Investing: This might be the most hated bull market in energy stocks in U.S. history: Cole Smead

now S P 500 earnings they are expected to drop by 7.1 percent in the second quarter that's according to factset and that would be the sharpest earnings decline since the second quarter of 2020 remember we remember what happened back then financials and consumer discretionary are expected to lead in the year-over-year growth in revenues while energy and materials projected to have the most Revenue declines joining us now is Cole Smith's Mead Capital Management CEO and Cole great to see you here again today outlook for this quarter looking a little bit muted what are you expecting here yeah great to have you on um thank you for letting me join you uh to your point in the energy space we find it probably the most interesting right now uh because uh you know we've seen this big one-year down move in the oil price and yet the stock prices are not giving all that up because frankly they've paid off their balance sheets and you know what some would argue is a miraculous way and yet at the same time this might be the most hated bull market in energy stocks in U.S history I say that because if you look at how big they are as a percentage the S P 500 or investor enthusiasm I've rarely seen stocks double triple quadruple and no investors are calling their broker begging to buy them well Cole um I'm going to direct everybody's attention to the Wi-Fi interactive just want to show something quick on our screen here this is the year-to-day performance in energy um to your point uh 2021 was a blockbuster or 2022 to was also a better year for energy than it was for many of the other sectors here's a two-year look at energy and we can see Occidental Petroleum I know that's on your Hit List here but one of the things facing a lot of these uh oil companies especially especially ones that are engaged in the Cheryl the Shale oil play in the Permian Basin in Texas is they've had a really Rocky Road investors they want shareholder Capital returned to them meanwhile the companies don't want to spend too much on capex and it kind of leaves us where we are today maybe you can just kind of break down exactly where that is yeah and don't disagree with you so a lot of these energy companies and I was just up at the Calgary Stampede in Canada where a lot of the Canadian emps get together as well they're all looking at these investors saying what what should we do and asking the investors okay now those investors to your point are saying hey we want Capital return to them okay um that's primarily by dividends and stock BuyBacks now the only danger in looking at investors and saying what do you want is those same investors back in the 2010 said drill drill drill and they foolishly followed those investors so we we don't like the idea that investors should dictate the capital allocation of companies for example we hear a lot of Canadian Canadian and U.S oil companies say oh we need to pay dividends as though like the Gnomes of Zurich who collect Dividends are some magical uh creature out there that you want to have in your shareholder base we don't agree with that we think this comes down to what can you get a per share in your own stock versus acquiring other oil companies because the tightness that we're seeing in a tightness while as you just said a second ago in your intro that China has not come back in a rapid way sure the tightness that's still present in the market with Europe tipping into recession um this argues that these markets are very tight despite negatives coming in the way of the oil price and the question is who is going to be the king of oil who's going to have the most barrels flowing for a very long time and we think the aggressors in this market the energy business whether it be in the part of investors or the producers themselves that want to get more oil from other issuers those are the winners of the game all right we were just looking at crude oil WTI on our screen it looks like it's about 75 dollars a barrel um talk to me about the price of oil for a second OPEC Plus usually a big factor we've just had Russia pledging to cut more barrels I don't think that's supposed to have taken effect just yet but OPEC Plus usually a factor in the price of oil how does this fit into your investor thesis here yeah the old sayings don't fight the fed and I wouldn't fight the Saudis they they play you know effectively uh they are the Jay Powell and the OPEC plus model um so that that's the first thing I'd say but but secondly as you think about the you know the overall picture of of the supply you have them out there cutting and you have American uh producers who can't uh produce any born effect so I think those two Dynamics are very much at play and demand is increasing though as people as as we just talked about China is not coming back as a demand Factor as quickly as thought so we have Supply dwindling slowly but but you know pretty predictably in the last two years and we have demand creeping up so we really like that imbalance um it doesn't ever tell you when price is going to change but you can study Supply a lot better in the long run and understand economics demand can be a lot more fickle those Dynamics being at play I think it's just kind of a godsend but again most people look and say we're not going to need new Supply in the future they think that we need less energy that the idea that we're going to go to a far less energy intensive future and unless we're going to be living in log cabins with no electricity I think that looks futile I mean I was just down in Mammoth and there's tons of hippies that pull it off all the time I just don't see most of San Francisco or New York trying to do that as well well um I tell you what oil is definitely a politicized commodity we've seen the draining of the spr that's a strategic petroleum Reserve that Biden has enacted in order to in order to stabilize oil prices keeping them from spiking too much arguably a political decision so politics does enter the field quite often just tell me how that's playing out as the world tries to March toward a green Energy Future yet as you just laid out needs that those dead dinosaurs because if nothing else the Plastics that we use and many other things use them besides what we consider the typical uses for fossil fuels yeah you're you're right um very politicized uh whether you look at the United States uh in the case of you know using the spr again it's a strategic thing it was used politically um that's the history of the Strategic petroleum Reserve is a political tactic um but then you look at places like the UK where they're they're continuing to tax production in such a way that it's shutting itself in the producer is not willing to produce so I think governmental policies are taking resources and making places in their country unresourceful um if you think of like a California model there's vast amounts of oil below LA but we don't produce it uh frankly now some could say that's because of you know real estate values I wouldn't disagree with that but the point is not whether we have resources the point is is how we're using our resources so if you take that and you then pivot and say okay let's talk about climate change or or decarbonization the Oddity to where we're going is if we want to have a much larger economy and we're going to use a lot more technology and have a lot you know greater human flourishing in the future humans tend to solve the problems they want to solve which means if we want to solve carbon we will solve carbon now the knock-on effect though is that it means that we're going to have carbon Investments for far longer than people think solving carbon actually makes the duration of carbon Investments much longer because again you've solved their ills and I don't think investors understand that right now um you know if you want to prove there's not a god you'll prove it if you want to prove there is a God to prove it if we want to go out and solve carbon I think the profitability of the energy companies are totally misunderstood and we could wake up seeing them 10 to 12 percent of the S P 500 over the next 10 years well it's really interesting because I I think the last time that happened I was probably a child in the 80s growing up although I do I do happen to know that Exxon was the largest company of the world in 2012 about that time period overtaken by Apple so these things go in Cycles if you could just talk to me some a little bit about the concentration that you were just talking about people have been talking about the the stock market that we're facing today the NASDAQ 100 how heavy it is with tech how does concentration affect your the way you're seeing your portfolio so in 1980 energy was 30 percent of the S P 500 I think if I remember correctly it was eight of the 10 largest market caps globally were energy okay and a good a good just Guide to Life and invest in the stock market avoid the 10 biggest market caps in the world and it's just a good starting place so I say that because we went from 30 of the s p being um you know energy companies in 1980 uh today it's you know sitting at you know call it I think it's uh sitting around you know four percent okay so that that's how far we've come in that now again go back to 2008 uh I think the high point in 2008 when oil was 147 a barrel was 15 so you've seen it slowly but surely over time it's whittled itself down but the question is that using the post-ukraine world do we look at you know oil and gas as a four percent importance to the overall economy of the world and I would argue vociferously no we found out pretty quickly it's not the question is when do investors change your enthusiasm now invert what we just talked about on the energy market caps as a percentage the S P 500 again the 10 largest market caps in the world are a full strategy in the long run so that was Japanese stocks in in the late 1980s that was U.S tech stocks in the late 1990s it is American Tech dominance today and so the dangerous part of the concentration the S P 500 is it's so housed in the 10 largest market caps it's a nightmare for the S P 500 and it's a nightmare for investors concentrated in those 10 large market caps that's one of the better things going on for energy you don't have to wonder if you're in for hell you're not part of the 10 largest market caps right now really interesting and I I was impressed how you were able to Rattle off a number of those statistics um just off the top of your head I want to shift gears a little bit um one field that has been highly correlated with the tech sector this year is actually home builders and um I you know it's not necessarily because they're doing the same thing but let's take a look at the Wi-Fi interactive one more time this is a year-to-day performance of home builders and we have hope named hubnavian here at 160 percent in the upper left Beezer at about 130 KB Homes 70 percent Toll Brothers 65 goes down from there but this is another secular theme that I know your firm has centered on and that is the lack of housing for uh new entrants in the market that would be Millennials in gen Z over The Decade so how is this playing out in your portfolio yeah we talked about Supply with energy remember I said that you could really focus on Supply sure and understand economics a lot better through supply versus demand is fickle um that has been housing this year if we sat here two or three years ago and I said hey we're gonna have six or seven percent mortgages anybody in their right mind would have said housing is going to get killed and home builders are going to get crushed now we sit at those rates and to your point that home builders are sitting at all-time highs because what they produce is scarce and that's all you really want as an investor is to have a business where what you produce is scarce and needed in the open market that is exactly what's going on with home builders so even at lower volumes this year they're producing massive profitability because to your point you know the Millennials are coming is how I think about it and they're the Millennials are running into very tight Supply which means that people will buy homes based on needs not based on wants and when babies are born babies build houses and that's the great part of this human flourishing causes greater economics and housing so just like I said we think humanity is going to flourish we're gonna need a lot more energy we think humanity is going to reproduce and flourish and we're going to need a lot more housing and we're just doing that on very tight Supply yeah and head and mortgage rates then not the headwind that people thought really I really appreciate your your insights here is always so that with Cole Smith of Smith Capital Management the CEO

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Length: 11min 56sec (716 seconds)

Published: Mon Jul 17 2023