With oil prices sliding, it is not surprising that the energy sector and its related exchange traded funds are struggling. However, some parts of the energy sector take oil’s struggles particularly hard. That includes exploration and production stocks and ETFs.
The PowerShares Dynamic Energy Exploration & Production Portfolio (NYSEArca: PXE), a smart beta spin on exploration and production names, is down 20% year-to-date, putting the ETF in a technical bear market. However, PXE is higher by nearly 5% over the past week. PXE, which is nearly 12 years old, tracks the Dynamic Energy Exploration & Production Intellidex.
“The Intellidex Index thoroughly evaluates companies based on a variety of investment merit criteria, including: price momentum, earnings momentum, quality, management action, and value. The Underlying Intellidex Index is composed of stocks of 30 U.S. companies involved in the exploration and production of natural resources used to produce energy,” according to PowerShares.
Given the historical sensitivity of exploration and production names to oil prices, it would stand to reason that lower oil output would benefit the industry. While the Organization of Petroleum Exporting Countries (OPEC) has moved to trim output, U.S. shale producers are boosting production as highlighted by the rising rig count in the U.S.
“Exploration, production and service company valuations are near historic lows based on our analysis, trading at a price-to-book (P/B) multiple of 0.55. This compares with an average P/B of 0.88 for the sector using data all the way back to 1952,” said Invesco in a recent note.
Current OPEC compliance with production cut plans remains above their historical average, and it usually takes between two to three quarters for inventories to normalize after the cuts.
Related: ETF Plays for a Rebound in Crude Oil Prices
Meanwhile, advances in U.S. shale oil production technologies are contributing the to supply surplus and weighing on any oil price gains. It has become much cheaper for the upstart U.S. shale producers to extract oil out of the ground, but the growth rate of U.S. oil product has also recently slowed.
“The sector is clearly out of favor and has been for some time. We believe investors are always wise to consider sentiment, but should then dig a little deeper and analyze the trends and facts,” notes Invesco. “After the long period of underperformance, many funds (understandably) lightened up on energy shares and are now underweight. At some point, this trend will reverse, and demand for these shares should increase. Also, many investors have taken short positions in energy stocks, and they will have to buy shares in order to settle these positions.”
For more information on the crude oil market, visit our oil category.