October 29, 2019

For all of 2019, the energy sector as a whole has sorely lagged, with stocks of many favorite integrated oil companies down by as much as 50%, and the junior oil producers have shed even more, in some cases. Exxon Mobil (XOM) was trading at $95 in mid-2016. Today it trades at $70. Occidental Petroleum (OXY) was changing hands at $88 in early 2018 and today it trades at $42. Among the smaller firms, Apache Corp. (APA) has lost 83.7% of its value over the past eight years, falling from $135 to $22.

Navellier & Associates does not own OXY or APA in managed accounts but does own XOM.   Bryan Perry does not own XOM, OXY or APA in personal accounts.

It has been the tale of two tapes, with the S&P trading near new highs while energy investors are wallowing in a full-fledged bear market. The world is awash in crude capacity and every time the price of WTI crude trades up to between $55 and $60 per barrel, the U.S. and global spigots get turned on to full output, saturating the market until there are coordinated efforts by OPEC and non-OPEC nations to cut production to stabilize prices. Rest assured, there is no shortage of oil and there won’t be anytime soon.

But all is not gloom and doom in the energy sector. While investors are all gaga about momentum in semiconductor, homebuilding, and bank stocks, it’s the energy refiners that are stealing the show and outperforming every sector on the board. Even as the summer driving season is past, with both oil and gasoline prices trending down, strong demand and steady crack spreads (spreads between the price of crude and the price of gasoline, jet fuel, diesel, distillates, and lubricants) continue to be favorable, so companies that refine oil into end market products are seeing a gusher of profits pouring into their coffers. 

Because commodity prices can be incredibly volatile, refiners’ margins can be volatile, too. Since 2006, the underlying commodity for the gasoline futures contract has been called “reformulated blendstock for oxygenate blending” (RBOB), the petroleum component of gasoline prior to the addition of ethanol.

A whole host of variables will dictate how crack spreads are determined. It’s not just the price of oil and seasonal demand. Differences in absolute price levels as well as short-term price changes across the world reflect varying gasoline specifications, refinery maintenance schedules, unplanned refinery outages, transportation constraints, and regional inventory levels. All these and more factor into the crack spread.

The chart below is of the U.S. Gulf Coast WTI 3-2-1 crack spread. The metric assumes that for every three barrels of crude oil, refiners produce two barrels of gasoline and one barrel of distillate fuel. The metric uses posted prices closest to what Gulf Coast refineries would receive for finished products and pay for crude oil. (Gasoline and distillates are fuels that refiners produce for end-use. Their chemical makeup is slightly different. Usually, gasoline is a lighter compound.)

USGC Crack Performance Chart

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

Doing the Math on the Crack Spread

To calculate the USGC WTI 3-2-1 crack spread, you take the price for two barrels of Gulf Coast gasoline and the price of one barrel of Gulf Coast heating oil (or gasoil) and subtract the price of three barrels of crude oil. For example:

  • Assume a Crude oil – WTI – closing price on September 25 of $56.38 per barrel
  • Take the gasoline – RBOB (Gulf Coast) – closing price on September 25 of $1.62 per gallon (multiply by 42 to get the price per barrel of $68.04).
  • Use a heating oil or gasoil closing price on September 25 of $1.81 per gallon (multiply by 42 to get the price per barrel of $76.02)
  • Take two barrels of gasoline + one barrel of heating oil or gasoil – three barrels of crude oil / 3 = crack spread
  • {(2 * $68.04 + $76.02) – (3 * $56.38)} / 3 = crack spread
  • $42.96 / 3 = $14.32 per barrel (crack spread)

Unlike the multitudes of publicly listed upstream, downstream, and integrated oil and gas companies, you can count the number of publicly traded leading refiners on one hand. For instance, the top 10 holdings in the VanEck Vectors Oil Refiners ETF (CRAK) account for 60.83% of its total assets. They are:

VanEck Vectors Oil Refiners ETF Top Ten Holdings Table

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

While this ETF has moved up 20% in the past two months, it’s the performance of some individual stocks that pay excellent dividend yields which are hitting new 52-week highs that deserve mention. Phillips 66 (PSX) has rallied 43.8% in five months – from $80 to $115 – and still pays a 3.15% dividend yield.

Phillips 66 Stock Chart

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

Shares of Valero Energy (VLO) have gained 39% over the same period – from $72 to $100 – and still pay out a fat 3.63% yield.

Valero Energy Stock Index Chart

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

And shares of Marathon Petroleum (MPC) have gained 51% during this same period and pay out a generous 3.12% dividend yield.

Marathon Petroleum Stock Index Chart

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

My view is that these three stocks are the very best to own and trade. For real yield hungry investors, CVR Energy (CVI) with its 7.1% dividend yield is hard to beat. In fact, Carl Icahn owns a majority stake in the company. The group has made a parabolic move up, so don’t chase any hot stock, but wait for what is historically and reliable – a substantial pull back – to establish proper entry points. But whether one buys into a single stock or the entire sector, there is clearly a stealth bull market in the oil refining business underway, and that clearly highlights how some sub-sectors of larger sectors can flourish.

Navellier & Associates does not own RIGD, NESTE, OMV, HFC, GALP, or PKN in managed accounts but does own CVI, PSX, MPC and VLO.   Bryan Perry does not own RIGD, NESTE, OMV, HFC, GALP, PSX, MPC, VLO CVI or PKN in personal accounts.

About The Author

Bryan Perry

Bryan Perry
SENIOR DIRECTOR

Bryan Perry is a Senior Director with Navellier Private Client Group, advising and facilitating high net worth investors in the pursuit of their financial goals.

Bryan’s financial services career spanning the past three decades includes over 20 years of wealth management experience with Wall Street firms that include Bear Stearns, Lehman Brothers and Paine Webber, working with both retail and institutional clients. Bryan earned a B.A. in Political Science from Virginia Polytechnic Institute & State University and currently holds a Series 65 license. All content of “Income Mail” represents the opinion of Bryan Perry