Energy stocks: What’s the outlook?

Given the price of gas these days, you’d think that anyone who owns shares in an oil company or units in an energy mutual fund would be making a killing.

Surprisingly, it hasn’t worked out that way.  Oil stocks have risen in the past year, but not dramatically.

Not a single Canadian energy fund managed to gain even 20% over the 12 months to the end of August. Amazingly, one fund — the CIBC Energy Fund — actually managed to lose almost 11% during that time.

Compare those results with the gains recorded by broadly based Canadian stock funds — those which invest across the entire market. The average fund in that group was up 37% during that year. Several recorded gains of more than 50% and a few were even in triple-digit territory.

The energy funds have done better so far in September, but they still aren’t blowing anyone away.
 The question many people who have money in this sector are asking is:
· What’s wrong? Why aren’t these stocks and funds going to the moon?

Investors skeptical
The simple answer is skepticism. No one believes that oil prices can stay this high, even though evidence is mounting thate may not see any relief for at least another six months and perhaps longer.

Until recently, many brokerage firms were basing their profit forecasts for energy companies using US$22 a barrel as their average price. Now $25 is becoming the norm — but if oil stays above $30, that will mean energy firms will record profits in the next few quarters that are far in excess of anything being predicted right now.

For now, however, everyone’s being very conservative. The analysts are keeping their projections low, and the investing public is refusing to get caught up in any kind of energy mania.

Compare that with what happened in the high-tech sector. Until last spring, people couldn’t get enough of those stocks. Anything with attached to the name was a sure-fire stock market winner.

Investors paid ridiculous prices for shares in companies that had never made a profit, and might never do so. The fever has cooled to some degree, although many of the technology stocks are still very expensive.

Energy stocks, on the other hand, are higher than they were a year ago but still look cheap by comparison.

Compare sectors
Let look at a couple of examples:
· One of our hottest high-tech companies, Celestica, was recently trading at a price to earnings multiple of just under 130. That’s the ratio between the cost of a share and the profit attributable to that share.
· By contrast, our biggest oil company, Imperial, had a p/e ratio of only 17. This is day and night. It means investors are saying that, in relative terms, one Celestica share is worth more than seven Imperial Oil shares.

The implication is that Celestica’s profits are expected to keep growing, while Imperial’s will fall once the current energy crunch passes. That may well happen, although the differential looks extreme to me.

Stock analysts are starting to come to the same conclusion. Some are raising their profit forecasts, not just for the oil and gas producers but also for the royalty income trusts that invest in them.
RBC Dominion Securities, for example, recently increased its target for the Athabasca Oil Sands Trust (AOS.UN) to $47. At the time, the shares were trading at around $32.

Much will depend on what happens over the fall and winter. Unusually cold weather would likely push oil and gas prices higher and might be the catalyst needed to drive the stock prices up.
Energy stocks are highly volatile, so anything can happen. But, increasingly, professional market watchers are betting they’ll go higher before the current cycle runs its course.