Without meaningful changes to the way oil companies operate, energy stocks and sector-related exchange traded funds may continue to meander through a slow growth environment.
Year-to-date, the Energy Select Sector SPDR (NYSEArca: XLE) fell 2.6%, Vanguard Energy ETF (NYSEArca: VDE) dropped 3.0% and iShares U.S. Energy ETF (NYSEArca: IYE) decreased 3.0%.
“The days of Big Oil are by no means over, but today’s environment requires a change to the model,” Morgan Stanley and The Boston Consulting Group said, reports Javier Blas for Bloomberg.
The warning comes as investors try to find value in big oil companies like Exxon Mobil (NYSE: XOM) and Chevron (NYSE: CVX) while oil prices hover around $60 per barrel, compared to $100 per barrel a year ago. West Texas Intermediate crude oil futures were trading around $58.3 per barrel Monday while Brent crude oil futures were at $62.0 per barrel.
The pressure on oil prices will not likely let up any time soon. Despite signs that the global economy is using up more oil, producers are still pumping out two million barrels of crude oil above demand per day, reports Georgi Kantchev fo the Wall Street Journal.
U.S. production has not slowed much, the Organization of the Petroleum Exporting Countries has raised output, and the market anticipates more supply from Iran if a nuclear deal is passed.
Even before the plunge in oil prices, large oil producers were experiencing lower returns on capital and some were struggling to meet investment and dividend demands.
Consequently, Morgan Stanley and Boston Consulting argue that companies need to “undergo a dramatic” cost cutting scheme and change the business culture to sustain savings. For example, after the price declines in the 80s, oil majors implemented cost savings and improved efficiency.
That “allowed strong earnings and share performance in subsequent years, despite an extended period of oil price weakness,” according to the analysts.
The energy sector ETFs are top heavy and include heavy positions in both Exxon and Chevron. For instance, XLE includes 15.7% XOM and 12.6% CVX; VDE holds 20.9% XOM and 11.3% CVX; and IYE includes 21.5% XOM and 11.4% CVX.
Energy Select Sector SPDR
For more information on the energy sector, visit our energy category.
Max Chen contributed to this article.