It is difficult to deny that there exist general feelings of oil as a driver of economic growth. My own experience shows that any visible market analyst does not miss any opportunity to comment of changing oil price. An intriguing thing about these comments is that any big change in oil price is perceived as a danger for real economic growth, independent on the change sign. Skipping the question of oil influence on the entire economy, we would like to address the question of the driving forces behind the prices of energy companies. The pricing power of companies associated with Energy category of the S&P 500 list (we focus on this list in our articles) is of interest for many investors. Here we compare the price evolution of Chesapeake Energy (NYSE: CHK) and Chevron (NYSE: CVX).
In our previous post we presented a pricing model for Halliburton (NYSE: HAL). Also we have been routinely reporting on similar models for ConocoPhillips (COP) and ExxonMobil (XOM). All these models were based on our general concept that the evolution of a share price can be (quantitatively) decomposed in a weighted sum (or difference) of two CPI/PPI components. This concept was elaborated in a series of papers three years ago starting with the one predicting share prices for a COP and XOM since the early 1990s.
For Halliburton, we have exercised several models. The most basic model included the core and headline CPIs, where the core CPI, CC, was a proxy to an energy independent (dynamic) price reference and the headline CPI, C, played the role of energy price, which supposedly, moves the prices of energy companies. Therefore, we assumed that the difference between these two CPIs might express the energy pricing power relative to all other goods and services. As an alternative, we have tested two more pricing models for Halliburton with the core CPI the consumer price index of energy, E, and the producer price index of crude petroleum, OIL, together with the overall PPI. We have found that the best model for HAL includes CC and E with the standard model error of $3.55 between July 2003 and February 2012.
For this article, we have estimated three different models for share prices of two energy companies: Chesapeake and Chevron between July 2003 and February 2012. Figure 1 compares the evolution of actual monthly closing prices since 2003. The upper panel demonstrates that Chevron has a much better performance since 2009 and is currently at its historical peak ~$100; Chesapeake Energy has been fluctuating around $20. In the lower panel, we have displayed these prices as normalized to their respective peak values since July 2003. Chesapeake is now only at 34% of its peak in 2007. One might suggest that the difference in the overall behavior should be rooted in the driving forces behind these prices and thus can be caught in our models by the difference in defining CPIs.
All three studied models allow for different coefficients for defining CPIs, time lags and linear trend. The latter is an obvious component since we expect all share prices to rise with real economic growth. All three models are shown below with the standard errors estimated for the same period in Table 1:
CHK(t)= 3.68C(t) – 1.82CC(t-1) – 9.45(t-2000) – 185.01
CVX(t)= 2.07C(t) – 3.96CC(t-12) + 13.74(t-2000) + 208.52
CHK(t)= 172CC(t-6) + 0.39E(t) – 9.89(t-2000) - 235.34
CVX(t)= -2.65CC(t-12) + 0.25E(t) + 15.96(t-2000) + 277.77
CHK(t)= 1.11PPI(t) + 0.026OIL(t-12) – 6.75(t-2000) – 50.18
CVX(t)= 1.18PPI(t) – 0.044OIL(t-7) + 0.36(t-2000) – 138.25
Table 1. Standard model errors
C and CC
CC and E
PPI and OIL
Figures 2 through 4 depict the observed and predicted prices for the three models. Table 1 implies (the lowermost standard model errors are highlighted) that the best CHK model is associated with the consumer price of energy and the core CPI. On the other hand, the price of CVX share is likely driven by the producer prices and, specifically, the price of oil. Therefore, the shares of energy companies not only demonstrate various time histories but are likely related to different goods and products. The investor could foresee the evolution of both prices if to project the defining CPIs and PPIs.
For CVX, the current price is at the expected level and any rise in oil price will likely reduce the price seven months later. The current price level of CHK is slightly undervalued. We will be reporting on both companies and expect an interesting comparison with oil price fluctuating in a wide range.
Figure 1. Relative performance of CHK and CVX. The upper panel shows actual prices and the lower one – the prices normalized to their respective peak values since 2003.
Figure 2. The observed CHK and CVX prices and those predicted from the core and headline CPI.
Figure 3. The observed CHK and CVX price and those predicted from the energy index, E, and the core CPI.
Figure 4. The observed CHK and CVX prices and those predicted from the PPI of oil, OIL, and the overall PPI.