Drill, Baby, Drill? Oil ETFs

For each blog article, I scan through relevant groups of ETFs that relate to possible investment strategies.  Three ETFs from iShares by BlackRock stood out to me this week: IEO, IEZ, IYE.  All have ValuEngine’s strongest rating of 5 checks and all have fared very well in price performance during the past 6 months since the market’s rotation away from growth and toward value, a theme we have discussed in several blog posts over the past couple of months.  I was aware of the rotation but unaware that these oil-industry stocks were carried so far by it so quickly. 

  • IEO is the iShares US Oil & Gas Exploration & Production ETF.  Top five holdings include: Conoco Phillips; EOG; Phillips 66; Marathon Petroleum; Hess Corp.
  • IEZ is the iShares US Oil Equipment & Services ETF; Top five holdings include: Schlumberger; Halliburton; ChampionX; Baker Hughes; Helmerich & Payne
  • IYE is the iShares US Energy ETF; Top five holdings include: Exxon Mobil; Chevron; Conoco Phillips; EOG; Schlumberger 
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As a longtime ESG ratings and quantitative analyst in addition to being a vocal proponent of sustainable and ethical investing, these ETFs stood out to me because of the national and global focus on net-zero carbon initiatives.  The hyperbolic increase in assets allocated to ESG-aware and sustainable portfolios since 2016 also would augur against the robust price gains experienced by these ETFs and the stocks they hold.  Indeed, on a 5-year annualized basis, these ETFs have been among the worst-performing ETFs covered by ValuEngine, all in negative territory while the market was earning double-digit returns. It is fascinating to me that the preponderance of the comeback made by these stocks happened immediately after Biden took office and made the non-zero by 2030 pledge a key goal of his Administration.

Let’s take a closer look at the data behind the numbers.  The YTD and 10-Year numbers are as of May 31, 2021.  The other data are as of June 20, 2021. Since the three ETFs we chose are iShares, IVV (the iShares S&P 500 ETF) is included for comparative and benchmarking purposes. 

ValuEngine Rating 5 5 5 3
YTD Price Retun 50.88% 33.18% 38.71% 12.70%
1-Yr. Price Return  64.93% 75.82% 42.97% 40.44%
5-Yr Ann. Price Return -1.08% -18.45% -5.86% 13.85%
10-Yr Ann. Price Return -1.35% -12.09% -1.60% 14.33%
Volatility 52.2% 59.7% 41.2% 18.5%
Sharpe Ratio (3-Year) -0.17 -0.33 -0.02 0.90
Beta 1.86 2.91 2.27 1.00
Alpha -0.27 -0.40 -0.29 0.00
# of Stocks 45 28 34 500
Undervalued by VE %* 68% 65% 82% 37%
VE Forecast 1-yr. Return -1.8% -2.0% -0.7% -5.2%
P/B Ratio 2.0x 3.2x 1.9x 4.5x
P/S Ratio 1.9x 3.2x 2.0x 13.8x
Div. Yield 2.1% 1.3% 2.8% 1.4%
Expense Ratio 0.42% 0.42% 0.42% 0.03%
Index Provider S&P Dow Jones S&P Dow Jones S&P Dow Jones S&P Dow Jones


Mkt. Cap Weighting  Mkt. Cap Weighting Mkt. Cap Weighting Mkt. Cap Weighting
ETF Sponsor iShares by Blackrock iShares by Blackrock iShares by Blackrock iShares by Blackrock

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There are few data points in terms of historical stability to recommend these highly volatile ETFs with high Betas, low Alphas and low Sharpe Ratios.  So, what do value investors and our models like?  Strong indicators populate the next six rows.  

The majority of their constituents are considered undervalued by ValuEngine, including a whopping 82% of those in IYE.  In comparison, 63% of the stocks in the S&P 500 are considered overvalued.  Traditional valuation measures such as Price/Book also Price/Sales reflect that these ETFs are significantly undervalued with respect to the market.  The dividend yields of IYE and IEO are also higher despite the fact that Oil Exploration is traditionally an industry characterized by low yields. Only IEZ, the Oil Equipment and Services has a yield slightly lower than IVV.  

The final data row in this grouping is even more intriguing.  The forecast 1-year returns for each of the three oil-centric ETFs are negative but less negative than the -5.2% projected for the market.  Perhaps that is the most interesting number on the chart for many of our subscribers.  ValuEngine’s forecast model projects a 12-month negative-return market for the S&P 500. 

A surprising number to me on this chart is the fact that IYE holds just 34 stocks while IEO holds 45 and IEZ holds 28.  I find it surprising because IEO and IEZ both represent sub-sectors, along with natural gas exploration companies, of the Energy sector represented by IYE.  This is the result of differing index methodologies for the sector ETFs and the select industry ETFs by S&P Dow Jones Indexes. 

Interpreting the data above, I conclude that the ValuEngine models indicate that the relative resurgence of these three ETFs has longer to run. Therefore, short-term tactical traders might still be buying here.  However, in no way do I see these ETFs playing a strategic role in most investors’ portfolios.  The stocks of the vast majority of companies in ETFs have very dim prospects as long-term holdings.  

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This is especially true of IEO and IEZ. With the global evolution away from fossil fuels apparently well on the way, existing reserves are being discounted by analysts as future “stranded assets” with no purpose.  In fact, ExxonMobil recently acceded to shareholder resolutions, largely championed by hedge fund Engine No. 1, to change its business model away from accumulating new petroleum reserves and toward developing alternative sources of energy that could have more of a future.

To the extent that even the major integrated providers agree that oil reserves will become stranded assets, what future could there be for companies that explore to find new sources of oil and those that manufacture and service the equipment they use?  Beyond that, IEZ is very non-diversified with two companies, Schlumberger and Halliburton with bad histories in governance and human rights, comprising 45% of its weight.  

Finally, all three iShares carry an expense ratio of 0.42%.  That seems ludicrously high for industry indexed ETFs with plain vanilla methodologies holding liquid US stocks.  Again, this is something of little consequence to traders, but these high fees are anathema for investors.  In fact, given the stratospheric volatility of these ETFs, only skilled and nimble traders who thrive on volatility should consider short-term deployment within their strategies. 

By Herb Blank

ValuEngine, Inc


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