The energy industry is broadly divided into three components consisting of upstream companies that do the exploration and production of oil and natural gas, the midstream companies that transport and store the extracted hydrocarbons and the downstream companies that refine, process and sell the end products like gasoline. There is often significant overlap between these components and there are several energy companies that do all three.
Over the last several weeks we have seen very consistent insider buying by insiders of midstream energy companies. Most of these purchases have been by insiders that have been with their companies for decades or were founders of those companies. What is remarkable is not just the size of the purchases but also the frequency of these purchases.
Insiders are often early when buying shares and are usually very optimistic about the prospects of their companies even if that optimism is unwarranted. A group of purchases across multiple companies in a sector appears to be a stronger signal than a cluster of purchases inside a single company. What we are seeing now reminds me of a cluster of purchases across companies when the for-profit education industry was in trouble after the Obama administration cracked down on predatory recruiting practices. We saw something similar with theme park companies after the Great Recession where insiders of both Six Flags (SIX) and Cedar Park (FUN) were buying stock.
Sectors in crisis often go through a familiar cycle where over investment leads to increased competition and pricing pressure. These depressed prices in turn cause bankruptcies of the weak players and their assets are often picked up by the surviving strong players. The Energy Select Sector SPDR Fund (XLE) has underperformed the S&P 500 by more than 30% over the last two years and a whopping 78% over a five year period as you can see from the chart below. The smaller iShares U.S. Oil & Gas Exploration & Production ETF (IEO) has done even worse and is down nearly 10% over the last year.
The crisis in the upstream energy sector has come rolling down to the midstream part of the energy industry as you can see from the performance of the Alerian MLP ETF (AMLP) and three of the midstream companies that have seen insider buying in the last few weeks.