There's two things you dont want to be on Thanksgiving. One is a Turkey

Thanksgiving carries some scars for us O&G guys and gals.

2014 was murderers’ row. I won’t recap.

I wish I had this chart back then - oil divided by S&P 500.

The ratio peaked Jun-2008 just before Lehman. It recovered by Sep-2011 on China driven stimulus.

But in technician talk Sep-2011 was a lower high - time to bail. I did not.

Instead I stuck around until Nov-2014 and became a Turkey on the third Thursday in November. A position you never want to be in.

Eight years later here we are.

With 3Q earnings under wraps, I decided to update my the brilliantly named Crude Chronicles Energy Index (CCEI).

And unlike SLB, I didn’t overpay some consultant for that sort of branding.

As a side note, to me SLB will always be Schlumberger just like BP will always be British Petroleum and Shell will always be Royal Dutch Shell Group.

Below is the CCEI since 1894. For background on the index see my first post on it HERE.

You can clearly see the cycles but if you want to read a brief history check out my post HERE.

What amazes me about the orange line in the chart (CCEI divided by S&P 500) is that at the October-2020 lows, oil and gas equities touched a level not seen since prior to WW1.

In 1914, U.S. oil consumption intensity (bbl/capita/year) was around 2.5 barrels per person/yr. It’s almost 10 times that today.

India is below the U.S.’s WW1 level and rising. China continues its trend.

S. Korea is picking up where Japan has left off.

And European politicians continue an anti-fossil fuel crusade to get everyone else to adopt their anti-oil and gas supply policies (while at the same time subsidizing demand) despite the draconian effects it is currently having.

On top of all this is that fact that global oil demand is still a market that grows 1%-3% per annum, barring a recession.

Missing from the previous two charts is the secular rise of the other commodity these companies produce - natural gas.

But you get the picture.

Yet the market took energy equities down to a level not seen since just before WW1 levels. Crazy!

And despite the recovery in price, there is still no supply-side response coming.

But the market is not meant to be “fair.” Long-term averages are meaningless, just something markets pass through when going from one extreme to another.

Energy stocks are capitalizing earnings at single digit multiples similar to prior super-cycles as shown below.

I often hear the narrative that oil & gas stocks should see multiple expansion because of the bullish backdrop.

But 100+ years of history in the above chart shows that has never been the case.

So they will deliver on ever rising profits, especially vs. the broader market and economy (more on that below).

However, relative to the market or S&P500, oil & gas equities are trading at a massive discount.

35% of the market multiple according to my calculations as shown below.

But this may be more due to the market still trading at too rich of a multiple. Time will tell.

A long time ago someone taught me the market’s “Rule of 21.”

The theory is if you take inflation plus the market multiple it should gravitate around 21x over the long run.

In energy, I’ve found that center of gravity to be closer to a “Rule of 14” as shown below.

And guess where that rule is sitting right now….14x. The market can be very efficient!

One of my favorite long term metrics for the market is the Shiller P/E or Cyclically Adjusted P/E (CAPE) that was popularized in the book, Irrational Exuberance (HERE).

A picture of the Shiller PE vs. the Crude Chronicle PE, both calculated using the same methodology, shows the gap between the two has closed.

In fact the entire move off the October 2020 lows has completely erased the divergence between oil and gas and the broader market that has persisted since shales first stepped on the scene.

Taking a look at energy’s profits vs. the S&P500 we get a picture like so.

I love the chart above because not only are energy profits beating the pants off the broader market (blue line) but the market is still not a believer (orange line).

What’s going to be correct?

Does the orange line need to play catch up or does the blue line need to come back to what the market is discounting? Or a combo?

Looking at it a different way, let’s take energy profits and market cap and compare it to the entire U.S. economy using data from the BEA.

We can draw the same sort of narrative to the previous chart.

Here O&G profits vs. total U.S. corporate profits are back to levels similar to the prior 3 cycles (post WW2, 1970s and 2000s) yet the relative market cap remains a paltry 3.8% of the implied market cap of the economy.

Think about that.

Maybe this year, us O&G birds aren’t turkeys but rather eagles.

(p.s. the tryptophan is kicking in and I’m getting sleepy but there are some bonus charts at the bottom)

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Disclaimer

I certify that these are my personal views at the time of this writing. I am not paid or compensated for any of my content. And above all else, this IS NOT an investment newsletter and there is no explicit or implicit financial advice provided here. My views can and will change in the future as warranted by updated analyses and developments. As you may have noticed, I make comments for entertainment purposes as well.

The Crude Chronicler

Bonus Charts