Surging oil has energy stocks powering client portfolios. Should advisors stick around?

The spike in crude over the past month from $65 to $90 a barrel is causing concern and consternation for consumers and commuters.

For advisors and investors holding energy shares, however, it’s been a blessing. The State Street Energy Select Sector SPDR ETF (Ticker: XLE), which holds shares of oil giants Exxon Mobil (Ticker: XOM), Chevron (Ticker: CVX) and ConocoPhillips (Ticker: COP), for example, is up 11% in the past month and over 36% year-to-date.

But how much longer should they count that blessing?

Steven Wieting, co-founder an co-chief investment officer of CIO Group, says he would not be chasing energy-related shares higher in reaction to the still unresolved war. He maintains a “neutral” weight as the world was largely over-supplied with oil prior to the war. Ahead of the conflict, he added energy-infrastructure investments such as natural gas pipelines and exporters as an “overweight.”

“There are still a wide range of possible outcomes for the oil price. We would not sell here but rather add a variety of energy investments if there was a significant price drop,” Wieting said.

Elsewhere, Mark Luschini, chief investment strategist at Janney Montgomery Scott, says oil production, exploration and services companies look attractive given the longer range implications from this war relating to the need for more diversified sources of energy supply. However, the rally in energy stocks that has already occurred may leave them vulnerable to profit taking in his opinion.  

“Balance the near-term risk of some downside against the support that may have longer term for investment in the repair and replacement of energy supplies,” Luschini said.

Eli Horton, Managing Director at TCW, meanwhile is being selective in his immediate energy investing as a much longer trend unfolds. In his view, what is happening in the Persian Gulf is an accelerant to a structural shift that was already underway. The risks that energy investors have long treated as remote possibilities are manifesting in real time, and that tends to change behavior in lasting ways, according to Horton.

“The 1973 embargo and the 1979 Iranian Revolution each triggered durable, policy-backed shifts toward domestic supply, diversification, and energy resilience. The 1970s shocks triggered drastic improvements in energy efficiency and a surge of investment in energy resources across the non-OPEC world. Significant capital investment followed the crisis. We think the same dynamic is likely to unfold here, even if the path is unpredictable,” Horton said, adding that he is already focused on “critical bottlenecks” within the energy and power infrastructure including North American LNG, grid resilience, and the broader domestic energy value chain.

VOLATILITY RISING ALONG WITH OIL

CIO Group’s Wieting points out that during supply shocks, traders tend to buy contracts to an exaggerated “crisis price.” This occurred in February/March 2022 when oil peaked just one month after Russia’s invasion of Ukraine. The price fell sharply from $128 per barrel even though the war remains unresolved. For the record, brent hovered around $70 per barrel just before the Iran war.

“Energy shares have underperformed over the long-term, but they do help in the special case of energy supply shocks. Energy had little role to play in the inflationary shock of 2021-2022 for example,” Wieting said.

Meanhile, Luschini notes that energy is still a small sector in the stock market, representing just about 4% of the S&P 500 index. However, it has served as a good hedge during this conflict, and has been the only positive sector in the last month. Putting it all together, he believes energy has “useful qualities as a diversifier in portfolios” but it’s cyclicality suggests most investors should not establish a large weighting in it.

“If the Strait is not cleared for an extended period, oil prices will likely remain higher than the $55 level it traded at toward the end of last year.  That should provide a profitable tailwind for energy companies so long as the price does not spike materially higher, well in excess of $100 per barrel, where it destroys demand,” Luschini said.

Finally, TCW’s Horton believes energy warrants a core, structural allocation, but underwritten with a multi-year view.

“Every major energy disruption of the past 50 years ultimately produced the same effect: it forced investment in resilience that outlasted the crisis itself,” Horton said.