Warren Buffett became the world’s greatest investor by finding undervalued stocks. These three big oil stocks are right up his alley.
How does he do it?
Warren Buffett says he realized he was going to be rich very early on in his career. It was during his honeymoon out west that he figured it out:
“When I visited the casino and saw all these smart, well-dressed people participating in a game with the odds against them, it was then that I realized I won’t have a problem getting rich!”
Buffett realized that Wall Street works the same way.
“There seems to be some perverse human characteristic that likes to make easy things difficult,” he says.
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Operating revenue increased over 70%.
Gross profit surged 122%.
Net income was up over 60%.
So Buffett did the opposite. He looked for companies trading at steep discounts to their real value. He did his homework, made sure they were financially strong, and with positive earnings. Then he bought them, waiting for the market to recognize his foresight. That got me thinking about big oil stocks today. More on those in a minute.
Buffett’s record using this strategy is mind-boggling. Over one 13-year period, for instance, he averaged an annual gain of 29.5% without even one losing year.
Buffett learned value investing from his professor at Columbia University, Benjamin Graham, who wrote the bible on value investing and put it to work on behalf of his clients, summarized in his firm’s 1946 shareholder letter:
“(The goal is) to purchase securities at prices less than their intrinsic value … with particular emphasis on purchase of securities at less than their liquidating value.”
Time to Switch from Growth to Value?
Throughout this century, value stocks have done very well but over the last decade, growth stocks have been decidedly winning the popularity contest.
Now, given the recent sell-off in growth stocks while the broad market has remained mostly intact, the tide seems to be shifting back to value investing.
To take advantage of that shifty, you need a strategy to avoid the “dead money” trap.
By purchasing shares worth less than the hard assets the company holds, you give yourself huge upside potential with limited downside risk.
But you need to do your homework and evaluate a company’s financial situation and understand just why a stock is trading below its real value.
The next step is to figure out what events will “unlock” this hidden value. You need to find and confirm several catalysts and then see the stock begin an uptrend – to begin to bounce – before investing.
Big Opportunity in Big Oil Stocks
The oil sector is perhaps the best near-term opportunity for value investors.
Energy stocks have bounced back nicely in recent months after hitting rock-bottom a year ago, as oil prices are now at multi-year highs. But most big oil stocks still trade at deep discounts.
Take Chevron (CVX), Exxon Mobil (XOM) and Royal Dutch Shell (RDS-A).
Chevron is perhaps the most expensive of the three, trading at 19 times forward earnings, but at 104 per share is still well below its 2014 peak in the 130s.
Exxon, which is still a cash machine, has been spending more aggressively than competitors on increasing production and offers a 5.9% dividend yield, and trades at 18 times forward earnings.
Royal Dutch Shell is a super major that has ambitious plans to steadily increase its footprint in green energy while it continues to leverage its production in the Permian Basin. And despite being up 13% so far this year, the stock remains cheap at just 9 times forward earnings.
But big oil stocks aren’t the only great value out there. Good deals are scattered all over the globe right now, and I search far and wide for them in my Cabot Explorer advisory, which recommends the best stocks from around the world. My Explorer portfolio has an average return of better than 140%!
Click here to join the Cabot Global Stocks Explorer and learn which stocks from around the world I’m currently recommending.
Would you, or do you, invest in these big oil stocks? Why or why not?
*This post has been updated from an original version, published in 2020.