Shares of a broad array of oil stocks are falling sharply today, following the latest weekly petroleum data survey from the U.S. Energy Information Administration. According to the latest update, U.S. refinery production slipped almost 1 million barrels per day, while gasoline consumption, as measured by the amount refiners supplied to the market, remain stuck in a narrow band close to 9 million barrels per day.
As a result of the continued lag in a further recovery of transportation fuel demand, producer stocks in particular are taking it on the chin. At this writing, shares of Matador Resources (NYSE:MTDR), Antero Resources (NYSE:AR), Range Resources (NYSE:RRC), and Southwestern Energy (NYSE:SWN) are down between 5.3% and 8% (even though they are more focused on natural gas than oil).
Oil recovery stuck in neutral
Each week the EIA releases a report that shows important import, commercial storage, and refinery statistics. On the good side of the report, U.S. commercial crude oil inventories fell 9.4 million barrels from the prior week, and imports fell to 4.9 million barrels per day, about 1 million less than the week before. This, on the surface, is a positive for the industry, which has been dealing with a massive glut of excess inventory that continues to weigh on oil producers and prices.
Yet even with that move in the right direction, U.S. commercial crude storage is still 14% higher than the five-year average, while gasoline and distillate inventories are 13% above the year-ago level.
The biggest thing holding the industry back right now is the lack of further recovery in oil demand. U.S. refiners supplied 8.9 million barrels per day last week, and 3.7 million barrels of distillate, down 9% and 16% respectively from last year's levels, and roughly flat for the past two months. The overhang of the coronavirus pandemic continues to weigh on the transportation sector, particularly automobiles. Millions of Americans continue to work from home, and the peak driving season is coming to an end, with a minimal boost from vacationers eschewing air travel and driving somewhere for leisure instead.
The latest data was worrying enough for oil traders to send crude futures sharply lower today. At this writing, West Texas Intermediate, a key U.S. benchmark, is down over 3%. That pegs a significant portion of U.S. oil for October delivery at about $41 per barrel or lower, well below profitable prices for most shale-focused producers.
Oil investors' flight to safety
As noted, the oil stocks that climbed on today's news were oil refiners and midstream companies. While demand certainly hasn't recovered, and that will continue to weigh on refiners that count on volume to make money, investors are viewing them as the best able to ride out the current weak demand and pricing environment and still make a buck.
The same thesis carries over to pipeline and storage facility operators. They may not be shipping or storing the same volumes of oil or refined products as in 2019, but with limited -- or even no -- direct exposure to commodity prices, these companies have far more stable and reliable cash flows that investors are looking for.
Yet even these companies aren't completely risk free, since their contracts are with oil producers. For example, pipeline giant Energy Transfer (NYSE:ET) is facing the loss of a $300 million contract with bankrupt Chesapeake Energy, which requested the bankruptcy court to cancel a major pipeline contract with the former.
But for companies like Phillips 66 and Sunoco, with broad operations and limited exposure to either oil prices or any single customer, investors see safety and upside, and, most importantly, the potential to ride out what could prove the worst downturn in oil industry history.
So far, both have been able to continue paying their dividends and have committed to doing so.
Antero, Range Resources, and Southwestern Energy have seen their stocks head the other direction this year, in large part because they're focused on natural gas more than oil, and that's helped them avoid the worst of the downturn. However, even they could face a tough second half of the year, with projections for a mild winter indicating weaker-than-usual demand for natural gas as the weather turns colder.
Winter is coming
As the peak summer driving season comes to an end and the coronavirus pandemic continues to weigh on oil demand, oil traders are turning decidedly bearish on the prospects of a quick recovery. Many U.S. producers have had the fortune of oil hedges that have helped them realize much higher prices than the benchmarks, but those hedges are already starting to roll off, resulting in even more oil production that's not profitable below $40 per barrel.
Moreover, there's still a huge risk from Russia and Saudi Arabia, which stand primed to open the taps and soak up as much demand growth as they can in the months ahead, and potentially resume their market share fight that started the 2020 oil crash.
The industry has already seen dozens of bankruptcies, both private companies and a growing list of public ones, including Whiting Petroleum, Diamond Offshore Drilling, Ultra Petroleum (for the second time in the past few years), Extraction Oil & Gas, Chesapeake Energy -- just to name some of the more notable ones.
The reality investors must face is that the worst may not be over for many oil stocks; oil prices have improved but are still unprofitable for many producers. Moreover, many producers have been shielded by their hedging agreements, and as those expire, more producers will be exposed to the full burden of the current weak demand and low prices.
Outside the safer, diversified companies like Phillips 66, investors should step lightly in the oil patch for the foreseeable future.