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Energy Sector Earnings: What Might Be Expected for Q2 2017?

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July 10, 2017
Image of energy sector company's oil refinery pipeline
iStockphoto.com/Spooh

Some of the largest companies in the energy sector will report second-quarter earnings in the upcoming weeks as OPEC continues its attempts to stabilize oil prices. OPEC and non-member producers are due to meet again on July 24, just days before Exxon Mobil (XOM) and Chevron (CVX) release their Q2 results. Both companies are expected to report earnings and revenue growth when they report on July 28, according to third-party analyst estimates.

Despite the low price of oil and OPEC’s inability to prop it up, overall energy sector earnings are expected to improve for the quarter. Of the eleven sectors in the S&P 500 (SPX), the energy sector is expected to report the highest year-over-year earnings growth (387.5%) as well as revenue growth (17%), according to FactSet. The reason for the large earnings growth is “mainly due to unusually low earnings in the year-ago quarter”. Looking at the sub-industries within the sector, FactSet’s data projects that five of the six sub-industries will report earnings and revenue growth, with Oil & Gas Drilling being the only one expected to report a year-over-year decline in earnings.

If you look at the chart below, you can see that positive earnings and revenue growth projections haven’t translated into an increase in stock prices across the sector. 

S&P 500's IXE Select Energy Sector Index YTD Performance

FIGURE 1: MIXED PERFORMANCE YTD.

The S&P 500 Energy Select Sector Index (IXE) has declined 16% year-to-date as oil prices gave up some of their gains, compared to the S&P 500’s (SPX) 7.4% increase. Chart source: thinkorswim® by TD Ameritrade.  Data source: Standard & Poor’s. Not a recommendation. For illustrative purposes only. Past performance does not guarantee future results.

Geopolitical Tensions

Due to the location of a large portion of the world’s production, geopolitical tensions can cause the price of oil to spike. The size of that spike can vary depending on what’s happening and which producers are involved. Right now, tensions have been rising among countries in the Middle East as several nations in the region have cut diplomatic ties and implemented sanctions against Qatar. Like many things in the markets, it’s difficult to anticipate the impacts that events can have, but this could affect OPEC’s production cuts.

OPEC Production Cuts

At the end of May, OPEC and non-member producers, such as Russia, announced they are extending their 1.8 million barrel per day supply cut until March 2018. In the past, OPEC members have consistently violated production agreements, but this time around most of them remained compliant with the planned cuts (approximately 90% compliance according to Reuters).

Even though compliance with production cuts improved from past attempts, growing output from Libya and Nigeria, which were exempt from the original cuts, appear to have reduced the intended impact. Now OPEC has said that it is considering asking those countries to cap output at an upcoming meeting on July 24 to help get the supply and demand imbalance under control.    

Supply and Demand Imbalance

A global economic slowdown, fuel efficiency improvements, and increased production in the United States have been some of the contributing factors to the supply and demand imbalance that has persisted in oil markets. Last week, reports showed that U.S. crude inventories fell 6.3 million barrels, their lowest levels since January as refining increased and imports decreased, according to the Energy Information Agency. The same report showed a drop in gasoline inventories, but they remain 6% higher than the five-year average. At the same time, U.S. crude production continues to increase and more rigs are coming online, which is likely contributing to U.S. crude’s price falling back below $45 per barrel.

It seems like low energy prices will weigh on the sector longer than initially expected, although cost-cutting measures appear to be  helping improve earnings at some companies. A few analysts are calling for Brent crude, a global benchmark for oil prices, to get back to $60 barrel by the end of the year. As these last few years have taught us, it’s hard to forecast where prices will end up.

Good Trading,
JJ
@TDAJJKinahan

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