Despite the country's best efforts, U.S. oil production had been on a steady decline for decades. That was until producers found the keys to unlocking the country's vast shale resources, which quickly reversed those declines. In fact, the resurgence of U.S. oil output was so dramatic that it caused oil prices to crash, which unfortunately had recently caused U.S. oil production to start falling again.
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However, thanks to a dramatic reduction in shale extraction costs, and a more stable oil price environment, shale-focused energy companies are starting to ramp back up this year. That rising tide of higher production and cash flow should lift all boats, which is why some investors might want to consider investing in one of the top energy ETFs instead of trying to pick individual winners. Here's a closer look at the best funds for the U.S. energy sector's resurgence:
Data source: iShares U.S. Oil & Gas Exploration & Production ETF, iShares U.S. Energy ETF, and SPDR S&P Oil and Gas Exploration & Production ETF.
Image source: Getty Images.
Sticking with the big dogs
The iShares U.S. Energy ETF is a lower risk way to invest in shale because the bulk of its investments are in top-tier U.S. oil companies like ExxonMobil (NYSE: XOM) and Chevron (NYSE: CVX), which are the fund's largest holdings at 23.4% and 13.9%, respectively. While they are among the biggest of big oil, both have large, growing shale businesses. Exxon, for example, recently spent $5.6 billion to double its Permian Basin position, where it was already dominating along with Chevron. In addition, the fund also holds a significant stake in shale-focused driller EOG Resources (NYSE: EOG), oilfield service giants Schlumberger (NYSE: SLB) and Halliburton (NYSE: HAL), pipeline giant Kinder Morgan (NYSE: KMI), and refiner Phillips 66 (NYSE: PSX).
Overall, the fund holds 71 investments. However, its top ten holdings account for 65.7% of the total. Because of the fund's concentrated investments in top-tier energy companies, it has lower risk than other ETFs, which also means that it has less direct upside to resurgent shale.
A focus on E&P
The iShares U.S. Oil & Gas Exploration & Production ETF is a much more focused bet on the U.S. oil and gas industry. While it does hold several refiners among its top ten, the vast majority of its holdings are E&P companies focused on shale, including ConocoPhillips (NYSE: COP), which is its largest holding at 10.5%. While ConocoPhillips is a global oil company with a balanced portfolio, about a third of its production and the bulk of its future growth is from unconventional shale assets such as the Eagle Ford, Bakken, and Permian Basin.
In addition to Conoco, four other shale-focused producers are in the top-ten: EOG Resources, Pioneer Natural Resources (NYSE: PXD), Devon Energy (NYSE: DVN), and Concho Resources (NYSE: CXO). All four companies hold prime positions in the Permian Basin, which they anticipate will fuel double-digit oil production growth over the next several years at current oil prices.
While this fund holds 53 companies, its focus is also at the top. At the moment, its top ten holdings account for nearly 60% of the total. That said, because large shale producers make up the bulk of that top-ten, this fund represents a directional bet on the best-of-breed shale stocks.
Image source: Getty Images.
Giving everyone an equal opportunity
The SPDR S&P Oil and Gas Exploration & Production ETF does things a bit differently. Instead of weighting its holdings by the market size of the company, the fund equal weights its holdings. Because of that, it holds roughly the same sized stake in big oil behemoth Chevron as it does in Permian Basin-focused Pioneer Natural Resources and other smaller drillers. As a result, the fund offers investors much more upside potential, especially as smaller shale drillers ramp up output.
That greater upside has been evident over the past year where the fund is up 55% thanks to a significant rally in shale stocks. That's nearly double the return of both the iShares U.S. Energy ETF and the iShares U.S. Oil and Gas Exploration and Production ETF.
However, that higher reward also comes with increased risk because by putting all 63 companies on an equal footing, the fund opens investors up to the likelihood of higher volatility from weaker producers. That has certainly been the case over the past three years, where the fund has returned a negative 17.3% due to the impact of the oil market downturn. Contrast this with a negative 4% return by the iShares U.S. Energy ETF and a negative 6% return by the iShares U.S. Oil and Gas Exploration and Production ETF.
While all three of these energy ETFs should benefit from resurgent shale production, they'll do so to varying degrees due to their different risk profiles. The iShares U.S. Energy ETF, for example, comes with the least direct shale exposure and lowest risk due to its concentration on big oil stocks. Meanwhile, SPDR S&P Oil and Gas Exploration & Production ETF is a higher risk option because it has roughly the same exposure to more than 60 U.S. oil stocks.
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Matt DiLallo owns shares of ConocoPhillips, Kinder Morgan, and Phillips 66 and as the following options: short January 2018 $30 puts on Kinder Morgan and long January 2018 $30 calls on Kinder Morgan. The Motley Fool owns shares of and recommends Kinder Morgan. The Motley Fool owns shares of Devon Energy, EOG Resources, and ExxonMobil. The Motley Fool recommends Chevron. The Motley Fool has a disclosure policy.