The energy sector (XLE) has pulled back by about 10% over the past 2 1/2 months after delivering stellar performance since crashing during the COVID outbreak.
However, despite the recent correction in the sector, I remain very bullish on energy over the long term and I'm not alone, as leading billionaires like Berkshire Hathaway's (BRK.A) (BRK.B) Warren Buffett, Citadel Capital's Ken Griffin, and legendary hedge fund manager Leon Cooperman have been buying stocks in the energy sector hand over fist recently. In this article, I will examine my bull thesis for energy, look at what these billionaires have been buying, and share some of my favorite ways to invest in energy right now.
Long-Term Bull Thesis For Energy
The long-term bull thesis for energy comes down to several key factors. First, there has been significant underinvestment in the sector in recent years due to ESG-conscious capital fleeing the sector in favor of renewable energy. However, now that interest rates have risen and the cost of capital has soared, several renewable energy companies, like NextEra Energy Partners (NEP), are having to curtail their growth plans due to unfavorable economics. This makes hydrocarbons all the more important as a better-established and, in some cases, cheaper and more reliable form of energy.
Secondly, the war in Ukraine and the increasing fracturing of the global economy, with major energy exporters like Iran and Russia increasingly separated from it, make energy production in the West, and particularly in the United States, more important than ever.
Third, the expected continued growth of developing economies, as well as the explosion of artificial intelligence, means that energy consumption is expected to continue growing substantially in the coming years and decades. While renewable energy should meet some of this demand, it is impossible, especially in the near term, for it to come close to meeting this incremental demand. This provides a strong backdrop for hydrocarbon energy consumption and rising hydrocarbon prices.
In the short term, there are concerns that a slowing economy could cause energy prices to fall, especially if a Chinese invasion of Taiwan were to materialize, which in turn would likely plunge the world into a depression. However, the long-term outlook for energy remains robust. As a result, it has been and will likely continue to be one of my largest sectors to invest in.
As an added benefit, the US dollar continues to weaken globally due to an increasingly assertive China, BRICS' move towards de-dollarizing the global economy, central banks increasingly preferring gold over the greenback, and reckless deficit spending by the US government. Energy has proven to be one of the best inflation hedges over the long term. Thus, continued weakness in the US dollar and elevated inflation should provide a powerful tailwind for the energy sector as well over the long term.
What Are Billionaires Buying?
With this bullish backdrop for energy, let's look at what billionaires are buying right now:
- Warren Buffett has been aggressively buying up shares of Occidental Petroleum (OXY) and recently further boosted his stake. Additionally, he has been investing aggressively in some energy infrastructure businesses. Ken Griffin recently added to his Hess (HES) stake, making it Citadel's third-largest holding. Leon Cooperman has been buying several energy stocks, particularly midstream infrastructure (AMLP), including Enterprise Products Partners (EPD), DT Midstream (DTM), and Energy Transfer (ET).
My Favorite Ways To Invest In Energy
I think there is a strong case for investing in energy production companies, as they will reap the main benefits from pricing and demand upside over the long term. However, I particularly agree with Mr. Cooperman's preference for investing heavily in blue-chip midstream stocks for several reasons:
1. Stability and Predictability: Midstream companies are much easier to value because their cash flow profiles are much more stable than energy E&P (exploration and production) companies. This makes it easier to accurately assess long-term returns, rather than making a more speculative bet on the direction of energy prices.
2. Defensive Nature: Given the fixed-fee nature of their contracts and their focus on paying out high distributions, midstream companies are better positioned to weather a downturn in the energy sector or the broader economy. Given the increasing storm clouds on the global and US economy, as well as the risk of major geopolitical conflict, I think midstream stocks, especially blue chips like Enterprise Products Partners and Energy Transfer, are good places to be right now.
Investor Takeaway
I currently have very little exposure to energy production companies, but I am very heavily overweight midstream stocks. However, this could change over time, and I may decide to include more energy production companies in my portfolio in the future. For now, however, I like being able to have high confidence in the valuation models for midstream stocks, especially in the current uncertain economic environment. The yields and double-digit annualized total return potential of blue-chip stocks like EPD are simply too good to pass up.
Editor's Note: This article discusses one or more securities that do not trade on a major U.S. exchange. Please be aware of the risks associated with these stocks.
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