What happened
Shares of international energy services giant Halliburton (HAL +1.91%) fell as much as 15% in early trading on June 11. Much smaller, but still fairly diversified, energy services player Oil States International (OIS +2.35%) saw its shares drop 26%. And offshore-focused Helix Energy Solutions Group (HLX +2.91%) declined even more, falling as much as 30% at one point. U.S. onshore drilling services provider Patterson-UTI Energy (PTEN 0.28%), meanwhile, dropped nearly 15% at the worst point in morning trading. But the pain wasn't limited to this segment of the energy sector, with midstream companies like EnLink Midstream (ENLC +0.00%) also declining, though much less dramatically, with this company hitting a low of around 11%.
All of these companies pared their losses to some degree by lunchtime on Wall Street, but were all still materially lower for the day. The big issue was falling oil prices and a risk-averse attitude that sent the S&P 500 Index into a steep decline at the open. But there's so much more to understand here than just the daily whims of the Mr. Market.
So what
To suggest that the last week or so in the energy sector has been something of a roller-coaster ride wouldn't do the volatility that's taken shape justice. There are signs that investors are bordering on speculation, including massive price changes (up and down) in companies, specifically Chesapeake Energy (CHK +0.00%), that are rumored to be on the verge of bankruptcy (any day now). That stock was up close to 400% at one point over the past five days, and is now up just 30% or so. Today alone the stock has swung from a 20% loss to a 30% gain, with the stock trading with an advance of around 12% at noon Eastern time. Investors normally get wiped out in a bankruptcy, so it's hard to call buying Chesapeake an investment right now.
Image source: Getty Images.
These are not normal times for the energy sector. And that's the really big takeaway for investors, with news, and investor sentiment, often driving swift advances and shocking declines even though the long-term impact of the news isn't really clear. Today's news was basically negative. The U.S. Federal Reserve has said that it is likely to keep interest rates near zero for at least another year or so, which suggests the economy is still quite weak. In recent days, investors had been betting that an economic turnaround following the spread of COVID-19 would be a swift one. An uptick in coronavirus cases in U.S. states that have recently started to reopen for business is also troubling investors. The hope was for a smooth economic recovery.
Continued economic weakness has a tap-on effect for oil, since one of the big problems in the energy sector is weak demand. When economies around the world shut down in an effort to contain the novel coronavirus, demand for oil fell off a cliff. Supply was already high at that point, so investors pushed oil prices (and energy stocks) sharply lower. At one point the price of oil actually fell below zero, meaning that, theoretically speaking, oil drillers were paying people to take their oil. Part of the problem here is that all of the excess oil was quickly filling the world's capacity to store it.
Not surprisingly, exploration and production companies have pulled back hard on capital investment plans. When that happens, energy services companies see their revenues take a hit -- if their customers aren't spending, they don't make any money. With oil prices falling and the mood generally negative in the oil patch the last few days, investors sold off energy services names from Halliburton to Patterson-UTI Energy. But it doesn't stop there, since even midstream companies will feel some pinch from the reduction in drilling activity that's taking place in the onshore U.S. space. And shuttered wells are another problem, even though some are being reopened, since that reduces what's flowing through the system right now.
Now what
The volatility investors are seeing in the energy sector is far from over. That will leak into the companies that provide services to drillers, like the names above. In fact, service providers often get hit worse than drillers.
The key today is to step back from everything and think critically about what's going on. For example, OPEC extending production cuts is good news, but it needs to be couched in the fact that OPEC members often disregard their agreements and the news that U.S. onshore drillers are starting to reopen shuttered wells. In other words, the supply curtailment from OPEC's decision may not be nearly as beneficial as hoped. Meanwhile, price gains for oil, which will help determine if drilling demand picks up, are going to be hampered by all of the oil sitting in storage. So demand curtailments alone won't be enough to quickly right the supply/demand imbalance; an economic upturn that boosts the demand side of the equation is going to have to materialize.
There are a lot of things for investors to keep track of, especially when speculating in riskier energy stocks (many energy services would qualify for that ignominious distinction). This is not a sector for risk-averse investors today. If you feel you have to step in, it's probably best to stick to large, conservative, well-diversified, and financially strong companies. That sounds like a lot to ask, but there are names that fit the bill, like integrated energy giant Chevron and midstream bellwether Enterprise Products Partners.
