Why the energy sector will stabilize soon

By Markets Covestor

As 2015 unfolds, I believe the biggest opportunities remain in the sectors that underperformed in 2014.

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In my opinion, some of the stocks in these sectors are very attractive at current valuations, and many of them were dumped in 2014 by individual and institutional investors for the wrong reasons.

I see some interesting opportunities especially in the energy sector, where many companies are being traded under book value.

 

 

Energy rebound?

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My position in Ecopetrol (EC) has a price to book value is 0.8, my position in Lukoil (LUKOY) is being traded at an even lower price to book value – 0.3.

These stocks are down over the past three months (as are most other energy stocks) mainly because of the sudden drop in oil prices, which is putting enormous pressure on the entire sector as well as global economies.

As the economy improves in the US, I expect the energy sector to recover as well.

A growing economy demands more energy, and that can quickly turn things around.

 

Dividend power

The other reason I believe that the energy sector has the potential to do well in 2015 is because the sector continues to deliver healthy dividends (as a consequence of the drop in stock prices).

If the U.S Federal Reserve increases interest rates this year, the stock market will shake.

Investors will likely reallocate some of their capital to fix income instruments and will look for protection by investing in utilities, healthcare, or energy companies that are currently paying generous dividends.

 

Venezuela

I strongly believe that very bad news will come from Venezuela this year, the economy is on the verge of collapse due to drop in oil prices.

Venezuela owe China $50 billion that the Chinese loaned them since 2006, and if oil prices remain low, the likelihood of repayment decreases exponentially.

While this would likely have a major impact on the global economy, a cut in production in Venezuela due to social tension can immediately send oil prices back up.

Some consolidation may also occur in the energy sector in 2015 as smaller companies won’t be able to survive if oil prices continue to fall.

 

Wall Street

An example of this consolidation occurred in the financial sector during the financial crisis of 2008 when Wells Fargo (WFC) acquired Wachovia, Bank of America (BAC) acquired Merrill Lynch, and JPMorgan Chase (JPM) acquired Bear Stearns.

These acquisitions helped increase productivity, and reduce operational costs and marketing.

A similar process can happen with this oil crisis, consolidation takes place when things are bad, and in the long term it can be very beneficial for the companies making the acquisition (s).

It is just a matter of time until the energy sector stabilizes – making this sector a good opportunity for value investors looking for long term investments.

 

Portfolio

In 2014, the Dividend Paying Large Caps portfolio portfolio was up 0.2% as compared with 13.7% of the S&P 500.

For the most part of 2014 my portfolio outperformed the S&P 500, but after September when oil prices dropped dramatically, my portfolio lost most of the gains accumulated throughout the year.

The loss of gains in my portfolio was due in large part to the fall of Ecopetrol and Lukoil, two positions in the energy sector that I acquired too early just as prices started to go down.

I never anticipated oil prices would go as low as they have.  However, as the old adage says, stocks can’t continue go up forever, and I believe the same is true of when they are going down.

Oil prices may drop even lower but I don’t expect getting it for free anytime soon. China won’t probably leave Venezuela lead to default and certainly Russia still have a lot of power to pressure Europe and force higher oil prices again.

 

Recovery looms?

If those things take place at the same time, the beginning of the recovery may be around the corner.

Below is a graphic showing my Performance in 2014 vs the S&P 500.

As you can see, from October through December I lost some ground due to my exposure to the energy sector.

 

 

 

Winners

In December Oracle (ORCL), and Bed Bath & Beyond (BBBY) performed well.

Oracle is a company that will continue to benefit as the economy recovers.

In general technology, and energy sectors move up when market conditions improve.

I like Oracle for many reasons, one of them being the excellent string of acquisitions they have had in the past.

In my opinion, I expect Oracle to continue to do well, and it is a stock that I plan to hold for the entirety of 2015.

Bed Bath & Beyond (BBBY) is probably one of the most efficiently run companies around, and I expect them to recover as the housing market continues improves – making it another position I’ll hold onto in 2015.


Losers

In December, my worst performing stocks were J.C. Penney (JCP) down -19.1%, Ecopetrol (EC), down –15.6% and Lukoil (LUKOY) down 16.2%.

As I mentioned above, the last two positions are in the energy sectors, the worst performing sector of the stock market in Q4 2014.

I opened these positions when the sector was down about 20%, but surprisingly the sector continued to slip further in 2014, bringing down my entire portfolio.

I plan to keep my investments in the energy sector in 2015 as I expect things to start turning around mid-year.








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DISCLAIMER: The investments discussed are held in client accounts as of January 31, 2014. These investments may or may not be currently held in client accounts. The reader should not assume that any investments identified were or will be profitable or that any investment ­recommendations or investment decisions we make in the future will be profitable. Past performance is no guarantee of future results.