Energy sector overview
Apparent discipline among oil producers appears to have helped the energy sector, although questions remain as to how long that can last. While lackluster global growth and fuel efficiency improvements have dampened oil demand in recent years, it's possible that rising U.S. and global economic growth and potential geopolitical uncertainty eventually could lead to higher oil prices.
Market outlook for the energy sector
Political tensions in Saudi Arabia have appeared to increase concern that the flow of oil from the region could be affected, resulting in a move higher in oil prices. At this point, we don’t see the situation developing that way and believe there was some overreaction that will be reversed. Of course, the situation could widen and deteriorate, at which point we would have to reassess our view. More fundamentally, oil producers have shown signs of discipline as of late, with the domestic rig count turning modestly lower and Reuters reporting approximate 90% compliance rate among OPEC and non-OPEC members who agreed to cut production through March of 2018. This appeared to have helped the energy sector rally after a rough first half of the year, although the recent moderation in gains lead us to believe investor skepticism remains. We also continue to be skeptical that the discipline will hold, especially as lower costs become available to American producers, meaning that a sustainable rally at this point seems unlikely to us.
Meanwhile, Libyan and Nigerian oil production has risen, according to the IEA, which partially offsets the cuts that have been made by OPEC. OPEC members are notorious for violating agreements according to IEA records, and we have heard reports from Reuters that the Iranian oil minister complained that Libya and Nigeria aren't subject to the same cuts as other OPEC members. this could result in breaks in the agreement, in our opinion, which could put downward pressure on oil prices. However, global growth has improved, with recent Markit PMI readings rising, which could help to support oil demand growth. But at this point we don’t think growth will rise to the point of producing a spike in the need for oil, keeping us in the marketperform camp.
It is often said that the cure for high energy prices is high energy prices. The opposite can also be true: low energy prices can stimulate demand—resulting in potentially higher prices. Overall, we believe the factors outlined above support a rating of marketperform.
Factors that may affect the energy sector
Positive factors for the energy sector include:
- Potential increase in energy demand: The U.S. economy is growing, and developing nations will likely need more energy as they improve their infrastructure and modernize their economies.
- Accommodative monetary policy: Central banks in the developed world generally appear to have an easing bias, which could help the more cyclical sectors such as energy.
- Rising geopolitical tensions: These tensions, if raised, could result in higher oil prices.
Negative factors for the energy sector include:
- New supply: Energy supply has increased dramatically with a renewed commitment to exploration and technological improvements.
- Increased conservation: Conservation efforts and new technology could affect the growth in demand for energy products.
- Energy use restrictions: Severe pollution problems in China could result in mandates to cut energy use
Clients can see our top-rated stocks in the energy sector.
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