COM - Update On VDE: Hang On For A Wild Ride

2023-10-05 13:00:33 ET

Summary

• Interest rates are at their highest level in years, leading to a bearish outlook for commodity prices.
• Crude oil prices have experienced volatility, with a significant correction in early October.
• Energy policy will be a key topic in the 2024 U.S. election, with rising gasoline prices impacting consumers.

Interest rates have risen to the highest level in years. The 30-year U.S. Treasury bond futures are at the lowest level since 2007. The U.S. dollar index (DXY) has moved higher. After probing below the 100 level in July, the index that measures the U.S. currency against other world reserve foreign exchange instruments is probing above the 107 level. Higher rates and a rising dollar tend to be bearish for commodity prices. Meanwhile, crude oil had been trending higher, with nearby NYMEX futures trading to over $95 in September and Brent futures reaching over $97.50 per barrel before suffering a significant correction in early October.

On June 29, 2023, I outlined the compelling reasons for a floor in petroleum prices and higher prices for the Vanguard Energy Index Fund ETF Shares (VDE). I wrote, " Vanguard Energy Index Fund ETF Shares ((VDE)) is a highly liquid ETF product… I am a buyer of VDE on any price weakness. "

VDE was at the $111.71 per share level on June 29. On October 5, VDE was trading around the $119.83 level, over 7% higher than at the end of June. I remain bullish on VDE and oil prices, but bull markets rarely move in straight lines.

Crude oil works towards triple digits

On June 29, November NYMEX crude oil futures prices (CL1:COM) were trading around the $70 per barrel level.

The chart highlights the 35.8% rise to $95.03 on September 28. On October 5, nearby November futures at the $83 level turned bearish. December Brent futures were at the $84.40 per barrel level in early October after correcting from above $97.50 in late September. Expect volatility to continue. Crude oil declined as U.S. interest rates soared. The 30-year Treasury bond futures fell to the lowest level since 2007 in early October.

Energy policy will be at the center of the stage in the 2024 U.S. election

In the U.S., there is some debate about the reasons for rising crude oil prices. Some believe the administration's approach to addressing climate change by supporting alternative and renewable fuels and inhibiting oil, gas, and coal production and consumption is necessary because of the environmental threat. Others feel the administration handed oil pricing power to the international oil cartel and Russia by limiting the potential of U.S. fossil fuel production.

Saudi Arabia and Russia are the OPEC leaders. Even though Russia does not officially belong to the cartel, Moscow has cooperated with production quotas since 2016, and policy is a function of negotiations between Riyadh, Saudi Arabia, and Moscow.

Saudi Arabia needs at least an $80 per barrel price to balance its domestic budget. Higher levels only improve the Saudi economy. Russia depends on petroleum revenues to finance its war effort in Ukraine. Moreover, Russia has used crude oil as an economic weapon against countries supporting Ukraine.

The geopolitical landscape and U.S. energy policy created a bullish cocktail for the oil market. The Biden administration's energy policy path will be a subject of debate during the 2024 election. Consumers are feeling the pinch with gasoline prices rising above $7 per gallon in California and at high levels across the U.S. over the past weeks. As the electorate often votes with its pocketbooks, high gasoline, and fuel prices that have kept inflation elevated will be one of the leading topics for the election.

Traditional energy investments have done well over the past months

In 2020, the global pandemic caused nearby NYMEX crude oil prices to briefly fall below zero, leading to industry consolidation and cost-cutting. The explosive move that took the NYMEX futures to $130.50 in March 2022 and Brent futures higher caused the surviving oil companies to reap substantial financial benefits. Shares of the leading U.S. oil companies, Exxon Mobil ( XOM ) and Chevron (CVX), exploded since the 2020 lows.

The chart highlights XOM's Over 300% rise from $30.11 in March 2020 to $120.70 per share in September 2023. XOM shares remain near the high at over $109 on October 5.

CVX shares rallied 267.6% from $51.60 in March 2020 to $189.68 in November 2022. At the $164 level on October 5, CVX shares are closer to the late 2022 high.

XOM and CVX shares did not peak when crude oil soared to the highest price in fourteen years in March 2022. It takes time for the profits to filter through, and the leading U.S. oil companies continue to benefit from the elevated petroleum prices in October 2023.

VDE owns shares in the leading energy companies

The top holdings of the Vanguard Energy Index Fund ETF Shares include:

While VDE is a diversified exchange-traded fund ("ETF") product with exposure to oil-related companies, 38.67% of its assets are invested in XOM and CVX shares.

At just under the $120 level on October 5, VDE had $8.18 billion in assets under management. The highly liquid ETF trades an average of 638,683 shares daily and charges a minimal 0.10% management fee. The $4.22 annual dividend translates to an above-market 3.52% yield. The average yield of the S&P 500 (SP500), the most diversified U.S. stock market index, is 1.54%.

Trailing stops in VDE for long positions - Expect higher lows

The trend in any market is always your best friend, and it is bending lower in crude oil, related shares, and the VDE ETF in early October 2023. Even the most aggressive bull markets rarely move in straight lines. Traditional energy has been highly profitable over the past years, and fundamental indicators suggest the bullish trend will continue. However, the higher prices rose, the greater the odds of a significant correction. NYMEX crude oil dropped 51.2% from the March 2022 $130.50 high to the May 2023 $63.64 low. At the $83 level on October 5, the energy commodity remains well below the midpoint of the trading range.

I remain bullish on the prospects for VDE, but I am protecting long positions with trailing stops and will reestablish them at lower levels. Remember, a trade or investment is never long or short at the original execution price but at the current market. Successful traders and investors constantly reassess risk dynamics at the current price. Since the risk is always a function of potential rewards, increasing stop levels and profit targets on long positions is logical as an asset's price rises.

Ride the bullish wave in VDE while realizing the higher the ETF rises, the greater the risk of a sudden and violent correction as we have seen over the past sessions. With the U.S. SPR at the lowest level in four decades, and Saudi Arabia and Russia controlling worldwide oil prices, the odds favor a higher low when the current bout of selling ends.

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