By John Persinos
Dead cat bounce (noun): a temporary recovery in share prices after a substantial fall, caused by speculators buying in order to cover their positions.
In a recent interview, influential hedge fund manager James Jampel bluntly characterized this year's rise in oil equities as "the biggest dead cat bounce in history." Below, I examine whether he's correct. I also steer you toward a new investment opportunity.
To be sure, the global energy sector finds itself at an inflection point, with fossil fuels in long-term decline at the hands of renewable energy. And yet, oil remains the world's most valuable commodity. Modern industry will heavily rely on crude, far into the foreseeable future.
If you're an investor without exposure to the energy sector, why should you care? Because the stock market and the energy sector are inextricably linked. For the last couple of years at least, the prices of equities and energy have moved roughly in tandem.
National governments are encouraging the transition to green energy, to reduce carbon emissions as part of concerted efforts to combat climate change. Energy "supermajors" and institutional investors are shifting their emphasis toward a greener future.
The Biden administration is encouraging the adoption of electric vehicles and solar power. Electrification proceeds apace around the world, especially in China. In a milestone fraught with symbolic meaning, the Dow Jones Industrial Average last year even saw fit to boot Exxon Mobil (NYSE: XOM) from the Dow's 30-stock index.
Read This Story: The Dow Gives "Big Oil" The Boot
At the same time, fossil fuels remain the dominant source of energy in the world, and they won't disappear overnight.
Oil and natural gas prices, and by extension energy equities, have soared this year as supplies tighten and global economies recover from pandemic-induced shutdowns. Another bullish factor for oil has been the decision this month of OPEC+ to keep production curbs in place.
Year to date (as of market close September 27), the benchmark SPDR S&P Oil & Gas Exploration & Production ETF (XOP) has generated a daily total return of 32.84%, compared to 21.64% for the SPDR S&P 500 ETF Trust (SPY).
On Monday, the XOP jumped 7.62%, and the per-barrel prices of West Texas Intermediate (WTI) and Brent North Sea crude jumped 1.97% and 1.70%, respectively. The factors behind the surge included unexpectedly high energy demand, and production disruptions caused by extreme weather.
Oil prices now hover at three-year highs, with WTI at about $75/bbl, and Brent North Sea crude at about $79/bbl. The economic optimism driving oil prices higher also has been driving energy equities to record highs, as the energy and stock markets increasingly move in tandem.
On Monday, the main U.S. stock market indices performed as follows: the Dow Jones Industrial Average +71.37 (+0.21%); the S&P 500 -12.37 (-0.28%); the tech-heavy NASDAQ -77.73 (-0.52%); and the small-cap Russell 2000 +32.93 (+1.46%).
In pre-market futures contracts Tuesday, the four indices were mixed as Congress reached an impasse on raising the debt ceiling. U.S. bond yields were hovering at their highest level in three months, amid expectations of tighter monetary policy and higher inflation.
Oil due for a pullback?
Despite soaring crude prices so far this year, and the improving fortunes of energy companies, some analysts are bearish about the oil industry's future. A consensus is building that oil prices are on the verge of a downside breakout, as global economic growth cools.
The oil bulls may have gotten ahead of themselves. In its latest Short-Term Energy Outlook, released September 8, the U.S. Energy Information Administration expects crude oil prices to fall in 2022 (see chart).
Let's turn back to James Jampel and his provocative statement.
Jampel manages the $187-million HITE Carbon Offset hedge fund, which seeks to profit by shorting decarbonization losers. Despite being short on oil, Jampel isn't long on renewable renewable energy assets because he views them as too volatile.
Regardless, Jampel says the oil industry is suffering unstoppable decline. "Industries where volume is declining, where demand is declining, have a lot of trouble making money," he told Bloomberg.
Here's my take: To call oil's pandemic-era rebound a "dead cat bounce" is hyperbolic, but the point is well taken. Fossil fuels will remain the biggest part of the global energy mix for a long time to come, but Wall Street no longer views carbon-emitting energy as an appealing long-term growth proposition. The transition to green energy won't be linear and it won't be quick, but it's inexorable. During this paradigm shift, there will be winners and losers in the oil patch. Some companies will successfully make the transition whereas others won't.
However, keep in mind, the last two significant declines in crude oil prices, in 2018 and 2020, closely correlated with downturns of the S&P 500. If the bears are right and oil is due for a pullback, the broader stock market could be in for rough sledding.
But maybe you're looking for investment advice that's not vulnerable to variables beyond your control, such as the gyration of oil prices.
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John Persinos is the editorial director of Investing Daily. You can reach him at: mailbag@investingdaily.com. To subscribe to John's video channel, follow this link.
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