Buying Exxon on the California Gas Shortage

Douglas is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

The shortage of gasoline in California – which has led to record-setting prices at the pump – is not only temporary, it can be partially blamed on a power outage at an Exxon Mobil (NYSE: XOM) refinery. While these combined facts seem like a strange catalyst on which to buy the stock, the attention the shortage has brought to the region gives a strong impetus to look carefully at the industry. What this investigation reveals is that despite failing crude prices, the oil and gas industry looks attractive at current levels. Within the industry, Exxon is the company to own in your core portfolio on current and future prospects.

California’s Woes

The average price for gasoline in California recently hit an all-time high of $4.61 per gallon. Some close to the situation have referred to it as a “perfect storm” of supply disruptions and volatility. A power outage at an Exxon refinery in Torrance is the latest in a series of events that have put the squeeze on supply. The August 6th fire at a Chevron (NYSE: CVX) plant in Richmond not only has caused reduced production at one of the nation’s largest refineries, but temporarily caused the pipeline responsible for moving crude to Northern California to go offline.

The final piece of this puzzle has been the California requirement that during the summer months a special cleaner burner blend be used. This requirement was recently suspended in response to the shortage, but these types of changes take time to take effect. Meanwhile, the national average is around $3.79 per gallon, which is the highest average for this time of year on record.

Impact for the Industry

During a U.S. Presidential election, it is easy to become concerned about the future of the oil and gas industries as each candidate hammers away at the need for energy independence. Equally central to each side’s position is a willingness to end subsidies to the majors, which totaled over $2.5 billion last year. While I agree that there is no cogent explanation for why Exxon or Chevron needs this type of tax break, even if the subsidies were to end, the sector is in good shape. The industry has an average P/E of 11.5, with many companies well below this level, and future prospects are strong.

Expansion Projects

Currently Exxon has agreed to move forward with partners ConocoPhillips (NYSE: COP), BP (NYSE: BP) and TransCanada (NYSE: TRP) to build a massive pipeline across Canada. The purpose of the $100 billion project is to allow for the export of liquefied natural gas to Asia; the price of natural gas outside of North America is as much as seven times higher than on this continent. While construction commitments have not been solidified, and this is a multi-company project, it represents a significant source of future growth for all involved.

Additionally, Exxon recently received approval from the U.S. Energy Department to begin construction of natural gas liquefaction plants in Texas as a part of its strategic alliance with Qatar Petroleum International. This $10 billion project will also take five years to complete, but will allow the company to export LNG to the Middle East. The permit grants the right to export LNG only to countries that currently enjoy a free-trade pact with the U.S. While some proponents are looking to expand the permit, this initial steps still carries significant growth potential moving forward.

The Trade

Despite oil prices down nearly 10% in the last three weeks, the stocks in the industry have remained strong. This suggests that as oil prices rebound, Exxon and its peers will enjoy increased pricing power. The California situation demonstrates the strength of this pricing power, since even small supply disruptions have led to dramatic price spikes. The message is that demand remains high and the oil and gas sector remains strong. While relative to its peers, Exxon trades at a slight P/E premium – 9.8 for Exxon relative to 7.8 for BP and 8.8 for Chevron – the company has the strongest growth prospects as reflected in its PEG of 1.46 relative to 3.54 for BP and 12.1 for Chevron.

Offering a solid income element with a dividend yield of 2.5%, Exxon Mobil is a strong addition to your core portfolio at current levels.

Mr. Ehrman has no positions in the stocks mentioned above. The Motley Fool owns shares of ExxonMobil. Motley Fool newsletter services recommend Chevron. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.If you have questions about this post or the Fool’s blog network, click here for information.

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