The Holiday Season is Good for Oil Stocks

If 2010 follows the pattern of the past 15 years, we are approaching the start of a seasonal climb in the price of crude oil that could present a good investment opportunity in energy-related stocks.

Oil is down from its 2009 peak of $81 per barrel seen in October, but we remain constructive on energy stocks given the improving economy and positive seasonal factors heading into the New Year.

Seasonal Oil Price

As the 15-year chart above illustrates, much of the recent drop in the price of oil lately can be explained by commodity price weakness that typically occurs from October through December, and thus does not represent a cyclical downturn.

These seasonal factors include a reduction in driving during the fall, as well as the more moderate average temperatures that typify the weeks between the summer cooling and winter heating seasons. During the 15-year period, January has typically been the month in which the seasonal oil price trend starts back up again as markets prepare for the summer driving season.

It is interesting to note that, while crude oil prices are usually soft during this time of year, energy stocks begin to strengthen in December, offering nimble investors an opportunity to capitalize on the favorable seasonal strength that usually follows.

The chart below shows month-over-month performance trends for the S&P 500 Energy Index during the past 20 years through November 2009.

Average Monthly Stock Change

On average, during the past two decades, these large energy stocks have gained an average of two percent in December. After a dip in January, the index has charged forward with average month-over-month gains exceeding 2 percent in three of the next four months before a seasonal falloff beginning in June.

The line graph shows the frequency of positive returns in each month. Twelve of the past twenty Decembers (60 percent) have seen positive returns for the S&P Energy Index – in April and May, positive returns have occurred in 15 of the past 20 years, or 75 percent of the observations.

We believe supply and demand fundamentals for energy will tighten as the economic recovery takes hold next year. Energy stocks will benefit accordingly.

Earlier this month the International Energy Agency raised its 2010 forecast for global oil demand, largely as a result of accelerating economic growth in China. OPEC is also expecting oil demand to increase.

It’s a different story on the supply side – the energy team at PIRA sees net global oil output actually declining in 2010, which would tighten spare capacity to less than 1.8 million barrels per day, roughly half of current levels, and would likely exert a potent upward pressure on prices.

’Tis the season for buying oil stocks.

Regards,

Frank Holmes,
for The Daily Reckoning