an all-day high of nearly $ 140 a barrel on March 7 – its highest point since 2008 – as the United States prepared to ban Russian energy products from entering the country. the country. It has since settled close to $ 100 a barrel, and the US Energy Information Administration predicts it will trade at an average of $ 105 a barrel this year, well above the $ 71 average in 2021.

European Union leaders continue to discuss how quickly and how seriously to reduce their dependence on Russian energy. But even without a total ban on Russian energy in Europe, many companies are avoiding it. “There is a scarlet letter related to the purchase from Russia,” said Tom Klose, global head of energy analysis at the Oil Price Information Service. This could lead to higher oil prices worldwide.

EU leaders have also announced ambitious plans to buy more liquefied natural gas from US producers. Even before Russia’s invasion of Ukraine – and President Vladimir Putin’s threat to turn off the tap if countries did not pay in rubles – low natural gas reserves and record prices in Europe forced American producers to send more gas there. European imports of liquefied natural gas from the United States reached record highs in December, which have since surpassed January and February.

But there is a catch. The United States, the world’s largest energy producer, does not have much spare capacity for oil or gas.

“The barrier to many liquefied natural gas projects in the Persian Gulf is not the government’s permission, but the lack of financial support,” said Jason Bordoff, co-director of the Center for Global Energy Policy at Columbia University. “But the Europeans have sent a signal that they intend to sign more long-term contracts for the supply of liquefied natural gas, so this should help these projects reach final investment decisions.

Not only financial supporters are reluctant to fund new exploration and production. Shareholders are pushing for more of the profits after years of poor returns on energy funds. According to Morningstar Direct, a typical investor who bought an energy reserve fund five years ago would only soon break up. So the energy industry is focusing on shareholder returns, rather than pouring profits back into its business, a strategy that markets call capital discipline.

“Capital discipline is not just about which fields you will drill,” said David Lebowitz, global market strategist at JP Morgan Asset Management. “The new approach is to win profitable deposits and drill five to seven wells, not 10. If you’re an energy company, you don’t want to overwhelm the world.”

In the portfolios that Mr. Maloney manages for clients, he includes the exchange-traded Vanguard Energy Fund. The $ 8.3 billion fund had a return of 39 percent in the first quarter after a management fee of 0.1 percent. Exxon and Chevron are the first two holdings with a total weight of 38 percent. Exxon shares rose 36.5% in the first three months of the year; shares of Chevron rose 40.1%.

Chevron has paused sales of certain chemicals and consumer products in Russia and said there are no research or production operations there. It has a 15% stake in an oil pipeline that transports crude oil from Kazakhstan to a Russian Black Sea terminal, where supplies continue. There, Kazakh oil could be mixed with Russian crude oil, although Chevron said “efforts are being made in accordance with US law.”

Exxon, which has done much more business in Russia, announced on March 1st that it is leaving the country and will not make additional investments there, “given the current situation.” She was carrying out a major research project in Russia’s Far East known as Sakhalin-1.

Mr Maloney said that following rising stock prices over the past year, he was looking mainly at energy stocks as hedging against other reverse-holding holdings, such as airlines, freight forwarders and other fuel-sensitive companies. prices.

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