Energy Sector Outlook, BEEZ ETF, & T+1 Settlement

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In the latest episode of ETF Prime, VettaFi’s Stacey Morris recapped the year in energy ETFs and offered an outlook for 2024. Then, host Nate Geraci spoke with Honeytree’s Liz Simmie about the recently launched Honeytree U.S. Equity ETF (BEEZ), which focuses on “responsible growth.” Plus, Brown Brothers Harriman’s John Hooson discussed the potential pros and cons of ETFs moving to T+1 settlement next year.

The energy sector had a lackluster year after an excellent 2022. Geraci noted that the Energy Select Sector SPDR Fund (XLE) is currently flat on the year (as of the recording). Meanwhile, the VanEck Oil Services ETF (OIH) and the SPDR S&P Oil & Gas Exploration & Production ETF (XOP) were up about 4% and 5% year to date, respectively. By comparison, the SPDR S&P 500 ETF Trust (SPY) was up 20%.

“We’ve seen weaker commodities prices this year relative to 2022,” said Stacey Morris, head of energy research at VettaFi. “That said, one of the big themes in energy this year has been M&A.”

Tailwinds in the Energy Sector

Morris explained that many oil and gas producers benefited from M&A activity, whether that’s a company like Pioneer being bought by Exxon or Hess being bought by Chevron. This is leading oil and gas producers to trade up in sympathy because investors think they’re the next target of deals.

“So, that general dynamic is going to be more helpful for XOP than XLE, for example,” she added.

Morris noted something fairly similar has also been happening in the MLP space. For example, one large MLP, Magellan, bought at a 22% premium. And MLPs are currently yielding over 7.5%, which helps from a total return perspective.

Strong dividend announcements have also been a tailwind for MLPs. XLE is 40% Exxon (XOM) and Chevron (CVX), both of which are down YTD. Chevron has been particularly weak, down almost 20% on a price/return basis. In fact, Chevron is down 6.7% after reporting a 3Q earnings miss last month — a big down move for an integrated major oil producer.

“Things that worked really well last year… just aren’t doing that well this year,” Morris said.

The head of energy research said the “punchline” of this is that the energy defaults that worked really well last year — XLE, Chevron, Exxon — aren’t doing that well this year. So, it can pay for investors to look beyond those default options and look at other spaces that held up better this year.

Geopolitical Events & Oil Prices

Next, Geraci asked Morris how recent significant geopolitical events in the Middle East are impacting the energy space, specifically, oil & natural gas prices. According to Morris, “oil initially jumped, but those gains have been more than washed out at this point.”

In particular, Morris noted that Iran was particularly topical. “Iranian oil production and exports have ramped up quite a bit this year,” she said.

Based on Bloomberg data, Iran exports were about 600,000 barrels per day in December 2022. By around August/September, it had gotten up to over 1.5 million BPD. But last week, President Biden’s energy security advisor said that sanctions would be enforced, and Iranian exports would be coming down. In October, exports from the country went back to under 1 million BPD.

“So, that’s something that continues to bear watching,” Morris noted. “But generally, from an oil price perspective, you saw a jump, and then it was pretty short-lived.”

Looking Ahead: Ho-Hum on Natural Gas, Murkier Outlook for Oil

Looking ahead to 2024, Morris said that she expects U.S. natural gas prices to probably get directionally better.

“We’ll see what kind of winter we have,” she said.

Generally, Morris expects people will be more constructive on U.S. natural gas going into 2025, given expected LNG capacity additions in 2024 and 2025. But from a price perspective, 2024 could be directionally better than 2023.

“My guess is that things will be pretty ho-hum unless we get some extreme winter weather,” she said. “Generally, I don’t think there’s going to be too much movement from a natural gas price perspective.”

Oil, meanwhile, is “a tougher picture.” Morris conveyed she’ll keep an eye on demand and the state of the economy as it relates to global oil demand. On the supply side, she’ll be “watching OPEC+ and looking to see what happens with the incremental cuts that have been made by Russia and Saudi Arabia.” OPEC+ meets on November 26.

“I feel pretty good about OPEC+ defending a price level,” she said. “But I’m probably less confident around upside drivers for oil at this point.”

This “murky oil picture” is leading Morris to remain fairly defensive in the oil space. And that goes back to midstream and MLPs, as these companies are providing services for a fee and generate stable cash flows, which adds to their defensiveness.

Getting the Buzz on BEEZ

Later in the podcast, Geraci spoke with Honeytree Investment Management Co-Founder Liz Simmie to discuss its debut ETF, BEEZ. The fund invests in 25 to 30 large-cap U.S. stocks Honeytree believes will generate responsible growth.

“When we founded our firm in 2018, our goal was to always get our equity strategies into a vehicle,” Simmie told Geraci. “Because of the way active ETFs have been adopted, the firm decided “it was definitely going to be an ETF.”

BEEZ starts with the universe of U.S. stocks and narrows them down according to 25 criteria. It eliminates companies without investment-grade credit ratings, firms with market-caps below $5 billion, weapon makers, oil and gas companies, and tobacco companies.

Moving to T+1

In May of next year, ETFs are moving from T+2 to T+1 settlement. So, Geraci’s final guest of the episode, John Hooson, managing director, U.S. ETF product, at BBH, discussed the biggest concerns and considerations of this impending change.

And while Hooson does discuss some of the challenges and concerns, he ultimately thinks this development is “a good thing.” Per Hooson, T+1 reduces counterparty risk, offers enhanced liquidity, and “gives investors faster access to their cash.”

“It’s definitely a positive step,” he said.