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What's next for oil prices and energy?

Key takeaways

  • After an incredible run in 2022, energy stocks have slowed slightly this year, with oil prices softening on fears of an economic downturn.
  • However, with energy demand continuing to recover and with OPEC likely to keep a tight rein on supplies, prices could stay well supported from here.
  • After years of low investment, I believe we're still in the early stages of a major cycle of new investment in international and offshore production.
  • These factors are contributing to a positive outlook for the sector in general, and for energy equipment and services stocks in particular.

Gains among energy stocks have slowed this year, after their breakaway performance in 2022. But I think that historically high energy prices—supported by constrained supply and rebounding demand—could set up a positive backdrop for the sector over the near-to-intermediate-term future. And I think an uptick in investment could bode well for one segment in particular: energy services and equipment stocks.

Energy stocks take a breather

After leading the market by an enormous margin in 2022, when energy was the top-performing sector, these stocks have taken a breather so far in 2023. The sector was up 3.1% as of the end of August, compared with the 17.5% gain for the S&P 500®.

Chart shows year-to-date performance for the S&P 500 versus the energy sector, with the S&P gaining 17.61% as of the end of August and the energy sector gaining 3.12% over the same time period.
Past performance is no guarantee of future results. Energy sector performance is represented by the S&P Energy Select Sector index. Data as of August 31, 2023. Source: S&P Dow Jones Indices, a division of S&P Global.

In part, that slower performance has been due simply to a shift in investor preferences—with investors favoring tech stocks and other high-growth sectors this year (sectors that are seen as benefiting from slowing inflation and slowing interest-rate hikes).

And in part, it's been due to softening oil prices. After spiking in 2022 at the start of the Russian invasion of Ukraine, oil prices weakened earlier this year on concerns about the possibility of an economic slowdown.

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Plenty of support for oil prices

That said, I think the outlook for energy stocks is promising. That's in no small part due to favorable supply-and-demand conditions, which should help support oil prices.

Global demand for oil is solid, and may continue to rebound and grow during the remainder of 2023 and 2024, thanks to China's reopening and thanks to the worldwide continued recovery in air travel. Looking out beyond 2024, economic growth in developing markets is likely to drive further growth in oil demand.

That strong demand is likely to be met with constrained supply. Although spare capacity had recently increased—due to the US's unprecedented release of oil from its strategic reserves in 2022, and due to an unusually warm 2022–23 winter in the Northern Hemisphere—supply should be constrained for the near-to-intermediate term by recent production cuts by the Organization of the Petroleum Exporting Countries (OPEC). The cartel of leading oil-producing countries agreed last spring to reduce output through 2024. And member nations Saudi Arabia and Russia announced that they were voluntarily cutting production by even more than what the cartel had agreed to.

Chart shows price history over the past 5 years for two major global oil-price benchmarks, Brent crude and West Texas Intermediate.
Past performance is no guarantee of future results. Brent crude is a light, sweet, crude oil sourced from the North Sea that serves as a major global benchmark for oil prices. WTI refers to West Texas Intermediate crude, a light, sweet, crude oil sourced from certain US oilfields, that serves as a major US and global benchmark for oil prices. Data as of August 31, 2023. Source: FactSet.

In my opinion, OPEC is likely to keep oil supplies in check as it seeks to maintain per-barrel oil prices in the $80 to $100 range, which is considered the sweet spot that delivers strong profitability to oil producers without hurting oil demand. Overall, steady global demand and constrained supply suggest oil prices are likely to remain elevated for some time.

What to watch: Equipment and services stocks

I see a positive outlook for the energy sector. The supply-demand profile for oil is favorable, oil prices are likely to remain elevated for the near-to-intermediate term, many companies are generating strong positive cash flow, and stock valuations look attractive.

One area in which stock valuations are particularly compelling is energy equipment and services. These are the companies that provide the essential equipment and services to produce oil and gas, such as the rigs, crews, and technology needed to drill and complete a well. After years of low investment in new oil and gas production, particularly in international and offshore markets, this trend is now beginning to reverse course.

New production can take a long time to ramp up, and so it typically takes several years for international and offshore spending to recover. I believe the industry is still in the early innings of a significant investment cycle in international and offshore production. Corporate spending has been increasing and could continue to grow. The more recent rebound in prices we saw this summer could also boost onshore US production activity.

Why focus on energy equipment and services providers? There's an old saying in investing that during a gold rush, your best bet is to start selling picks and shovels. Similarly, it takes equipment and services to extract energy from the ground. As oil producers seek to boost production, they boost spending on energy equipment and services.

Fund top holdings1

Top-10 holdings of the Fidelity® Select Energy Portfolio () as of July 31, 2023:

  • 22.3% – Exxon Mobil Corp. ()
  • 6.3% – Chevron Corp. ()
  • 4.9% – ConocoPhillips ()
  • 4.8% – Schlumberger Ltd. ()
  • 4.5% – Halliburton Co. ()
  • 4.4% – Marathon Petroleum Corp. ()
  • 4.0% – Valero Energy Corp. ()
  • 3.9% – Hess Corp. ()
  • 3.6% – Occidental Petroleum Corp. ()
  • 3.5% – Canadian Natural Resources Ltd. ()
(See the most recent fund information.)

For this reason, Fidelity® Select Energy Portfolio recently had an overweight position in energy equipment and services relative to its benchmark. Top fund holdings in the equipment and services segment recently included Halliburton (), TechnipFMC (),2 Schlumberger (), and Nextier Oilfield Solutions ().3

Outlook remains bright

During the past decade, the energy sector has matured. It is a competitive, capital-intensive sector that tends to rise and fall with the broader economy. But many companies now generate positive cash flow and allocate capital back to shareholders through dividends and share buybacks.

In managing Fidelity® Select Energy Portfolio, I prefer to invest in companies that can generate competitive returns on capital but trade at discounted valuations, and those that have some sort of competitive advantage, have healthy or improving balance sheets, and that take a disciplined approach to capital allocation. There have been many energy companies with these attributes in the fund. Given the sector's favorable business conditions and reasonable stock valuations, I believe the outlook is promising.

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Before investing, consider the funds' investment objectives, risks, charges, and expenses. Contact Fidelity for a prospectus or, if available, a summary prospectus containing this information. Read it carefully. 1. Any holdings, asset allocation, diversification breakdowns or other composition data shown are as of the date indicated and are subject to change at any time. They may not be representative of the fund's current or future investments. The Top 10 holdings do not include money market instruments or futures contracts, if any. Depository receipts are normally combined with the underlying security. Some breakdowns may be intentionally limited to a particular asset class or other subset of the fund's entire portfolio, particularly in multi-asset class funds where the attributes of the equity and fixed income portions are different. Under the asset allocation section, international (or foreign) assets may be reported differently depending on how an investment option reports its holdings. Some do not report international (or foreign) holdings here, but instead report them in a "Regional Diversification" section. Some report them in this section in addition to the equity, bond and other allocation shown. Others report international (or foreign) holding as a subset of the equity and bond allocations shown. If the allocation without the foreign component equals (or rounds to) 100%, then international (or foreign) is a subset of the equity and bond percentage shown. 2. Fidelity® Select Energy Portfolio (FSENX) held a 2.25% position in this stock as of July 31, 2023. 3. Fidelity® Select Energy Portfolio (FSENX) held a 1.72% position in this stock as of July 31, 2023.

Views expressed are as of the date indicated, based on the information available at that time, and may change based on market or other conditions. Unless otherwise noted, the opinions provided are those of the speaker or author and not necessarily those of Fidelity Investments or its affiliates. Fidelity does not assume any duty to update any of the information.

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Past performance is no guarantee of future results.

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The S&P 500® Index is a market capitalization-weighted index of 500 common stocks chosen for market size, liquidity, and industry group representation to represent US equity performance. The S&P Energy Select Sector index comprises those companies included in the S&P 500 that are classified as members of the energy sector, with capping applied to ensure diversification among companies within the index.

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