ETF Edge - Drilling Down on Energy – Oil ETF Impact 10/10/22

Episode Date: October 10, 2022

CNBC’s Bob Pisani spoke with Jan van Eck, CEO of VanEck Associates, Chris Hempstead, Director of ETF Trading at Mirae Asset Securities, and Fiona Boal, Global Head of Commodities and Real Assets at S&P Dow Jones Indices. They took a closer look at the ripple effects of Europe’s energy crisis and fluctuating demand in China. They also discussed key alternatives to crude and broke down potential ways to help investors get the edge when it comes to getting in on the energy game for the rest of 20-22. In the Markets ‘102’ portion of the podcast, Bob continues the conversation with Jan van Eck. Hosted by Simplecast, an AdsWizz company. See https://pcm.adswizz.com for information about our collection and use of personal data for advertising.

The ETF Edge Podcast is sponsored by InvescoQQQ, supporting the innovators changing the world. Investco Distributors, Inc. Welcome to ETF Edge, the podcast. If you're looking to learn the latest insights in all things, exchange, traded funds, you're in the right place. Every week we're bringing you interviews, market analysis, and breaking down what it means for investors. I'm your host, Bob Pizzani. Today, on the show, we're drilling down on energy and taking a closer look at the ripple effects of Europe's energy crisis and fluctuating demand in China. We'll discuss some key alternatives to crude and breakdown potential ways to help investors get the edge when it comes to investing in energy for 2022.

Here's my conversation with Jan Bonnack, CEO of Anak Associates. Chris Hempstead is the director of ETF trading at Murey Asset Securities, and Fiona Boll is the global head of commodities and real assets at S&P. Dow Jones Indices. Yon, your oil services, ETF up 32% this year, one of the biggest ETF gainers out there. Global energy sector is still royaled. by this precarious position in Europe, demand questions over in China. What's your best guess on oil? Oh, we love it as a multi-year play.

Again, yes, the Ukraine war, I think, is kind of a little bit of a head fake for longer-term investors, but there are major supply constraints to the energy markets. And so we see $80 as almost like an OPEC plus put price, just like we had the Fed put over the last decade. I think we've got the price put on oil. And that will help the energies get revalued over, over, time. So I think, listen, the overall equity market is being hurt right now, but we love oil services even going forward. Fiona, what about the alternatives that are out there? Oil prices,

as we've been talking on, more than doubled this year. I'm looking at natural gas. We've gone from $3 to $10 this year. We're in the sort of mid-sixes right now. The Europeans are trying to get themselves off Russian gas, even though they spend decades trying to get themselves on Russian gas. interesting dichotomy there. How does this end for natural gas? What are your thoughts? I mean, arguably, natural gas ends up being the new oil, right? It's the commodity that we spend the most time looking at. It's the one that has the most direct impact on global economies. And I don't think we thought that was going to be the case even 12 months ago. But in Europe today, the price of natural gas is really driving a lot of the economy. And it's the price

that consumers are looking at and starting to understand. Yeah, what about the alternatives? What about coal and nuclear that are out there? They're unpalatable, I know, to a lot of people, but Germany is scheduled to cease nuclear energy production at the end of the year. Are they going to revive it? Where does all this go from here? I think they're really in a difficult position,

because as you said, these so-called dirty energy sources really are unpalatable, particularly in Europe, we're seeing that push towards the energy transition. But at the same time, you're dealing with the issue of having to be able, to heat homes and keep business going over the winter. So we've seen a shift back to some of those less desired energy sources, but I would expect that that's relatively short term, that in particularly again in Europe, that we will see the move back to the push towards investment

in infrastructure and renewable sources. Let's hope so. Chris, what are you going to tell your clients who want to invest in energy? Energy was almost 30% of the SEP, you know, 30, 40 years ago. Remember Exxon was briefly the biggest company in the United States 30 years ago. Even with this year's rally, S&P Energy is only 5% of the S&P 500. How do you play this? It's really interesting to see, and I think you've got to continue to play it.

Energy's been strong. I think it's going to continue to be strong. If you look at the analyst rankings, I was playing around today on ETF Actions website, if you look at the 33 energy ETFs that are out there, almost all of them, when you're looking at their underlying components, have analysts' buy. ratings and overweight ratings. If you look at even with the rally in the energy sector, despite the rest of the broader market going down, the P.E. multiples are still rather low. I think that might be what's driving part of the analyst community to be buy and overweight.

In addition to that, Bob, you forget sometimes that China is still in a lot, in a very large lockdown. When they come out of that lockdown and they will, they're the second biggest drinker or consumer of ETS as we, I mean, of oil, I'd like to say. So the demand will pick up even more. So I don't see any relief in demand for oil or gas. I actually think it's probably going to get worse. And where do you think we're going to be, you run an ETF. So people are interested in obviously the stocks here. Talk to me about energy stocks. Yeah, no. I mean, I think, well, look, oil services stocks we project will have earnings increase next year of 20%. I mean, how rare is that going to be in the markets to Chris's point, right? But I think-60% estimates,

for the fourth quarter year over year. Yeah. It's amazing. Well, it's a good turn. It's about time that they turned around. I mean, we had to do a reverse split on OAH a couple of years ago because these stocks were on their deathbed. But I think what you and Fiona were talking about is actually one of the most critical,

this not in my backyard. It's the supply constraint. No one wants nuclear. No one wants solar panels. No one wants windmills. But we need it to do this energy transformation. And that's going to be super supportive for energy. over the next couple of years.

Fiona, what about distilate products, like jet fuel, for example? My understanding is that the stockpiles are at the lowest levels in years. The margins have remained high because of the heavy demand there, but there's a dearth of refining capacity out there, isn't it? We seem ill-prepared for this in terms of the infrastructure to meet the demand issues that are out there. That's right. Certainly here in the U.S., you know, distillate supply,

are near record lows and, you know, refineries are running as hard as fast and as fast as they can. And we think, you know, look at what OPEC did last week. One of the reasons they gave for cutting production was that they said we need higher prices to encourage investment in infrastructure, which arguably, you know, has been lacking in the traditional energy sources for the last, well, maybe at least the last decade. Yeah. So where do we, Chris, what do we tell in clients now? I'm still trying to sort of sort this out.

I mean, it used to be you wanted to buy the oil service suppliers in a period like the early part of the year. That seemed to be a good bet. But the entire commodity complex sort of listed out of nothing. The hot button right now, there's two big buzzwords. Inflation is a big buzzword. How do we keep that in check and let the Fed continue to try to do that? And the other one is climate change. Climate change is a trigger.

And if you look at some of the broader climate change impacts that we're seeing right now on the Mississippi River, in the growing basin in Arizona that feeds off of Lake Mead. These infrastructures weren't built to support the droughts that they're seeing right now, what they call mega droughts. It's not going to help with the fight against inflation. And add to that, our oil reserves are very, very low right now. And in addition to that, we're not producing more than what's demanded. So if we can fill those reserves, maybe help mitigate the price of energy, that's just one piece of that inflationary fight. But as you know, there's so many pieces to it, and it just doesn't look good. The most interesting point to me is that we've drawn down half of the strategic patrolling reserve over the last year.

So at this piece, we will have no. You've got a chart along to show that. It's amazing. It's amazing. Like, you were talking about inventories with Fiona. It's insane. So in a year, we will have no reserve left. So this is this whole supply.

Well, you're saying if we continue this trend. Right. But you could always replenish it. Do you expect that to happen? Do you? Well, yes. And oil prices with 80 or 90 bucks a barrel? I mean, it's going to keep going.

What incentive do you? And this is government manipulation of prices. Prices are cheaper because of this than they would be ordinarily, right? So it's just bullish, multi-year, bullish for the energy markets. Yeah. I was going to say that I don't know what incentive the U.S. oil and the Canadian oil manufacturers and producers have to increase production with oil going up as much as it's going up. I mean, it's landing well in their pocket right now.

But your point, Jan, is we've had these tough markets. We're in a bull market. It's not mainly because of the Gulf War. It's because of the multi-year trends. There's supply limitations out there, right? What do we need to do to remove those supply limitations? It's a great setup, right? You had a 10-year bear market in commodities, which we've lived through, right?

And now you've got multiple years, I think, of reset because the supply is constrained. Everyone is yelling at these oil companies, including the government, don't drill more, don't produce more. You have natural depletion of like 9% a year. So they need the oil services companies just to keep the same level of production. Right? That's just the nature. And yet the owner of the oils, the oil companies are saying we are going to be disciplined. This is the word they use.

And the subtext is, you know, you people, you all tell us to go out and pump like crazy. Then demand changes and we're left with holding the bag of the high costs of opening these new. Wells, no, we're not playing that game. Wisely, if I was running an oil company, I'd say, you know, you investors, you've got a very short memory. So what is the response? Should oil companies go all whole hog here in the United States and tell the government to stay out of the way?

If you're a publicly listed oil company, you know, your shareholder has been telling you for the last five years, fix up your balance sheet, pay me more dividends, stop drilling for oil. So really, where the response might come from, or might have to come from, is the sovereigns. But again, if you look at the OPEC plus members, you know, they've got very little spare capacity as well. But the price

of oil needs to be high enough for those guys to invest in additional oil wells, potentially at the expense of the public listed. What is the, what's the, what does the cost for the Saudis to pump oil? Oh, I was going to say, close to nothing. But it'd be very, very illitional.

Single digit or something. Single digits. Yeah. Somewhere between five and ten dollars a barrel. But still, they won them maximize their profits, right? So if it's a tight market, they're happy to cut back production. Yeah. And they realize that there is a clear endgame to their ability to make money out of oil. They play a much longer game again compared to a publicly listed company, and so they want to maximize their returns today. Right, Chris. One thing you want to remember, too, is getting the oil out of the ground is sort of this ongoing thing. It's like a river. It's the stuff's coming

out. They turn the faucet on, and it's coming out. The oil that comes out of the ground, isn't ready for your car. It's not ready, you know, to be used for consuming for energy. It has to be cleaned and refined and depending on where it comes out of the ground, it's very different kinds of oil. Some are really, really dirty and some are sort of clean. You have to keep that in mind when we talk about refining capacity, which we just addressed. Refining capacity is full tilt right now. So in terms of, they're using 100% of refining capacity so there's nowhere to actually refine some of this oil or not enough of it and turn it into gasoline which could help our bottom.

I'm lying. You know, the retail or the commoner wants to fill up their car with gas and buy goods and services that don't cost a whole lot more because the cost of getting it to us has gone up so much. So crude is just the first part of it. And then it's what happens downstream. I want to end on a point with you. I'm going to give you your pitch here on bonds. I've been talking to Jan for 20 years about commodities because he's my commodity guy and we're friends for 20 years. And I call him up. I said, let's talk about commodities. I said, are you excited about commodities? Actually, I'm more excited about bonds. This really threw me off. Tell me why you're excited about bonds. Look, I looked at the last 100 years of U.S. history. The worst rising interest rate environment, the worst decade for rising interest rates was the 1970s. And for getting glorious gold and commodities, what did the best bonds? And why is because you get this high, at higher rates, which we have now, you get the reinvestment of the income. And it's just a safer bet than equities.

So that's your, I think that's your competition. Outperform stocks not only this year for the next? From here for several years. It's very, it's very possible. That's like the 1970s that actually happened. Until you get cheaper valuations. And the risk is way less. The drawdowns on bonds, right?

So when you look at client statements, you know, you look better. Now it's time to round out the conversation with some analysis and perspective to help you better understand ETFs. This is the market's 102 portion of the podcast. And today will be continuing the conversation with Yon Von Eck. Yon, we talked about commodities. We talked a little bit about bonds and how you like bonds and prefer bonds. But you're also known as a gold guy. You run the Vanek gold miners' ETF, GDX is the symbol GDX and the gold miner junior's

ETF. It's had a rough year. And it's a reminder that gold stocks do not always perform in line with gold. Gold stocks are down much more. Explain why that doesn't happen. Well, the gold is basically fighting with the Fed. And the Fed has the market's confidence right now that they are going to be higher for longer on interest rates.

And gold is the opposite of that bet. So when and if the Fed pivots, I think that gold will be first out of the gate to rip. So I think that's exciting. Gold shares themselves have also been punished to a greater extent than gold boehan. Right. That's not surprising. Gold stocks, in these kinds of environments, can perform like stocks and not necessarily in line with gold. They'll perform as equities, not necessarily as a commodity.

But I'd love to give investors a little bit of historical context. in the 70s and in the 2000s, the prior commodity cycles, gold actually lagged in the first several years of those cycles. Commodities outperformed. So it could be the same movie for the third time. Gold, when the Fed can't stand the effect it's having on the economy, if and when they pivot, then gold does really well. And gold chairs will do really well. So that's a, then the debate is when will the Fed pivot? But whatever could happen, the argument that gold is a head. hedge against inflation? I think the market believes that the Fed is fighting for real interest rates, meaning interest rates above the rate of inflation. Inflation will come down. Interest rates

will be high, right? Inflation will fall below 4%, let's say. And then you'll have real rates. That's not good for gold. Yeah. So that's what the market believes. Let me ask you about another commodity base, agricultural commodities. You run MOO, which is an agricultural EATF, and it owns largely equities. You hear you own deer, Archer Daniel, Midland, Tyson, Mosaic, agricultural commodities. Are we, is there any reason to continue to be bullish on that sector, even though they're down, it's down 12% this year. It's that moo. It's better than the S&P, but. But not great. I agree. I think the energy equity story is great. It's a little bit of a lower volatility play, but what's really exciting to me is

sort of what they call ag tech. All of these companies have proprietary products and will have extraordinary profits from precision watering. You don't even need someone to run your tractor around the farm anymore, right? Everything is GPS oriented. So this automation is going global and these companies, I think, have a pretty good runway. And it's really amazing, you know, the reduced impact on the environment and the more efficient use of water that these companies are offering. are technological marvels, and it's a wonder to watch companies like Deer Operate these days. I'm going to have to leave it there, Yon. Thank you very much for joining us. Always a pleasure to see you. And thank you for listening to the ETF Edge podcast.

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