From the looks of it, it seems as though 2018 will be a year of synchronised economic growth and gradually rising inflation. These circumstances generally create an enviable environment for certain investment sectors, with a fair bit written recently about the potential upside for industries such as banking & consumer and technology stocks.
Amongst the hype of these more “glamorous” sectors, and without helpful tailwind factors the global energy sector produced a rather unspectacular 3.58% return for 2017. With this most recent performance in mind and looking forward to more favourable conditions during 2018, I think it’s worth looking under the bonnet to try to gauge the value that the BetaShares Global Energy Companies ETF – Currency Hedged (ASX: FUEL) might bring to a portfolio.
With the demand for renewable energy increasing off the back of environmental concerns, you wouldn’t be blamed for thinking that the outlook for global energy sources such as crude oil and natural gas is somewhat bleak. Whilst increased demand for renewables such as hydro and wind will see them supply around 50% of the world’s energy needs by the year 2035, the demand for oil and gas is expected to remain strong. This will be almost entirely driven by a rise in living standards of the almost 2 billion people in emerging markets, with almost all of the growth expected to come from outside the developed world.
Ultimately, growth in the world economy requires more energy, even if the increase is mitigated by falls in energy intensity. As such, oil and gas are still expected to be important sources of energy for the next two decades.
Looking at shorter-term factors, a joint announcement during 2017 between OPEC and Russia to cut oil production has helped rebalance the market, with prices having moved to above USD$63 a barrel as at February 2018 – over triple the lows experienced in January 2016.
Whilst limiting supply is one way to adjust the market, we can also expect to see improvements coming from technology advancements. New technology solutions are increasing innovation and, importantly, reducing cost across the oil and gas value chain, which offers some smaller companies the prospect of being successful, profitable low cost providers. Companies that are willing to invest in technology can unlock substantial value and may remain financially strong, despite fluctuations in global supply and demand trends. All this aside, rising world economic growth, geopolitical tension, accommodative monetary policy and current low energy pricing may well spike demand in the short-term.
So aside from the above mentioned factors, why might investors look to invest in the energy sector?
Well, for a start, the energy sector is not perfectly correlated to the rest of the market and may provide diversification benefits to portfolios. Another reason for investing in the energy sector is to hedge against commodity price inflation or protect against geopolitical events.
FUEL offers access to the largest global energy companies, excluding those listed in Australia. Additionally, companies in the index which FUEL aims to track are more evenly distributed across the sub-sectors of the GICS Energy index, with exposure given to stocks involved along the supply chain including those in the provision of equipment for, and transport of, oil and gas. Another important feature is hedging of the index, which aims to largely remove the influence of the fluctuation of the AUD on investment returns.