S&P 500 Energy Sector
Luke DiTomas
Alex Foisel
Ian McLeod
February 10, 2009
Agenda






Size and Composition
Industry Analysis
Economic Analysis
Financial Analysis
Valuation Analysis
Recommendation
Size and Composition
Portfolio Weights

The energy sector in the SIM portfolio is currently underweight when
compared to the S&P 500 by 6.04%
S&P 500 Weight
Telecommunication
Services, 3.72%
Utilities, 4.61%
Consumer
Discretionary, 8.19%
Materials, 3.04%
Consumer
Staples, 12.85%
Information
Technology, 16.22%
SIM Weight
Telecommunication
Services, 2.19%
Materials, 1.79%
Utilities, 2.89%
Information
Technology, 18.97%
Energy, 14.09%
Consumer
Discretionary, 9.67%
Consumer
Staples, 14.22%
Energy, 8.05%
Industrials,
8.27%
Industrials,
10.62%
Health Care,
15.94%
Financials,
10.72%
Health Care, 21.50%
Financials,
9.59%
Size and Composition
S&P 500 and Sector Performance

The energy sector:

Contains 39 stocks

3rd largest market cap*

4th best YTD return: (3.16%)*

6th best YTD return in 2008: (36.74%)
Sector
S&P 500
Energy
Materials
Industrials
Consumer Discretionary
Consumer Staples
Health Care
Financials
Information Technology
Telecommunications Services
Utilities
Market Cap
7,192,455
1,014,055
218,994
763,552
589,017
924,124
1,146,392
770,678
1,166,403
267,760
331,480
Level
Daily
MTD
QTD
YTD
$825.88 -2.28% -8.57% -8.57% -8.57%
$374.13 -1.24% -3.16% -3.16% -3.16%
$127.62 -3.67% -7.24% -7.24% -7.24%
$180.98 -2.48% -12.66% -12.66% -12.66%
$151.37 -2.94% -10.64% -10.64% -10.64%
$227.75 -3.22% -7.67% -7.67% -7.67%
$305.40 -1.19% -1.30% -1.30% -1.30%
$123.98 -2.47% -26.55% -26.55% -26.55%
$224.67 -2.89% -3.08% -3.08% -3.08%
$99.34 -0.96% -11.06% -11.06% -11.06%
$146.71 -2.39% -0.83% -0.83% -0.83%
*As of January 30, 2009
Size and Composition
Top Stocks

Top 10 energy stocks based on S&P 500 Index Weight†

ConocoPhillips is currently held in the SIM portfolio*

BP is currently the only other energy stock in the SIM portfolio
Company
Exxon Mobil Corp.
Chevron Corp.
ConocoPhillips*
Occidental Petroleum Corporation
Apache Corp.
Devon Energy Corporation
XTO Energy Inc.
Anadarko Petroleum Corp.
Marathon Oil Corporation
Halliburton Company
Quote Market Cap P/E
EPS Dividend Yield
80.34
399.77B 9.24 8.69
2.00%
74.90
152.18B 6.42 11.67
3.50%
47.94
71.47B N/A -11.16
3.90%
56.77
45.98B 6.80 8.35
2.30%
78.74
26.35B 5.62 14.02
0.80%
58.20
25.84B N/A -4.85
1.10%
39.34
22.69B 10.01 3.93
1.20%
41.78
19.18B 5.93 7.05
0.90%
27.15
19.25B 5.49 4.95
3.50%
19.71
17.50B 11.59 1.70
1.80%
S&P 500 Index
Weight (%)
5.40%
2.01%
0.94%
0.61%
0.35%
0.34%
0.30%
0.25%
0.25%
0.23%
† As
of February 6, 2009
Size and Composition
Sector Composition

Natural gas transmission & distribution


Pipe lines, except natural gas


This category covers establishments primarily engaged in the exploration, production, refinement,
transportation and sale of crude oil and natural gas
Petroleum (Producing)


This category covers establishments primarily engaged in the manufacturing of machinery and
equipment for use in oil and gas fields
Petroleum (Integrated)


This industry classification includes establishments engaged in the gathering system and transportation
via pipeline of refined and semi-refined products
Oil & gas field machinery & equipment


This industry classification includes establishments engaged in both the transmission and distribution of
natural gas, but not in distribution to end users
This industry classification includes establishments engaged in the exploration, developing and producing
natural gas, crude oil and natural gas liquids
Coal

This industry includes establishments primarily engaged in mining operations producing bituminous coal,
anthracite, and lignites
Size and Composition
Energy Stocks

BP- Petroleum (Integrated)


ConocoPhillips- Petroleum (Integrated)


Operates as an integrated energy company
which explores, produces and markets crude oil,
natural gas and natural gas liquids
Pengrowth Energy Trust- Petroleum
(Producing)


Engages in the exploration, production,
transportation, and sale of crude oil and natural
gas
Engages in the acquisition, ownership and
management of working interests and royalty
interests in oil and natural gas properties
Stock price quotes and market caps as of
February 9, 2009
Dividend Diluted
Yield
EPS
Quote Market Cap Beta P/E
2008 Revenue
$45.46
143.79B 0.65 6.79
7.40%
6.70
367.05B
Dividend Diluted
Yield
EPS
Quote Market Cap Beta P/E
2008 Revenue
$45.83
72.35B 1.18 N/A
3.90%
-11.16
225.42B
Dividend Diluted
Yield
EPS
Quote Market Cap Beta P/E
2007 Revenue
$8.49
2.16B 0.84 10.61
20.10%
0.80
1.26B
Industry
Industry Analysis

Mature phase of life cycle

Global economy influence


Foreign & domestic economies

Global recession

Credit crisis
OPEC




Controls 40% of world’s crude oil
Government factors

Volume controls

Price regulation

Imposition of taxes and subsidies
External factors

Threat to entry

Intensity of rivalry

Supplier bargaining power

Buyer bargaining power

Substitutes
Inputs: crude oil, labor, equipment / outputs: fuels, plastics
Source: EIA
Industry
Industry Analysis Cont.


Threat to entry (Low)

High start-up costs

Economies of scale

Multiple permits and licenses needed for exploration of oil

Oil exploration requires large amounts of cash reinvested in the business each year
Intensity of rivalry (High)

Heightened government control has restricted access to new upstream resources

Oil and gas are facing growing competition from other fuel sources

Increasing difficulties in extracting the remainder of the world’s oil will lead companies to strive for
greater efficiencies - hence increasing rivalry

Increasing security of supply and transport costs has pushed companies to build plants closer to major
demand centers
Industry
Industry Analysis Cont.



Supplier bargaining power (Moderate)

Foreign governments require permits and licenses in order to conduct drilling/extraction

Facilities need specialized parts and equipment to ensure proper functioning

Vertical integration has reduced the reliance of input suppliers
Buyer bargaining power (Low)

Commodity traders effect oil prices, shifting price power away from buyers

Demand by foreign countries is expected to increase
Substitutes (Moderate)

Although there is movement towards alternative energies, there hasn’t been a sustainable energy source
which could be a true substitute for oil

Oil is one of the main commodities that drives the US/global economy
Industry
Business Segmentation







Exploration & Development
Hydrocarbon Production
Shipping
Refining & Blending
Storage
Distribution
Market
Value Chain
Exploration &
Development
Exploration
Hydrocarbon
& Production
Developmen
Hydrocarbo
Shipping
t
n Production
Shipping
Refining &
Blending
Refining
Storage
&
Blending
Distribution
Storage
Distribution
Market
Market
Source: UTC Energy Investment
Industry
Rise in Future Crude Oil Prices



Subsiding global recession

Rise in crude oil prices and demand

Turnaround in company earnings and job numbers

The dollar’s rally ends
Demand in China and India

Growing rapidly from continued industrialization

Factories expected to pump up crude oil demand
OPEC crude oil pricing goals

OPEC countries need $60 to $80 per barrel


To balance budgets and invest in social programs
Further supply cuts
Industry
Rise in Crude Oil Prices Cont.


Crude oil producers

Crude oil is becoming scarcer

Price of crude oil too low to support the income needs of producing countries
Alternative energy

Start-up phase

High costs

Hard to access more capital

Expensive to implement

Lack of demand given lower crude oil prices

Traditional energy has more benefits

Cheaper source

Fossil fuels readily available

Easy to use

Easily transportable
Industry
Alternative Energy

Solar

Advantages:



Always there with no pollution being created
Disadvantages:

Low efficiency (15%) which can only be compensated for by large collecting areas

Very high initial costs

Lack of adequate storage materials (batteries)

High cost to the consumer
Wind

Advantages:


None on large scale; supplemental power in windy areas
Disadvantages:

Relatively low efficiency (30%)

Disruption of migratory birds (note this is what killed the recently proposed Columbia River Gorge wind
turbine project)

Unreliable and its strength depends on local weather patterns, temperature, time of year and location

Equipment is very expensive compared to other energy sources and initial expense is high
Industry
Alternative Energy Cont.

Biomass


Advantages:

Theoretically inexhaustible fuel source

Alcohols and other fuels produced by biomass are efficient, viable, and relatively clean-burning
Disadvantages:

Could contribute a great deal to global warming and create pollution if directly burned

Still an expensive source, both in terms of producing the biomass and converting it to alcohols

On a small scale there is most likely a net loss of energy
Economic
Crude Oil Prices vs. Energy Sector
$160.00
$140.00
$120.00
$100.00
$80.00
Crude Oil Prices
SP-10
$60.00
$40.00
$20.00
$0.00
Regression: Crude Oil Prices and
Energy Sector
Economic
100
90
80
70
SP-10
60
50
•Correlation: 0.9288
•R-Square: 0.8626
40
30
20
10
0
$0.00
$20.00
$40.00
$60.00
$80.00
Crude Oil Prices
$100.00
$120.00
$140.00
$160.00
Economic
Yen/Euro Cross vs. Crude Oil Prices
$180.00
$160.00
$140.00
$120.00
$100.00
$80.00
$60.00
$40.00
$20.00
$0.00
Yen/Euro Cross
Crude Oil Price
Prices
Regression: Yen/Euro Cross and Crude
Oil Prices
Economic
$160.00
$140.00
Crude Oil Prices
$120.00
$100.00
•Correlation: 0.7919
•R-square: 0.6272
$80.00
$60.00
$40.00
$20.00
$$0.00
$20.00
$40.00
$60.00
$80.00
$100.00
Yen/Euro Cross
$120.00
$140.00
$160.00
$180.00
Financial
EPS Growth Rates

All growth rates represent a 3, 5, or 10-year trailing average
60.0%
54.3%
50.0%
41.3%
40.4%
40.0%
27.1%
24.0%
30.0%
20.0%
27.2%
23.1%
19.9%
15.4%
16.1%
11.5%
10.0%
25.4%
5-year
9.2%
7.1% 6.9%
10-year
2.5%
1.7%
0.0%
-10.0%
-0.3%
SP5A
3-year
SP-10
XOM
XTO
COP
BP
-2.3%
PGH
-4.7%
-20.0%
-30.0%
-25.4%
Financial
10-Year EPS Growth Rate
30.0%
24.0%
25.0%
20.0%
15.0%
10.0%
9.3%
8.7%
6.9%
10.6%
9.9%
6.3%
5.0%
0.0%
-5.0%
-10.0%
-15.0%
2.6%
-0.5%
-10.7%
-1.8%
Financial
Revenue Growth Rates

All growth rates represent a 3, 5, or 10-year trailing average
50.0%
46.1%
45.0%
41.6%
40.0%
36.4%
34.7%
32.1%
35.8%
35.0%
30.0%
26.1%
3-year
25.0%
20.0%
17.9%
15.0%
10.0%
18.6%
12.8%
8.7%
7.1% 7.2% 7.4%
13.8%
12.2%
5-year
19.9%
18.0%
10-year
13.8%
9.8%
9.3%
5.0%
0.0%
SP5A
SP-10
XOM
XTO
COP
BP
PGH
Financial
Pre-Tax Margins

All margins represent a 5-year trailing average
70.0%
60.0%
50.0%
Dec 2004
40.0%
Dec 2005
30.0%
Dec 2006
Dec 2007
20.0%
Dec 2008
10.0%
0.0%
SP5A
-10.0%
SP-10
XOM
XTO
COP
BP
PGH
Financial
Energy Sector Free Cash Flow

All cash flows represent 12-month calendar years
millions
7,700.0
6,781.5
6,700.0
5,773.1
5,694.4
5,700.0
5,012.8
4,700.0
3,858.6
3,600.0
3,700.0
2,700.0
2,312.5
1,700.0
1,225.9
602.9
700.0
-223.2
-300.0
Dec 1999 Dec 2000 Dec 2001 Dec 2002 Dec 2003 Dec 2004 Dec 2005 Dec 2006 Dec 2007 Dec 2008
Valuation
Sector Segmentation

Segmented the sector based on SIC code


Established in 1937 , The Standard Industrial
Classification (abbreviated SIC) is a United
States Government system for classifying
industries by a four-digit code
Sector Weight by SIC Code
Segmented sector by SIC code:

Natural gas Transmission &Distribution- 7
stocks

Pipe Lines, Except Natural Gas- 2 stocks

Oil & Gas Field Machinery & Equipment- 12
stocks

Petroleum (Integrated)- 12 stocks

Petroleum (Producing)- 10 stocks


*Petroleum stocks make up over 56% of sector
Coal- 3 stocks
Natural Gas Transmission &
Distribution
7.7%
17.9%
12.8%
Pipe Lines, Except Natural
Gas
5.1%
Oil & Gas Field Machinery &
Equipment
Petroleum (Integrated)
25.6%
Petroleum (Producing)
30.8%
Coal
Valuation
Valuation Analysis

Price/Earnings Ratio

Energy sector mean: 12.3

S&P 500 mean: 18.2

Earnings are very correlated to oil prices


OPEC production cuts


Gasoline sold for 37% less in Q408 than Q407
Met apx. 67% of the total 4.2 million barrel-per-daycut

Additional exploration costs

Real GDP explains about 93% of the demand for
petroleum products
Price/Earnings/Growth Ratio


Energy sector mean: 1.4
S&P 500 mean: 1.3

Additional OPEC production cuts

Analyst/U.S. Government oil price predictions

Consensus 2009 price per barrel- apx. $60

Optimistic analysts- $100 per barrel
Price/Earnings Ratio
45.0
40.4
40.0
35.0
30.0
24.3
25.0
20.0
15.0
13.6
15.1
17.8
17.5
16.6
15.0
12.3
9.0
10.0
8.8
6.7
5.0
0.0
Natural Gas
Pipe Lines,
Oil & Gas Field
Transmission & Except Natural Machinery &
Distribution
Gas
Equipment
3.5
Petroleum
(Integrated)
Petroleum
(Producing)
Coal
Mean
Current
Energy Sector (mean)
S&P 500 (mean)
Price/Earnings/Growth Ratio
2.9
3.0
2.5
2.1
2.0
1.6
1.5
1.0
1.3 1.3
1.4
1.2
1.3
1.3
1.1
0.9
0.5
0.1
0.0
Natural Gas
Pipe Lines,
Oil & Gas Field
Transmission & Except Natural Machinery &
Distribution
Gas
Equipment
Petroleum
(Integrated)
Petroleum
(Producing)
Coal
Mean
Current
Energy Sector (mean)
S&P 500 (mean)
Valuation
Valuation Analysis Cont.


Price/EBITDA

Energy sector mean: 5.8x

S&P 500 mean: 8.5x

Decrease in EBITDA margins
Return on Equity
10.0x
8.0x
8.8x
6.5x
5.6x
6.0x
4.0x
2.0x

S&P 500 mean: 17.0%
0.0x

Increased revenue arising from higher petroleum
product prices flowed through to profit
5.5x
5.1x
4.3x
Energy sector mean: 22.1%
10-year revenue growth rate for 6 largest oil
refiners- 17.99%
11.5x
12.0x


Price/EBITDA
14.0x
4.2x
2.6x
3.3x
Natural Gas
Pipe Lines,
Oil & Gas Field
Transmission & Except Natural Machinery &
Distribution
Gas
Equipment
3.3x
Petroleum
(Integrated)
Petroleum
(Producing)
Return on Equity
35.0%
4.0x
Coal
Mean
Current
Energy Sector (mean)
S&P 500 (mean)
31.5%
30.0%
24.3%
25.0%
20.0%
23.3%
21.6%
18.2%
15.9%
15.0%
13.8%
12.3%
14.5%
14.5%
15.5%
12.2%
10.0%
5.0%
0.0%
Natural Gas
Pipe Lines,
Oil & Gas Field
Transmission & Except Natural Machinery &
Distribution
Gas
Equipment
Petroleum
(Integrated)
Petroleum
(Producing)
Coal
Mean
Current
Energy Sector (mean)
S&P 500 (mean)
Valuation
Technical Analysis

Period of consolidation


Lower volumes
Wedge formation

Upside breakout imminent

Constant highs, higher lows

20 & 50-day moving averages


Broken to the upside

Creation of new support levels
Relative strength index (RSI)


Moving average convergence divergence
(MACD)


Upward trend developing
Narrow gap
ADX directional movement index

Crossover signals a buy
Source: Stockcharts.com
Recommendation
Recommendation

Current SIM Weight: 8.05%

Current S&P 500 Weight: 14.09%

Currently underweight 604 basis points

Underweight the sector by 209 basis points relative to the S&P 500

An increase in current SIM Weight of 3.95%

Why not underweight more?
 Energy prices near bottom
 Valuation looks very cheap
 Increase in global energy demand

Why not overweight?
 Short-term demand for oil could further contract
 Recession could extend longer than expected