10 Hot Stocks to Watch in the Energy Sector

If you're looking for a compelling investment, large-cap and mega-cap stocks in the energy sector are a good place to start, considering the big dividend yields many offer. Plus, energy is a vital part of the global economy, and energy consumption is only increasing as the world's population grows.

Thanks to these trends, there are plenty of big energy stocks out there that you can invest in. But first, it's helpful to know what generally counts as an “energy company” and what doesn't.

What is an “energy stock”?

Technically, an “energy stock” refers to any publicly traded companies that deal with energy — whether oil and gas, geothermal, wind, or nuclear, to name a few. But most often, when investors and analysts speak of “energy stocks,” they are using it as shorthand for “stocks in the oil and gas sector.” Here, we'll discuss a hodgepodge of oil and gas, mining, and utility companies. By contrast, other energy-sector stocks are commonly discussed as renewable energy or clean energy.

Different types of oil and gas stocks

The oil and gas sector is divided into three distinct subsectors based on what stage of the oil and gas production and delivery process a company engages in:

• Upstream: Upstream companies, often called exploration and production (E&P) companies, are involved in exploring for new, unknown oil and gas reserves under the ground or beneath the ocean and producing or extracting that oil and gas, bringing it up to the earth's surface.
• Midstream: Midstream companies are responsible for the transportation and storage of oil and gas. Once crude oil and natural gas are extracted from the ground, they must be refined into usable products. However, crude doesn't magically jump from a well site to a refinery, and onsite processing isn't practical (especially at sea). So midstream companies fill the gap by operating pipelines for moving the product and terminals for storing.
• Downstream: Downstream companies refine and market petroleum products. Some are refiners, which process crude oil and raw gas into usable products, like fuel and petrochemicals. Refiners may also purify and extract existing substances like natural gas liquids and carbon dioxide. They can also liquefy “dry gas” — which is a simpler way to refer to natural gas that exists in a gaseous state as opposed to a liquid state — or gasify liquid gas. The downstream subsector also includes the marketing and selling of the finished products, including all the gas stations that are household names. Some downstream companies both refine and sell; others just do one or the other.

Sometimes a company may own a mix of these assets. For example, Holly Frontier Corporation owns both pipelines and refineries, giving it both midstream and downstream exposure. Massive oil and gas companies like ExxonMobil (NYSE:XOM) or Royal Dutch Shell own all three types of assets and are thus called “integrated” oil and gas companies. It's also important to note that oil and gas coexist below ground and are typically produced together — so even though you'll hear companies referred to as “big oil” or “oil majors,” virtually all of them are also major natural gas companies.

Regardless of whether an oil and gas company is an upstream, midstream, or downstream company or a mix of all three, it's always referred to as an “energy” company.

What are other “energy companies” besides oil and gas?

Within the world of energy companies (where “energy” mostly refers to oil and gas) are many different names given to the huge variety of companies that work together to create the final products we purchase.

To understand what these companies do, it's helpful to know how the industry operates. Upstream oil and gas companies purchase sections of land or sea floor (or mineral rights to the land) that will be drilled. When wells are installed, they also own those wells. But in order to install and operate those wells, they hire other companies to perform specific tasks along the way.

One set of these other companies is those that own and operate fleets of offshore oil rigs and drillships, which drill beneath the ocean floor for oil and gas. A ship or group of ships is usually contracted by oil and gas companies to drill in particular locations for set amounts of time. While these fleet owner-operators are part of the larger “energy company” classification, they're more often referred to as “rig operators” or “offshore drilling” companies.

Likewise, oil and gas companies often require additional equipment and logistical or technical support. Investing in these ancillary companies is often referred to as a “picks and shovels” play, although in the case of the oil and gas industry, it's more often drills, drill bits, fluids, and chemicals. While they reside under the energy-sector umbrella, these support providers are usually referred to as “oilfield services” companies.

Lastly, companies that generate electricity through power plants are usually considered “utilities,” as opposed to “energy companies,” even though their business revolves around energy. However, they are sometimes included in lists of “energy stocks.”

What isn't considered an “energy company”?

A few types of companies whose businesses involve energy generation aren't usually considered “energy companies.”

Conglomerates: A conglomerate that manufactures equipment used in generating electricity does not make the list. General Electric, for example, has an entire renewable energy division, which primarily manufactures turbines for wind and hydroelectric power generation, but overall it is not considered an “energy company.”

Landfill operators: For example, Waste Management, a landfill operator and trash hauler that produces a small amount of energy from landfill gases, also doesn't meet our definition of “energy company.”

Companies difficult to categorize: Some companies don't fit neatly into a single category. A good example is BHP Group, formerly BHP Billiton, which trades under two corporate names: BHP Group Limited and BHP Group PLC. With a market cap of well over $100 billion, BHP would certainly be considered one of the biggest energy stocks in the world…if it were entirely an energy stock. But BHP is a miner of all sorts of things; although it does own some coal mines and oil and gas wells, it primarily mines metals like copper, iron ore, and nickel. BHP's energy divisions only represent about one-third of the company's total revenue and earnings. So while it's a big stock, we're not including it as one of the biggest “energy stocks.”

Which energy stocks are the biggest?

Put simply, big oil companies. Even if we include all the types of stocks in the previous section as “energy companies,” big oil companies — also known as the integrated oil majors — are the largest energy companies by market capitalization, and for the top five slots, it's not even close. The biggest oil majors have market caps well in excess of $100 billion.

Here are the 10 biggest publicly traded energy stocks. All but one are oil majors (“integrated oil and gas” companies):

* FIGURES CURRENT AS OF JULY 1, 2019.

All of the top 10 are integrated oil and gas companies except NextEra Energy, which is the largest publicly traded electric utility. As you can see, they come from across the globe and have diverse market caps and dividend yields. The two Chinese oil companies, for example, which are both partially state owned, have a combined market cap that is still less than ExxonMobil's.

Why are integrated oil and gas companies the biggest energy stocks?

Nine of the top 10 largest energy companies are integrated oil and gas companies (although No. 9, Gazprom, handles only gas). Since they are fully integrated with upstream, midstream, and downstream assets, they naturally have a higher capitalization than smaller companies that operate in only two or even one of the subsectors.

Moreover, petroleum accounts for the largest share of global energy consumption by far. According to a 2017 global energy report by the U.S. Energy Information Administration, liquid petroleum — which includes oil and NGLs — accounts for about one-third of global energy consumption, while natural gas accounts for an additional 22%, meaning that oil and gas companies supply a majority (55%) of the world's energy. About one quarter of the remaining energy is provided by coal, with nuclear power and renewable energy making up the remainder.

The biggest oil and gas companies, then, will continue to dominate the list of the world's largest energy companies until global energy markets shift toward alternate sources.

What are the biggest oil majors?

The biggest oil major by far is giant ExxonMobil. Formed from the merger of Exxon and Mobil in 1999, ExxonMobil was the largest company in the world by market cap from late 2004 through early 2012, until Apple dethroned it. As of July 1, 2019, ExxonMobil had slipped to the 10th-largest U.S. company by market cap, due in no small part to the oil price downturn of 2014 to 2017. During that troubled period, Exxon's shares — along with those of most other oil majors — had to tread water, while the largest companies in other sectors soared.

Just because it's no longer the biggest company doesn't mean it's a bad investment, though. ExxonMobil is one of the top 10 companies in the world by revenue, along with fellow oil majors Royal Dutch Shell, BP, and Sinopec. As long as these companies continue to successfully drill for oil and gas — and successfully sell the refined products — they should stay near the top of the list. Despite technological advances, market share gains made by renewable energies, and big headlines made by electric vehicles, demand for oil isn't going anywhere, and the market for natural gas is expanding even faster than the oil market.

The bottom line is, the big oil majors are going to remain big — and viable — companies for decades, if not centuries, to come.

What are some other large energy companies?

If we look at the next tier of big energy companies — those with market caps between $50 billion and $80 billion as of July 1, 2019 — we find a lot more diversity. There are still plenty of integrated oil and gas companies here: China's CNOOC tops the list with a market cap of $77.7 billion. We also find Russia's Rosneft in this tier with a $68.9 billion market cap, as well as Norway's Equinor at $66.6 billion, Italy's Eni at $60.0 billion, and Russia's Lukoil at $58.3 billion. Canada's Suncor barely misses the list with a market cap of just under $50 billion.

In this market cap range, though, there are plenty of other types of energy companies. There are E&Ps, midstream pipeline companies, an oil services company, and plenty of utilities. Let's break these out by subsector and also look at subsectors that only contain smaller companies.

What is the biggest oil and gas production stock?

It shouldn't surprise anyone that a former oil major holds the top spot on the list of independent oil and gas exploration and production stocks (E&Ps). ConocoPhillips (NYSE:COP) used to be an oil major until it spun off its midstream and downstream businesses as Phillips 66 in 2013. Even though it's now an upstream-only company, Conoco is still huge, with a roughly $70 billion market cap. The company is the largest U.S.-based E&P, with operations across the globe, including major operations in the continental U.S.

ConocoPhillips produces more than 1 million barrels of oil equivalents (BOE) per day. Since most oil wells produce a mixture of oil and natural gas or NGLs, the BOE is a unit that's used to measure a well's (or a company's) combined oil and gas production. One BOE is equivalent to about 6,000 cubic feet of natural gas. So if a well produced 3,000 cubic feet of natural gas and half a barrel of oil in a day, we'd say the well produced 1 BOE/day.

Behind ConocoPhillips, size drops off considerably. Most independent E&Ps tend to be smaller companies, with market caps of $20 billion or less. However, Houston-based EOG Resources, with a market cap of about $54 billion, bucks that trend. Behind EOG, though, Pioneer Natural Resources is one of the largest, and its market cap is only just above $25 billion.

All E&Ps are heavily and quickly impacted by oil prices. When oil prices slump — like they did from 2014 to 2017 — you can expect E&P stocks to follow suit almost immediately. That's why it's important to be aware of what oil prices are doing and expected to do before you buy shares in an E&P. Even then, oil and gas markets can be very unpredictable, so it's best to include these upstream-only companies as part of a more balanced portfolio.

What are the biggest midstream pipeline stocks?

Canadian company Enbridge is the largest midstream pipeline stock, with a market cap of about $73 billion. It's followed closely by midstream master limited partnership (MLP) Enterprise Products Partners with a market cap of about $63 billion. The largest natural gas pipeline operator in the U.S., Kinder Morgan, takes third place overall with a market cap of about $47 billion.

Pipeline operators benefit when oil and gas production is up. Most use a “toll booth” model for their pipelines: The more product a customer ships through the pipe, the more they pay. With the current North American oil and gas boom, many pipelines are filled to capacity, and in some areas, especially the red-hot Permian Basin, companies are working quickly to build new pipelines to meet the massive demand. These companies include Enbridge, Enterprise, and Kinder Morgan, all three of which have Permian operations.

What is the biggest downstream refiner stock?

The largest downstream-only companies in the U.S. are Phillips 66, with a market cap of about $43 billion, followed by Valero and Marathon Petroleum, both with market caps of about $35 billion.

One of the biggest advantages that these downstream refiners have over the midstream- or upstream-focused oil and gas companies is that refiners tend not to be hurt by drops in oil prices. That's because they make money off of what's called the “crack spread,” or the difference between crude oil prices and the prices of refined products. In fact, when oil prices go down, refiners can benefit if refined product prices stay the same or rise, because the spread has widened. This makes refiners a good portfolio choice to balance some of the other oil and gas subsectors.

What is the biggest oilfield services stock?

Global oilfield services giant Schlumberger is the biggest oilfield services stock, with a market cap of about $54 billion. That handily beats both Halliburton and Baker Hughes, a GE Company, which was formed through the merger of Baker Hughes and General Electric's oil and gas division in 2017. They have market caps of about $26 billion and $20 billion, respectively.

Oilfield services stocks are also heavily dependent on the oil market, because they sell equipment and services to oil producers. When oil prices are high and producers are flush with cash, service providers can afford to charge more for their services. However, when oil prices are low and producers need to cut costs, oilfield services tend to be cut or offered at much cheaper rates, causing a drop in stock prices.

What is the biggest offshore oil rig stock?

The offshore oil rig industry was decimated by the oil price downturn of 2014 to 2017. While offshore drilling, even in deep water, can be cost competitive with onshore shale drilling over the long term, the exploration and start-up costs tend to be much higher. So when oil prices dropped, many rig operators saw their business evaporate as their oil-producing customers cut back on deepwater exploration and migrated toward cheaper onshore exploration.

The offshore rig industry's business model is like a paddleboat rental stand at the beach. Your success is determined by how much of your fleet is rented versus sitting idle at the dock and by which boats you rent, with the bigger boats commanding a higher price. So when oil companies stopped renting drillships — particularly the most lucrative deepwater and ultra-deepwater drillships — during the oil price downturn, most rig operators cut or eliminated their dividends; some filed for bankruptcy, and some were bought out by competitors.

Among the operators that survived, all saw their market caps shrink from predownturn levels, some by more than 90%. Transocean is currently the largest, with a market cap of about $4 billion. To put that in context, back in 2010, the company's market cap was nearly $30 billion. National Oilwell Varco, which builds drillships, is larger at about $8.5 billion, but it doesn't operate the drillships it builds, and it also provides some other oilfield services in its portfolio, which helped to buoy the company during the downturn.

Even though the big oil price downturn is in the rearview mirror, many oil rig operators are still struggling to regain their footing. While many oil and gas companies have recovered significantly, the offshore industry is still fumbling along, in part thanks to some recent volatility in oil prices and an oversupply of drillships. Investors in this subsector should be aware of the risks.

What are the biggest energy mining stocks?

As I mentioned earlier, BHP Group is a giant company that owns coal mines, but the bulk of its revenue and earnings comes from metals mining. However, since most coal companies are small, it still ranks as one of the largest coal mining companies in the world.

So even though BHP's overall market cap is much larger, the world's largest publicly traded pure-play coal miner is China Coal Energy, which churned out 76.7 million tons of coal in 2018. And yet the partially state-owned company's market cap is still just $5.2 billion. Most coal companies are even smaller. Major U.S. coal producer Peabody Energy only has a market cap of $2.6 billion…of course, that's after a trip through bankruptcy court.

Peabody's bankruptcy woes are far from uncommon; many U.S. coal companies have filed for bankruptcy or gone out of business altogether. The coal industry has been suffering lately thanks to a global oversupply of cheap natural gas, partly due to the natural gas fracking boom in the U.S. Natural gas has proven to be a more efficient fuel on several levels: It weighs less than coal, it can be transported through pipelines in addition to the usual coal transport methods of rail and ship, and it emits less carbon dioxide and soot when burned. As a result, investors should be very wary of investing in the coal industry.

Nuclear power, on the other hand, has actually been growing — albeit slowly — as an energy source in recent years. However, uranium prices have been weak for the last decade, which has hurt uranium miners, most of which are also smaller companies in the energy universe. For example, major uranium miner Cameco has seen its share price fall by nearly 60% over the past 10 years as low prices took their toll. It now has a market cap of less than $5 billion.

What are the biggest utilities?

As the eighth-largest publicly traded energy company in the world, NextEra Energy claims the throne as the biggest utility stock, with a market cap of about $100 billion. It's not hard to see why NextEra is so large: The company is based in sunny Florida, where a mix of hot weather and large population means the company's customers use a tremendous amount of energy to keep cool. In fact, Florida Power and Light, a NextEra subsidiary, is the largest rate-regulated electric utility in the U.S. as measured by the amount of retail electricity produced and sold.

But NextEra is more than just a standard utility. It's also the world's largest producer of solar and wind energy, with solar and wind farms located across the United States and southern Canada.

Lastly, there are plenty of utilities with market caps in this range, including Italian giant Enel, Spanish Iberdrola, and the southern U.S. trio of North Carolina-based Duke Energy, Virginia-based Dominion Energy, and Georgia-based Southern Company. And top-10 utility NextEra Energy is based in Florida, making the American South a heavyweight region when it comes to big utilities.

What should I look for in a big energy stock?

The biggest energy stocks are so large that their high-growth days are largely behind them. That means they're unlikely to see the kind of explosive growth that you can find from smaller companies in the energy sector. However, that doesn't mean they are bad investments.

Most big energy stocks pay a dividend, and in many cases, the dividend yields can be quite high (5% or higher). In particular, MLPs tend to have high yields, as their unique tax structure requires them to pay out most of their cash flow to investors. Big oil majors and utilities also tend to have high yields to compensate their investors for a lack of growth.

But beyond dividends, it's important to look closely at a company's performance. Look to see if the company is profitable, if it's growing — or at least maintaining — revenue, earnings, and cash flow. Check its debt level: Many energy companies, particularly pipeline operators and utilities, need to go into debt to fund construction projects. And compare a company's valuation metrics, like its price-to-earnings ratio or its enterprise value-to-EBITDA ratio, with those of its peers to see whether the company is trading at a comparatively high or low price.

Finally, many energy companies' businesses are cyclical in nature, meaning they have boom and bust cycles. Oil companies are an excellent recent example of this. In 2014, oil prices were very high, and so were the stock prices of oil companies. But the price of oil crashed later that year, which hit oil companies — especially E&Ps — hard. The oil price downturn continued through 2017, and it was a great time to buy oil companies' stocks on the cheap. Since then, the price of oil has recovered somewhat, and the share prices of many oil companies have gone up as well. They may still be good investments, but they aren't quite the bargains they were three years ago.

How can I invest in a big energy stock?

All 10 of the largest energy stocks are listed on the New York Stock Exchange(NYSE), so investing is as easy as purchasing shares through a broker. Of course, if you're new to investing on your own, you will probably want to learn more about investing basics before you buy.

You'll also want to be aware of any shares you may already own in big energy stocks through your participation in a mutual fund, 401(k) plan, or other investment vehicle. Plenty of mutual funds own shares of at least one big energy stock. For example, any S&P 500 index fund includes shares of the energy companies currently listed in the S&P 500 — including ExxonMobil, Chevron, NextEra Energy, ConocoPhillips, and many, many more.

Some large foreign energy companies have stocks that aren't traded on a U.S. exchange like the NYSE or the NASDAQ. These include Italian utility Enel and Spanish utility Iberdrola. While these might not be a good choice for new investors, your broker should be able to invest in these and other foreign stocks through the over-the-counter (OTC) market, also known as the “pink sheets.” Be aware that many foreign energy companies are partially or fully state owned or state operated and that this can affect a stock's performance in unexpected ways. For example, geopolitical tensions between Russia and other Western nations could have long-term negative effects on the Russian state-owned Gazprom and Rosneft. Also, companies that don't trade on U.S. exchanges may have reduced reporting requirements, making it harder to get investor information.

The biggest energy stocks have a place in many portfolios

Thanks to their size and dividend yields, big energy stocks should be attractive to many investors. They can balance a portfolio that's heavy on small-cap or micro-cap stocks or help add diversification to a portfolio that doesn't have exposure to the massive energy sector. Although the biggest of the big are almost all integrated oil and gas stocks, there are plenty of energy companies with substantial market caps to choose from across the sector.

Read more at The Motley Fool.