It is already this year’s worst-performing sector in the S&P 500 by a wide margin, so it is not surprising that some investors expect energy to be a drag on S&P 500 earnings. For example, the Energy Select Sector SPDR (NYSEArca: XLE), the largest exchange traded fund dedicated to energy equities, is down about 15.7% year-to-date.
The challenge for energy equities is that some oil market observers see more declines coming for crude. Oil traders are concerned over how fast U.S. shale oil producers will increase production to capture the rising prices.
While OPEC is cutting back to alleviate price pressures, U.S. fracking companies could jump to capitalize on the windfall as crude oil prices jump back above $50 per barrel – according to some estimates, shale oil producers can get by with oil at just over $50 per barrel due to advancements in technology and drilling techniques that have helped cut down costs.
“Oil and oil stock prices are very closely correlated. Oil company earnings were supposed to rebound big-time this year and be the major contributor to earnings for the S&P 500, but with oil well below expectations, analysts have been aggressively taking down third quarter earnings estimates,” reports CNBC.
Valuation concerns for the energy sector come even as the sector is featured prominently in an array of value ETFs. However, the sector looks more like a value trap than a legitimate value play over the near-term.
“At the beginning of April, earnings for the oil group were expected to be up a whopping 222 percent for the period ending Sept. 30th, but now they’re expected to be up only a little more than half that, at 132 percent,” according to CNBC.
Related: U.S. Shale Producers Still a Challenge for Oil Prices
XLE’s fortunes are largely tied to the biggest U.S. oil companies. Exxon Mobil (NYSE: XOM) and Chevron (NYSE: CVX). Dow components Exxon and Chevron are the two largest U.S. oil companies and are major components in XLE and rival ETFs such as the Fidelity MSCI Energy Index ETF (NYSEArca: FENY) and the Vanguard Energy ETF (NYSEArca: VDE).
“The second problem is just as serious: how do you get anyone interested in the energy story, even with stocks at new lows?,” notes CNBC.
For more information on the oil market, visit our oil category.