In the energy space, oil refiners and sector-related exchange traded fund could outpace the big oil and services names as refineries capitalize on the cheap crude oil and higher prices on refined products.
Investors interested in tracking the oil refinery space can take a look at the Market Vectors Oil Refiners ETF (NYSEArca: CRAK), which began trading in August. CRAK has gained 3.6% over the past month.
“Refiners have been the lone bright spot in the energy sector during the past year, handily outperforming every other subsector,” writes Allen Good is a senior equity analyst for Morningstar. “While oil prices have deteriorated, refining margins have improved, thanks to strength in gasoline margins due to key refinery outages and strong demand.”
Gasoline demand, which is nearing its 2007 record high, and supply disruptions from refinery outages have bolstered gasoline margins about 50% this year.
While we are at the end of the summer driving season, Good expects demand growth outside of normal seasonality thanks to help from cheap oil prices.
Good also projects improved earnings in the refining space as short-term investments. Oil refiners have not taken large, capital-intensive expansions or acquisitions. Instead, companies have capitalized on the availability of discount crude and natural gas or improving yields.
“These projects typically require much less capital (processing capacity is much cheaper for light crude than heavy crude), have short payback periods, and generate attractive returns,” Good added. “Thanks to the completion of many of these projects, as well as improved operating performance, refiners can generate earnings growth in a flat-margin environment.”
For example, Tesoro (NYSE: TSO) shows ongoing improvement and is adding integration programs in California. HollyFrontier (NYSE: HFC) is investing in improvement projects. Marathon Petroleum (NY:SE MPC) added increased condensate processing, distillate production and exports. Western Refining (NYSE: WNR) invested in logistics projects.
CRAK includes a 5.5% tilt toward TSO, 5.0% in HFC, 6.9% in MPC and 3.4% in WNR.
Refiners are also investing in midstream assets, which can provide earnings and achieve higher midcycle returns, with less volatility, Good said.
Furthermore, many refiners have generated free cash flow, which have been returned to shareholders through dividends and share buybacks. While yields have remained relatively low, dividend growth is picking up. CRAK’s underlying index shows a 30-day SEC yield of 1.51%.
For more information on oil refineries, visit our refiners category.
Max Chen contributed to this article.