Fuel Shortage Risks May Stoke Demand for Energy Stocks

Energy stocks and bonds are poised to get a fresh boost from investors positioning to benefit from the surging electricity prices and fuel shortages expected later this year. Two-thirds of respondents to a maximum likely increase in value pulse survey, which includes portfolio managers and retail investors, plan to increase exposure to the sector over the next six months.

They see electricity and natural gas prices driving global inflation and expect that Russia will choke off flows of natural gas to Europe, leading to shortages of key fuels this winter.

Energy stocks are one of the rare bright spots in the world’s equity markets, with an index of energy companies in the S&P 500 rallying more than 40% so far this year as profits surged along with oil and gas prices.

Yet, they remain significantly cheaper than their S&P 500 peers, based on their prices relative to the earnings they’re expected to report in the year ahead.

While junk-rated energy bonds are expensive when compared with the global index, the United States energy debt rated at investment grade BBB is relatively attractive, trading at a higher spread than the average of its peers by rating and duration.

“I definitely want to remain invested in energy stocks because of massive supply constraints,” Chris Wood, global head of equity strategy at Jefferies LLC, said in a Bloomberg TV interview. “The other reason to own energy is quite simply that you need a hedge against the growing risk of escalation in Ukraine.”

Energy markets have come under further strain as Russia constricts deliveries of natural gas through its Nord Stream pipeline, causing prices to almost triple in Europe this year.

European Union (EU) sanctions are set to squeeze Russian oil supplies when they take effect in December.

Europe’s worst energy crisis in five decades is making rationing look all but inevitable this winter.

The EU has already created a voluntary 15% demand-reduction target for gas, with the option of making it obligatory if needed, and warned of “further drastic reductions” if temperatures are especially low.

Almost three-quarters of 814 respondents expect electricity and natural gas prices to drive global inflation the most this winter.

A similar majority said that if there will be any shortages over the next six months, it will be of key fuels, including natural gas.

Years of under-investment during the attempt to transition away from fossil fuels have left global supplies unable to satisfy the post-pandemic rebound in demand.

“It’s ultimately the revenge of the old economy, if you don’t invest in the old economy, it comes back to haunt you,” said Jeff Currie, head of commodities research at Goldman Sachs Group Inc.

“The only way you’re solving the energy problem, in the long run, is through investment, and oil companies are the conduit to solve the problem.”

The surge in energy prices has hit major economies with a brutal wave of inflation, which has reached record levels in the eurozone and the hottest pace in almost four decades in the US.

Goldman Sachs has warned that inflation in the United Kingdom could top 22% next year if natural gas prices remain elevated. Economists increasingly predict a eurozone recession in the coming quarters as the rising cost of living saps demand, undermining the pandemic rebound.

“The European gas market is likely to remain tight throughout the 2020s,” said Katja Yafimava, a senior research fellow at Oxford Institute for Energy Studies.

The “global shortage of gas, hesitancy about new investment in new gas production” and the EU’s “political decision to phase out its dependence on Russian gas altogether” are driving the tightness.