The Energy Select Sector SPDR (NYSEArca: XLE) and the Vanguard Energy ETF (NYSEArca: VDE) are both off more than 8.5% over the past 90 days. Wary energy sector investors might not want to bank earnings seasons doing much to lift the fortunes of downtrodden energy funds.
S&P Capital IQ recently pared its rating on the energy sector, the seventh-largest sector weight in the S&P 500, to underweight from marketweight, citing supply issues and rising inventories, among other factors.
“Sam Stovall, U.S. Equity Strategist for S&P Capital IQ, cited supply issues that have been exacerbated by the recent Greece austerity, the proximity of increased Iranian output, building crude inventories, and an expanding rig count, which point to a further weakening of oil prices for the remainder of 2015. Finally, the percentage of stocks in the S&P 500 energy sector that carry favorable investment recommendations is below average versus the market,” according to a note from the research firm.
S&P Capital IQ has three-star ratings, the equivalent of “hold,” on Exxon Mobil (NYSE: XOM), Kinder Morgan (NYSE: KMI) and Phillips 66 (NYSE: PSX). Those stocks combine for 23.2% of XLE’s weight. 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. [Problems for Energy ETFs]
Still, not all market observers are bearish on energy equities. “We prefer integrated oil companies within the energy sector,” Russ Koesterich, Global Chief Investment Strategist and Head of the Model Portfolio & Solutions Business at BlackRock, said in a research note. “Although oil prices have firmed, the global energy sector has not. Hence, investors may consider the world’s largest oil and gas companies for their cheap valuations, relatively lower sensitivity to oil price swings, deeper pockets and potentially high dividend yield.”
These integrated energy companies have operations in exploration, production, refinement and distribution of oil and gas. Due to their diversified operations across upstream and downstream businesses, these integrated companies are more capable of weathering changes in oil prices. [Focus on Integrateds With Energy ETFs]