Uh-oh. OPEC is up to something, and it’s probably not good for oil stocks — or more precisely, not good for all oil stocks.
Over the weekend, the OPEC+ group of oil producing nations, plus a few that aren’t officially a part of the cartel, such as Russia, announced plans to “surge” production of oil in June, as CNBC reports.
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Stocks of oil-producing companies including ExxonMobil (NYSE: XOM) and ConocoPhillips (NYSE: COP) are reacting poorly to the news, down 2.5% and 3.6%, respectively, as of 10:20 a.m. ET. In contrast, Frontline (NYSE: FRO) stock, which operates tankers that carry oil products from place to place, is doing very well indeed this morning — up 3.9%.
So what’s up with that?
Good news for Frontline is bad news for Exxon and Conoco
When you think about it, the price moves of these three stocks are actually entirely logical. Over the past year, international benchmark Brent crude prices are down a staggering 28%, as are the prices of WTI crude (the U.S. benchmark).
Worries over President Donald Trump’s tariff policy, and its effect on global trade and global economic growth, are certainly contributing to the problem; there has been a notable drop-off in oil prices since Inauguration Day back in January, and especially since early April, when the president began announcing his “reciprocal tariffs” initiative. And now, despite oil prices weakening already, OPEC+ is planning to increase production? For the second time in two months? (OPEC already boosted production in May, by the same 441,000 barrels-per-day amount it just announced for June.)
Any first-year economics student can tell you what happens next: When you increase supply (twice!), and demand holds constant, prices fall. What’s more, when you increase supply, and demand falls (because, for example, someone’s slowing down the global economy by raising tariff barriers to trade), prices fall even more.
That’s almost certainly what’s going to happen here, and if prices fall, and costs don’t fall along with them, this means profits will decline at both ExxonMobil and ConocoPhillips.
Image source: Getty Images.
And what about Frontline stock?
Conversely, this bad news for Exxon and Conoco is actually good news for Frontline. And why? Because, as that same economics student can tell you, when prices of a good or service fall, the demand for that good or service tends to increase. Basically, oil is going on sale right now, and so the likely result is that people will buy more of it.
Of course, unless those people live in Saudi Arabia, or another OPEC+ country, in order to buy the cheap oil they’re going to have to first hire a tanker to ship it from where it’s produced to where they live. Because shipping oil from Point A to Point B is Frontline’s raison d’etre, this means more business for Frontline, more demand for Frontline’s services, and more profit for Frontline stock.
Which oil stock should you buy right now?
Investors are therefore behaving logically today, selling oil producers before their profits sink, but buying oil transport companies like Frontline before their profits boom. Of course, it doesn’t hurt that at just 7.7 times trailing earnings, Frontline already looks like a much cheaper stock than Exxon or Conoco. Nor does it hurt that Frontline pays its shareholders a very generous 4.7% dividend yield.
That said, investors who think long-term perhaps shouldn’t rule out the idea of buying into Exxon and Conoco stocks on today’s sell-off. For one thing, the oil majors are no dividend slouches themselves. Conoco pays a 3.4% dividend yield, and Exxon pays 3.7% — both very respectable numbers.
Both stocks look reasonably priced, as well, with Conoco costing only 11.7 times trailing profits, and Exxon not that much more expensive at 14.1 times earnings. Plus, don’t forget the other rule of economics: Among cyclical stocks like these, cheap prices grow demand, and when demand grows, prices tend to grow as well. Eventually, this situation will right itself, and Exxon and Conoco profits will bounce right back. The best time to buy their stocks is before that happens.
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Rich Smith has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.
