2016 Bounce Back Stocks: Integrated oil and refiners

Flattened oil sector stocks could rise from the dead in 2016. Sooner or later. Picks: Exxon, Conoco Philips, Chevron, Valero, Tesoro, Marathon Petroleum, Calumet.

A west Texas oil pumpjack at sunset. (Via Wikipedia)

WASHINGTON, December 28, 2015 – As promised, we’re presenting our extended list of 2016 Bounce Back Stock Candidates. The stocks in our lists have been severely beaten down—rightly or wrongly—in 2015 and for a variety of reasons could experience significant price appreciation in 2016.

It’s an almost universally recognized fact that out-of-favor stocks, stocks that have disappointed, and stocks in industry groups currently hated on Wall Street can experience significant declines, particularly late in the year. Portfolio managers liquidate these stocks, sometimes at fire-sale prices, lest they show up on their year-end reports. Individual investors, including many wealthy shareholders, dump their losers late in the year in order to book losses vs. other stock gains, a tactic known as “year-end tax loss selling.”

Sometimes these sales are justified—perhaps the company in question has seriously disappointed its investors on the earnings front. At other times, however, the selling is either unjustified or overdone. Stocks that fall into this latter category can tend to “bounce back” in price upwards of 10% in the new year once the previous year’s selling pressures have lifted. Better yet, much of this “bounce” tends to occur within the first quarter, potentially providing an early lift to drooping portfolios.

For most investors, including the pros, 2015 has been an awful year, likely the worst since the Great Recession hit with full force in 2008. The reasons have been many, but likely include uncertainty about U.S. interest rates coupled with a disastrous decline in the price of crude oil—disastrous, that is, until you check out the price at your local pump.

Because nearly any stock even associated with the oil and gas industries has been savaged in 2015, we think the action in at least some of these stocks has been way overdone. While it’s uncertain exactly when oil prices might tick up again, stocks in the large integrated oil companies and stocks in key domestic refining companies are likely to at least hold their own and perhaps experience a significant oversold bounce early in 2016.

Our oil and gas bounce back candidates for 2016 include:

Domestic Majors: Exxon (symbol: XOM), Chevron (CVX) and Conoco Phillips (COP). These three U.S. majors, like many other companies in the oil patch, have been hit hard by 2015’s significant declines in the price of crude.

That said, all three companies are buffered by the fact that they’re vertically integrated. That means they’re involved in oil and/or gas every step of the way, from surveying likely drilling targets, to drilling, extraction, transmission of the raw product (to some extent), refining and even retail sales. This means that while they may be suffering out in the oil field in terms of the price of the raw product they’re extracting, they’re likely selling more of the refined product for a nifty profit when you purchase gas at your friendly local service station.

Given the large dividends traditionally paid out by these oil majors, (from 3.5-6% currently) and the fact that these dividends are well-covered by cash flow at least for now provide a better-than-even chance for a 2016 bounce in price, all things considered. Note: Exxon and Chevron are also 2016 “Dogs of the Dow” candidates. See our previous article on the Dow Dogs.

Read also: Dogs of the Dow: Preliminary 2016 candidates

Domestic refiners: Valero (VLO), Tesoro (TSO) and Marathon Petroleum (MPC). In most respects, this trio of U.S. refiners is in great shape even as the price of oil has continued to decline with great rapidity. That’s primarily because none of the three is involved in extraction or transmission of the raw product. They buy oil at market prices, hedging their bets in the market if they deem it necessary, then refine it and sell the refined product to you, generally at a decent markup. And that markup can remain more or less steady, even as the price of the raw product goes up and down.

That said, traders and investors kept panic selling in 2015 each and every time the price of crude took a hit, something that never really made a lot of sense to us. The only catch for this trio of refiners is the price advantage they’ve had by pretty much exclusively purchasing lower priced U.S. raw crude oil as opposed to other refiners and the majors who tend to buy at international prices. Unfortunately, given that the U.S. has finally allowed U.S. crude and refined product once again to be sold internationally on the open market, this price advantage may evaporate in 2016.

Even so, however, these refiners’ margins are likely to remain steady, and all three pay pretty decent dividends as well, making them, like the majors, likely candidates for a bounce, assuming more disasters don’t hit the oil patch in 2016.

Speculative domestic refiner: Calumet (CLMT). Calumet is a modest sized U.S. refiner that’s in a class of its own. Not only does it refine domestic oil into gasoline. It also produces a significant array of refinery products and by-products, including solvents, additives and, importantly, asphalt, a product very much needed in most states given our generally declining highway infrastructure. The company also recently opened a major new refinery in the Bakken Shale area, the nation’s first brand new refinery in a generation, giving them virtually onsite access to oil extracted from this major new U.S. source.

Making things more interesting is the fact that unlike all the other companies mentioned here, Calumet is a Master Limited Partnership (MLP), a company that must pay out roughly 90% of its income to shareholders each year in the form of generally large dividends. (Calumet’s dividend is currently pegged at 13.41% annualized.)

That said, Calumet was pulverized by traders in 2015, particularly in December. It’s off some 14% on the year, and we’re not quite sure why. Perhaps a bit like the regular U.S. refiners, it’s been tarred with the same panic selling that’s affected nearly every other company associated with the oil sector.

Worse, as an MLP, it is possibly being lumped with most of the oil and gas MLPs, generally small drillers and explorers, many of whom are being driven close to bankruptcy due to their highly leveraged structures and the current oil price decline. We fail to see how this issue will affect a refiner like Calumet all that much, but investors have been dumping the stock all the same.

Perhaps there’s something we’re not aware of here. But at least for now, we think the overly large dividend is safe and we think the selling is way overdone. However, given the stock’s recent volatility and unpredictability, taking a chance on this one must be regarded as highly speculative.

That’s it for our oil sector bounce back candidates. More candidates will be highlighted in future columns.

As always, mentions here reflect this columnist’s research and are not meant as specific buy or sell recommendations, so travel at your own risk. While this columnist is interested in the entire array of bounce back candidates for 2016, he is currently invested only in shares of Valero (VLO).

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Terry Ponick
Biographical Note: Dateline Award-winning music and theater critic for The Connection Newspapers and the Reston-Fairfax Times, Terry was the music critic for the Washington Times print edition (1994-2010) and online Communities (2010-2014). Since 2014, he has been the Business and Entertainment Editor for Communities Digital News (CDN). A former stockbroker and a writer and editor with many interests, he served as editor under contract from the White House Office of Science and Technology Policy (OSTP) and continues to write on science and business topics. He is a graduate of Georgetown University (BA, MA) and the University of South Carolina where he was awarded a Ph.D. in English and American Literature and co-founded one of the earliest Writing Labs in the country. Twitter: @terryp17