It's been a super start to the year for the oil sector and the oil services sector in particular. For example, according to data provided by S&P Global Market Intelligence, oil services stock Baker Hughes (BKR 1.51%) rose 14% in January, while Halliburton (HAL 3.04%) and Schlumberger (SLB 2.82%) gained 34.4% and 30.5%, respectively, in the month. Meanwhile, the S&P 500 index lost 5.3% over the same period. So what's going on, and can it continue?
Where the industry has come from
To understand where the oil industry is headed, at least in 2022, you must know where it's come from over the last decade. It's been a difficult 10 years for the industry as well as a difficult few years. All three stocks have declined over the previous decade, while the S&P 500 rose 246%.
Furthermore, on a three-year basis, these stocks have massively underperformed the S&P 500, with only Baker Hughes up around 11% during the period. Meanwhile, Halliburton is down 2%, and Schlumberger declined 12%, while the S&P 500 rose 69%.
I'm throwing all these periods and numbers at you to build a framework for thinking about what's happened in the industry. It could be looked at in three separate timeframes. First, there's the the 2012 to 2014 period, when the price of oil traded at over $100 a barrel and the oil majors invested heavily and then dialed down investment when the price slumped in 2014.
An excellent way to see these trends is by looking at rig counts through the period.
Since then, there's been a marked reluctance to invest by the energy majors. In addition, the emergence of renewable energy as a viable alternative as an energy source has raised questions about the long-term spending outlook.
The second period is defined by the shock created by the COVID-19 pandemic and the specter of the price of oil dipping below $20 a barrel. For an example of the fallout on investment, here's a look a Halliburton's revenue from drilling and evaluation.
Why oil services stocks are rising in 2022
Fast forward to the third period, and several forces are coming together to create a favorable environment for oil services stocks:
- The price of oil has steadily risen and now trades at nearly $90 a barrel.
- Years of restrained investment have created tight supply and a need to release pent-up spending.
- Geopolitical concerns, particularly concerning Russia's regional security interests, have created instability.
It all adds up to an environment where oil exploration and development companies are willing to invest again. That's excellent news for oil services companies.
What management is saying
All three have already given fourth-quarter 2021 earnings, and their management teams are striking a bullish tone. Baker Hughes reported a 28% year-over-year increase in orders, with CEO Lorenzo Simonelli arguing that "relatively tight supplies for oil and natural gas [are] providing an attractive investment environment for our customers."
During Halliburton's earnings call, CEO Jeff Miller noted that "global energy demand and economic growth demonstrated resilience, global energy supply has shown its fragility." He continued: "The impact of several years of underinvestment in new production is now apparent. And the structural requirement to invest around the wellbore is crystal clear."
Finally, Schlumberger's CEO Olivier Le Peuch believes that a combination of demand recovery, tight supply, and the price of oil will "result in a material step-up in industry capital spending." Le Peuch went on to draw parallels with the "last industry supercycle" -- he even talked of the potential for an "exceptional multiyear growth cycle."
It's hard not to agree that the environment is good for oil services companies right now, and the realization of it in earnings reports, orders, and industry guidance is the reason why stocks in the sector are soaring.
However, the more profound question is, how long will it last? If Le Peuch is right about a multiyear cycle, the sector's recovery could have legs. However, it's worth considering that Le Peuch is possibly wrong in one respect. Specifically, the idea that conditions are "strikingly similar" to the last industry supercycle. The reality is that energy transition is happening and is unlikely to stop while renewable energy costs keep dropping.
As such, if the price of oil starts dipping again, then exploration and production companies might be a lot more willing to reduce investment than they would have been given the same event in the last cycle -- something to consider before investing for the long term.
That said, the environment continues to look favorable for the oil services sector in the near term, and that's why it's outperformed the market.