Oil & Gas Equities, 1894-1Q24

The Gist: (1) The market cap of energy as a % of GDP suggests real total returns of 7-9% per annum for the next decade, as Oil and Gas continue to narrow the gap versus the market. (2) It appears that we have already witnessed the low point in terms of relative valuation for this cycle, but don’t be surprised if we revisit those single-digit multiples down the road. (3)The seasonal (Sep to April) trade is alive and well. GM2 indicates continued momentum in energy equities, but the "risk-on" sector of OFS needs to step up for it to have legs.

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Let's begin with this first chart that provides a sense of what long-term returns in energy look like from here.

The chart suggest that real total returns (including price and dividends, adjusted for inflation) for energy equities over the next decade are expected to range between 7-9% per year.

The blue line is the Crude Chronicles Energy Index (CCEI) market cap divided by nominal U.S. GDP while the orange line is the observed 10-year real total returns from that point in time.

As the fine text at the bottom of the chart narrates, if someone were to have purchased a market cap-weighted index of O&G equities in March 2014 when energy’s market cap was ~10% of GDP, the returns to this point have been disappointing at just 2.6% per annum (orange line)

Currently, energy’s market cap sits at about 7% of US GDP implying somewhere between 7-9% per annum after inflation with dividends reinvested.

The conclusion of this next chart is oil and gas equities will continue to close the gap versus the S&P 500.

The second chart shows both, energy (blue line below) and the S&P500 (orange line) are mean reverting series. Since 1912 real total returns after inflation, have both averaged 10 percent per annum.