Energy-focused funds have seen increased inflows in the past two months, and equity funds are beginning to increase exposure to the sector. Meanwhile the big energy company stocks are seeing a relatively strong period and the oil supply crisis in Iraq is boosting hedge-fund activity
What seemed a contrarian bet at the beginning of the year could be paying off for investors.
Global supply
“The situation in Iraq highlights the precarious balance in supply and demand in the global energy market. We are seeing an increase in hedge fund activities,” according to Iain Armstrong, oil and gas analyst at Brewin Dolphin.
The crisis could have global implications if the country, second largest oil producer in OPEC, has difficulty attracting investment despite its ambitious plans of doubling oil production.
For Will Riley, co-manager of the Guinness Energy Fund, the Iraq conflict is unlikely to have a significant impact in the short term.
“Oil prices have been strong for the past five to nine months due to the rising underlying forward curve. This reflects the improving long-term expectations feeding into the energy price and into oil companies,” he said.
The improving sentiment is due to a turnaround in the sector, according to Armstrong. The sector had been devalued as managers failed to deliver on operating costs.
He cites BP as an example of a firm that, along with the rest of the industry, made a turnaround in how it operates, foreseeing problems before embarking on projects and saving costs.
“It costs about $200m to drill a well in the Gulf of Mexico. To plug and abandon the well it costs another $200m, and re-drilling a further $250m,” he said.
“There has not been any massive depreciation in the oil price over the past four years. Oil majors may not have necessarily improved their earnings but they have improved their cash flow,” Armstrong added.
US energy
The US energy market is looking particularly favourable for some investors. The sector is a top stock pick for the fund manager team at Artemis, who are launching a quintet of US focused funds.
“We had time to do the basic reading about fracking, the growth rate of oil and gas productions and we are reassured it’s the real deal and will drive the US economy,” fund manager Cormac Weldon said.
Meanwhile Riley has been trimming exposure to the US on the Guinness Global Energy Fund for valuation reasons but still remains 45% in the sector, down 5% from around 50% earlier this year.
“We’ve taken profits from several US companies on a valuation basis. For example, we sold our Penn Virginia stock which recovered strongly in the last months on oil production, and Patterson, a services company,” he said.
Stocks he has recently bought include Apache Group, an oil and gas exploration and production company, and Devon Energy, one of the largest US-based independent natural gas and oil producers.
“We continue to look for value and if it’s a growth story, then we will pay higher multiples for the stocks,” Riley added.
The fund has seen investor flows ramp up since January this year, when it held $196m (£114m) and now stands at $380m (£221m).
Stock picking
The signs indicate that, amid global supply uncertainty, energy stocks are appearing on the shopping list of investor portfolios. Inflows into energy funds have been bolstered in the past months as underlying oil prices remain strong and big energy companies are profiting from restructuring operations. Whether or not energy will remain a favourite for investors going forward is going to be determined largely by valuations but for now it seems the sector is making a comeback.
