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Since late November, energy stocks have seen a pretty meaningful pullback, with the overall sector (XLE) declining by about 10% and industry bellwether blue chips like Chevron (CVX) and Exxon Mobil (XOM) closely mirroring that performance. Devon Energy (DVN) had a slightly bigger drop, and one of the previously highest-flying names in the space, Texas Pacific Land Corp. (TPL), fell by 30%.
In this article, I am going to detail why the energy sector has pulled back so sharply and share why the more it drops, the more I buy as well as what I am buying.
The Drop Explained
The biggest reason why energy prices have dropped so much is simply due to bearishness about the future price of oil because, surprisingly, during the recent period where XLE has materially underperformed, the WTI crude oil spot price has been pretty flattish.
This means that Mr. Market is more concerned about the supply-demand balance moving forward than he is about the current direction of pricing.
This weakness likely comes from two main sources. First of all, China, which is the world's largest oil importer, has experienced some economic weakness and uncertainty this year, which is likely weighing on future expectations for demand.
Meanwhile, on the supply side, the United States has been generating record-high oil production already, and - with the incoming Trump administration - who ran on the mantra of "drill, baby, drill" during his campaign, expectations are that supply may increase even further. As a result, there is a growing chance that oil prices will fall moving forward. In fact, the U.S. Energy Information Administration (EIA) is forecasting that:
inventory builds will put some downward pressure on crude oil prices later in 2025, with Brent falling from an average of $74/b in 1Q25 to an average of $72/b in 4Q25. In our forecast, the 2025 annual average Brent price is $74/b, down from an average of $80/b this year.
Why I Am Buying
However, despite this somewhat bearish outlook for energy prices, I am an eager buyer of many energy stocks right now for the following reasons. First and foremost, even if the EIA's forecasts are correct that oil prices will fall to $72 a barrel by Q4 2025 and sell at an average of $74 a barrel in 2025, the vast majority of energy companies will still be wildly profitable at those levels. In fact, that is essentially where energy prices are today as of this writing. Therefore, this pricing is already largely priced into most energy stocks, and they are still able to pay out attractive dividends and buy back a lot of stock at that level.
This leads me to my second point: I am very bullish on buying energy stocks right now because they are generally trading at significant discounts to their net asset value and are able to pay out very well-covered and attractive dividends while also leaning aggressively into their buyback programs. In fact, several companies, including Devon Energy (DVN), Civitas Resources (CIVI), Diamondback Energy (FANG), and Permian Resources (PR) have all announced that they are shifting their variable dividend payment policies to simply focus on their base dividend while also leaning as aggressively as possible into their stock buybacks. The reason? They believe that their stock prices are significantly undervalued by Mr. Market right now. As a result, I am planning to follow these companies' lead by buying their stock as well.
On top of that, their balance sheets are generally quite strong, with most companies in the sector having leverage ratios of around one-times EBITDA and as a result are either at investment grade or very near to investment grade in their credit ratings. On top of that, they are making meaningful improvements in their production efficiencies, further enhancing their bottom lines even when energy prices remain stagnant. For example, here are PR's recent efficiency gains as highlighted in their latest investor presentation:
PR Investor Presentation
On top of that, there is the long-term AI tailwind, which seems to have been lost on Mr. Market when it comes to valuing energy producers, though it is driving up the valuations of energy infrastructure stocks (MLPX) like Kinder Morgan (KMI), The Williams Companies (WMB), Energy Transfer (ET), and others. While this bullishness seems to be focused on natural gas as a source of powering data centers right now, a rising tide will likely lift all boats in the energy sector, as higher natural gas prices will increase incremental demand for oil as an energy source. Additionally, a lot of these energy companies also produce a considerable amount of natural gas.
What I Am Buying
With all of that said, what are some of the names that I find most attractive right now? Without going into the full list, one that I like a lot right now is PR, which stands out from its peers DVN and FANG quite clearly. It pays out a very attractive 4% dividend yield (compared to a 2.8% yield for DVN and a 2.4% yield for FANG), and all three are leaning aggressively into buybacks and also have leverage ratios of about 1x. However, what sets PR truly apart from DVN and FANG is that its free cash flow yield is materially higher at 14.3% compared to 12.6% for DVN and 9.9% for FANG while PR also has arguably the best assets of the group since it is fully concentrated in the Permian's Delaware Basin, which enables it to operate at a very low cost of production and has over 15 years of reserves.
Investor Takeaway
While energy stocks have pulled back recently, I view it as a great gift from Mr. Market. When you combine the strong buyback programs, the attractive dividend yields that are very well-covered, the strong balance sheets, the improving efficiencies, and the discounted valuations in the sector as well as the long-term energy demand tailwind from AI, I think that the sector makes for a great contrarian investment right now. As a result, we are loading up on opportunistically priced stocks in the energy E&P and energy infrastructure sectors at High Yield Investor.
Editor's Note: This article discusses one or more securities that do not trade on a major U.S. exchange. Please be aware of the risks associated with these stocks.
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