Calling for an upside breakout in oil prices, as I did in my Real Money column yesterday, can make one feel like the boy who cried wolf. I suppose if one made that call often enough, one would eventually be correct, but would anyone listen?
I have had some interesting conversations this morning with CFOs and CEOs of energy exploration and production companies (E&Ps) in regard to yesterday's column. To a man, they all hope I am right about a coming upside move in crude prices, but with the burn of January to March's false move into the low $50s still fresh, they are still hesitant to commit more capital. In fact, as Real Money colleague Jim Cramer and I have noted in previous columns, many E&P companies cut capital budgets for 2017 during their midyear planning reviews, and my group of wise men are no different.
Cutting capital budgets doesn't necessarily mean lower production, as each one of the companies represented in my group exceeded production guidance for the first half, so the lower spend in the second half really nets out to zero impact on my earnings models.
If there's one thing I have learned in the last five years of analyzing and investing in E&P stocks, however, it is that price is much more important than volume.
Each company has its own idiosyncrasies, but to generalize in terms of stock market effect, a $1 move in West Texas Intermediate crude oil futures (or 2% in either direction at current prices) is much more important for E&P stock prices than would be a company-specific increase or decrease in production guidance of 2%. The relative share price impacts are just not even close. E&Ps move based on oil futures; it is what it is.
So the individual company fundamentals -- lifting costs, mix of production among oil/natural gas/natural gas liquids, etc. -- have been less important from a trading perspective than calling the commodity. That said, this is a terribly risky industry in which to speculate, and unless you are buying a global integrated behemoth for a long-term hold -- Exxon (XOM) remains my favorite; don't panic on dips and keep reinvesting your dividends -- you want to buy stock in companies that are best positioned. Put another way, if this group is itching for a 10% pop (I believe it is), then you want to own the individual names that will rise 20% -- double the group's move.
So with an oil breakout in the offing, I want to invest in E&P companies that produce mainly oil, as opposed to those with heavy concentrations of natural gas. Also, I want companies that will be able to keep as much of that commodity price windfall as possible due to lower lifting costs, and in North America the lowest-cost plays are in Texas. I'm working on a couple of really interesting opportunities in the Eagle Ford shale in South Texas -- I'll cover that in a future column -- but really, the gold standard in North American oil profitability is the Permian Basin in West Texas.
To capture a quick upward move in oil prices, it's probably best not to overthink it. Just go with these Permian titans, many of which I have mentioned in previous Real Money columns. The following is my "Top 11" list of large, independent E&P companies with heavy exposure to the Permian. It is a good place to start to build an energy portfolio for an upside move in crude.
Callon Petroleum (CPE)
Centennial Resources (CDEV)
Concho Resources (CXO)
Diamondback Energy (FANG)
Laredo Petroleum (LPI)
Parsley Energy (PE)
PDC Energy (PDCE)
Pioneer Natural Resources (PXD)
RSP Permian (RSPP)
WPX Energy (WPX)