Darren Woods is the CEO of ExxonMobil (XOM 0.35%), one of the world's largest energy companies. When he talks, investors listen. Right now, Woods is warning that the market isn't fully recognizing the supply disruption from the geopolitical conflict in the Middle East. And even after the conflict ends, it could take a very long time for energy markets to get back to normal. If you think energy prices will remain elevated until 2027, you may want to buy Devon Energy (DVN 0.38%) and Diamondback Energy (FANG +0.35%). Here's why.
Devon and Diamondback are leveraged to oil prices
The first reason to buy Devon and Diamondback if you expect oil prices to remain elevated, or even rise further, is that they are upstream-focused businesses. That means that they are focused on producing oil and natural gas. High energy prices are a huge benefit to their top- and bottom-lines.
Image source: Getty Images.
Devon Energy recently explained how important energy prices are to its business. With West Texas Intermediate (WTI) crude (the key U.S. energy benchmark) at $90 a barrel, Devon's free cash flow yield is projected to be around 15%. If WTI rises to $100, the free cash flow yield increases to 18%. And if WTI hits $110, the free cash flow yield rises to 21%. A 22% increase in oil prices improves Devon's free cash flow yield by 40%. That's huge.
While Diamondback Energy didn't provide the same level of detail, it did note that $90 WTI should provide it with a free cash flow yield of 15%. It will benefit in the same way directionally from rising prices. If you are constructive on oil prices, these two upstream energy companies could be exactly what you are looking for.
NYSE: DVN
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Devon and Diamondback: Location, location, location
That said, the real reason to like these two companies is that they are both based in the United States. The geopolitical conflict in the Middle East doesn't impact their production. Which means investors can benefit from higher oil and natural gas prices without any of the geopolitical uncertainty.
NASDAQ: FANG
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There's another possible silver lining here, however. If the conflict in the Middle East prompts countries to reassess energy security, demand may permanently increase in economically and politically stable regions, such as the United States. That could provide a long-term catalyst for both Devon and Diamondback, lasting well beyond the current industry upheaval.
What goes up will eventually come back down
The one caveat for all investors to consider is that energy prices will eventually fall. History is very clear on this fact. So if you buy Devon or Diamondback to take advantage of the near-term rise in oil prices, you will need to watch them closely. At some point, falling oil prices will become a big news story and a major business headwind.
