Second Wave Fears Weigh on Oil & Gas Refining & Marketing Industry

The Zacks Oil and Gas - Refining & Marketing industry consists of companies that are involved in selling refined petroleum products (including heating oil, gasoline, jet fuel, residual oil, etc.) and a plethora of non-energy materials (like asphalt, road salt, clay, and gypsum). Some of the companies also operate refined products terminals, storage facilities and transportation services. The primary activity of these firms involves buying crude/other feedstocks and processing them into a wide variety of refined products.

Let’s take a look at the industry’s three major themes:
•    The collapse in crude prices that accompanied the coronavirus-induced demand disruption could have normally led to strengthening refining margins (also known as crack spreads). However, a plunge in product usage over the same period meant that refiners like Marathon Petroleum (MPC) and HollyFrontier (HFC) had to drastically curtail their utilization rates, resulting in lower revenues and cash flows. And now, the sharp rebound in oil prices — an input for refiners — has put the industry at an even bigger disadvantage by shrinking its margins.

•    Consumption of distillates such as jet fuels continues to stay weak. Most international flights remain suspended due to the travel restrictions still in place. As global aviation remains virtually grounded, distillate inventories paints a picture of lackluster demand. According to latest data by the EIA, current domestic supplies of distillate — at 176.8 million barrels — are 29.8% over the year-ago level and 26% above the five-year average. With major vacation destinations shut down and uncertainty looming over international flight services, the turnaround in jet fuel consumption is unlikely to happen any time soon. This will not only affect refining profitability but also result in increased price volatility.

•    Meanwhile, gasoline sales in the United States continue to tick up in recent weeks in a recovery from historic lows as the economy reopened and lockdown measures imposed to curb the coronavirus pandemic were eased. Further, oil product demand in China — the world’s second-largest energy consumer — has been gradually increasing. While overall usage remains well below pre-virus levels and stockpiles bloated, the refining and marketing operators should benefit from increased utilization that will also have a favorable impact on profitability.
Zacks Industry Rank Indicates Bleak Outlook

The Zacks Oil and Gas - Refining & Marketing is a 13-stock group within the broader Zacks Oil - Energy sector. The industry currently carries a Zacks Industry Rank #185, which places it in the bottom 26% of more than 250 Zacks industries.

The group’s Zacks Industry Rank, which is basically the average of the Zacks Rank of all the member stocks, indicates challenging near-term prospects. Our research shows that the top 50% of the Zacks-ranked industries outperforms the bottom 50% by a factor of more than 2 to 1.

The industry’s position in the bottom 50% of the Zacks-ranked industries is a result of negative earnings outlook for the constituent companies in aggregate. Looking at the aggregate earnings estimate revisions, it appears that analysts are pessimistic on this group’s earnings growth potential. As a proof of this, the industry’s earnings estimate for 2020 has decreased 110.4% in the past year. Meanwhile, the same for 2021 have slumped 61.4% over the trailing 12-month period.

Despite the dim near-term prospects of the industry, we will present a few stocks that you may want to consider for your portfolio. But it’s worth taking a look at the industry’s shareholder returns and current valuation first.

Industry Mixed on Stock Market Performance

The Zacks Oil and Gas - Refining & Marketing industry fared slightly better than the broader Zacks Oil - Energy Sector but has lagged the Zacks S&P 500 composite over the past year.

The industry has lost 37.1% over this period compared to the S&P 500’s rally of 8.8% and broader sector’s decrease of 37.6%.

One-Year Price Performance

Industry’s Current Valuation

Since oil and gas companies are debt laden, it makes sense to value them based on the EV/EBITDA (Enterprise Value/ Earnings before Interest Tax Depreciation and Amortization) ratio. This is because the valuation metric takes into account not just equity but also the level of debt. For capital-intensive companies, EV/EBITDA is a better valuation metric because it is not influenced by changing capital structures and ignores the effect of noncash expenses.

On the basis of the trailing 12-month enterprise value-to EBITDA (EV/EBITDA), the industry is currently trading at 6.97X, lower than the S&P 500’s 11.99X. However, it is well above the sector’s trailing-12-month EV/EBITDA of 4.04X.

Over the past five years, the industry has traded as high as 16.48X, as low as 4.30X, with a median of 7.37X.

Trailing 12-Month Enterprise Value-to EBITDA (EV/EBITDA) Ratio


Bottom Line

Just like all other energy subsectors, the refining and marketing segment has been greatly affected by the coronavirus crisis, which has led to a collapse in demand for jet fuel and gasoline.

Just when it seemed that refining’s worst phase is behind us with signs of a gradual pick-up in consumption, the recent second round of resurgence of the virus and another demand disruption looms on the horizon. With product stocks already in excess, any further pullback in usage would imply more misfortune for the struggling industry.

Amid all the gloom and doom, there is room for optimism. Refineries in the United States have been raising runs as demand continues to recover from the unprecedented rout associated with coronavirus. EIA’s weekly data suggests that gasoline use has climbed by more than 3.5 million barrels per day since the lows of April. The uptick, which should gradually push up refinery utilization, is expected to improve through 2020. 

Considering the abovementioned factors and the industry’s current dynamics, we are presenting four stocks with a Zacks Rank #3 (Hold) that investors may currently retain in their portfolio.

You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.

Murphy USA Inc. (MUSA): This company is a leading independent retailer of motor fuel and convenience merchandise in the United States. Over 30 days, the El Dorado, AR-headquartered operator has seen the Zacks Consensus Estimate for 2020 improve 15.6%.

Price and Consensus: MUSA


Phillips 66 (PSX): This diversified energy operator focuses on four main business segments - refining, marketing, chemicals and storage & transportation. Over 30 days, the El Dorado, AR-headquartered operator has seen the Zacks Consensus Estimate for 2020 improve 8.3%.

Price and Consensus: PSX


World Fuel Services Corporation (INT): World Fuel Services is engaged in marketing and selling marine, aviation, and land fuel products, plus associated services. The downstream operator has surpassed estimates in each of the last four quarters, the average being 30.6%.

Price and Consensus: INT

Valero Energy Corporation (VLO): Valero is one of the largest independent refiner and marketer of petroleum products in the United States. This San Antonio, TX-headquartered company’s expected EPS growth rate for three to five years currently stands at 12.4%, comparing favorably with the industry's growth rate of 10.9%.

Price and Consensus: VLO

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HollyFrontier Corporation (HFC): Free Stock Analysis Report
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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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