Energy sector: in the midst of a re-rating trend
Highlights:
- Since last spring, the surge in gas prices has ignited inflation fears and harmed energy-sensitive industries. While pressures have subsequently eased, the spike highlighted the risks related to an unstable demand supply-equilibrium.
- Several factors, some temporary, are behind the spike in prices. Fundamentally, the Green transition creates short-term uncertainty, as years of underinvestment in fossil fuels make it difficult for supply to adapt to large increases in demand.
- We remain bullish on Energy credit as the industry performs very well with high inflation and relatively high oil prices (Brent should end 2022 in the 75 to 80 US$/bbl range). High fixed costs are easier to absorb as cash flows accelerate (high operating leverage), leading to higher dividends, renewed share buybacks and debt reduction. That said, the spread trajectory will remain overall constrained by the poor ESG profile of the sector (albeit improving). Dispersion between ESG winners and losers should increase further.
- Concerning Equities, Energy – a Value sector – benefits from sticky high oil prices, higher yields and the prospects of continued solid demand growth. Moreover, very low relative valuations and increasing greening initiatives allow us to keep an OW position. We have however trimmed it after the big rally, as quant models signal overbought conditions.
