Why You Should Buy Energy Stocks over Tech Stocks

energy stock spark

As you probably know, I’ve been following the oil price closely over the past few months. Since bottoming in June, the price of West Texas Intermediate (WTI) Crude has jumped nearly 20%.

I normally quote the Brent Crude price, as that is the international benchmark. But the rise in WTI over the past few months is important to note.

WTI trades at a discount to Brent largely due to the big increase in US shale oil output, which has increased oil supply in the US market.

But as I argued in my special report on oil, US shale producers aren’t making much money. Yes, they’re producing lots of oil, but they must continually pump money back in to maintain production levels.

These producers need higher prices to remain viable. Is that why WTI and Brent crude have rebounded from their June lows?

According to Reuters, it’s both a supply and demand story:

Brent oil prices held near five-month highs, and were on track for the biggest weekly gain since late July, on forecasts for rising demand and the gradual restart of US oil refineries.

The Organisation of the Petroleum Exporting Countries this week forecast higher demand for its oil in 2018 and pointed to signs of a tighter global market, indicating its deal with non-OPEC states to cut output is helping tackle a glut.

That was followed by a report from the International Energy Agency (IEA) saying the glut was shrinking thanks to strong European and US demand, as well as production declines in OPEC and non-OPEC countries.

What I like most about the near 20% rise in prices over the past few months is that it’s been achieved in an environment of scepticism. Mainstream media reports (at least most of the ones I see) appear to question the rally.

The media even considered the recent hurricanes in the US — Harvey and Irma — to be bearish for oil prices.

This bearishness is, paradoxically, bullish for oil longer term. Any rally from a long and deep bear market (which saw oil prices fall from over US$100 a barrel to a low of nearly US$25 a barrel) will naturally draw a sceptical response.

That’s just the way markets work. We don’t evaluate things rationally, as the economic textbooks would have you believe. We are influenced by what happened in the past.

Think about it. Imagine you loaded up on energy stocks towards the end of the bull market, then sat back and watched as your investments went up in smoke when the bear market raged. You’d be pretty gun shy about getting back in, wouldn’t you?

And when you see oil prices rise, you read a sceptical media, and assume the rally won’t last. So you don’t participate. But prices keep rising, until you eventually decide to get in. Psychologically, this is how bear markets turn into bull markets.

Of course, there must be a fundamental underpinning for the change in sentiment. But the psychological aspect goes hand in hand with it.

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Given oil has put in a decent rally recently, it’s probably not far off a pullback. At this point, look out for bearish views to resurface. If that happens, you’ll know it’s another buying opportunity as this new bull market unfolds.

Speaking of bull and bear markets, let’s have a look at US techs stocks. I’ve mentioned a few times over the past few months that I thought the tech-heavy NASDAQ index was due for a decent correction.

So far, no so good on that call. Last week, the index made a new high, albeit only marginally. As you can see in the chart below, the trend looks strong.

NASDAQ COMPOSITE INDEX 18-09-17
Source: Optuma
[Click to open new window]

Fundamentally, there is a strong argument that the sector is overvalued. Psychologically though, the market doesn’t care. In a rising market, there is a huge amount of pressure on money managers to own the winners.

Tech stocks are hot, and no one wants to get off the train right now. While I wouldn’t want to bet against tech stocks here, I wouldn’t want to own them either.

There are better value opportunities around with more upside potential. Like energy stocks!

Keep in mind too the increased regulatory risks for tech as the sector becomes ever more powerful. As the Financial Times reported over the weekend:

EU efforts to impose heavier taxes on Google, Amazon and other tech giants are gathering momentum, even as some countries expressed misgivings about a French plan to target their turnover.

Paris has built a growing coalition of support for its plan, first reported by the FT, for a new EU law that would allow governments to impose a levy on internet giants’ revenues as an alternative to a traditional corporation tax on profits.

This is bad news all round. Trying to tax revenues won’t work, but it just goes to show that politicians don’t like it when companies manage to legally avoid paying taxes.

It also puts the spotlight on the Amazon type business model of targeting revenue growth (read market share) over bottom line profits. No profits, no taxes, which means taxpayers around the world are also helping to subsidise Amazon’s rise.

That is something politicians won’t continue to tolerate.

Regards,

Greg Canavan,
Editor, Crisis & Opportunity

Greg Canavan

Greg Canavan

Greg Canavan is a Feature Editor at Money Morning and Head of Research at Port Phillip Publishing.

He likes to promote a seemingly weird investment philosophy based on the old adage that ‘ignorance is bliss’.

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