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After an 18% Gain, Is Chevron Stock a Buy? 3 Things You Need to Know

Oil prices are in a funk.

It's been more than a year since the price of a barrel of crude oil broke below the magic price of $50 a barrel -- and even longer since the halcyon days when a barrel of dinosaur juice cost $100 and up. Cheap oil has blown holes in the budgets of big Middle Eastern oil producers such as Saudi Arabia, and wrecked the stock prices of many a publicly traded oil company, to boot.

At the same time, however, a revival in oil prices earlier this year has helped to raise the share prices of certain stocks from the dead. Despite all the bad news in the markets in general, shares of Chevron (NYSE: CVX), for example, are up 18% over the past 52 weeks -- and one analyst believes they could go even higher.

Here's what you need to know.


Is a new day dawning for oil stocks like Chevron? Image source: Getty Images.

1. Oil stocks took it on the chin

Despite how well Chevron stock has performed in recent months, the stock has clearly suffered from the long-running rout in oil prices. Two years ago, Chevron cost $127 a share. But priced at $101 and change today, Chevron stock remains down 20% from that price.

Looked at another way, a 20% decline is still a better performance than the near-50% decline at rival ConocoPhillips (NYSE: COP), or the 38% sell-off that Royal Dutch Shell (NYSE: RDS-A) (NYSE: RDS-B) shares have experienced. (ExxonMobil (NYSE: XOM), on the other hand, is down only 10% from a couple years ago.)

2. The more things change, the more they stay the same

All of these declines can be tied back to the relatively low cost of oil today. Low oil prices, after all, beget low oil profits for the companies that sell the oil. But as explained today in a post on StreetInsider.com, analysts at Piper Jaffray's Simmons investment banking subsidiary are forecasting a turn in the oil market that could do wonders for the stock prices of the oil majors -- and Chevron in particular.

According to Simmons, "CVX does not offer the deeply discounted valuation" of some of its rivals. But what it does offer is "impressive financial resilience and dividend sustainability alongside leading operational leverage." So while Simmons admits that Chevron stock may not be as cheap as Shell, for example, the analyst argues that Chevron's "premium valuation" is nonetheless "warranted." 

3. But wait! Isn't Chevron unprofitable?

Yes, Chevron is unprofitable today. In fact, S&P Global Market Intelligence data show that Chevron has incurred losses of $746 million over the past 12 months. Then again, Shell and Conoco are unprofitable, too, reporting losses of $4.8 billion and $7.1 billion for the same period, respectively (and Exxon stock sells for a rich 35 times earnings, which tells us it's not very profitable, either).

Those numbers alone tell you that Chevron is in better financial shape than some of its rivals today. Meanwhile, Simmons insists that the key to investing profitably in the oil industry isn't to focus on a stock's profitability today, but on where the oil industry as a whole is in the oil cycle. This, argues the analyst, tells you more about the profits that a company will earn in future years.

The most important thing: Where are we in the oil cycle?

As luck would have it, The Wall Street Journal answered this very question in an article that ran over the weekend.

As the Journal explained, "[C]rude prices had nearly doubled from early February to early June, with the U.S. benchmark approaching $52 a barrel before sinking by over $10 in less than two months. But there is reason to believe that the fourth time will be the charm." While oil prices touched $26 a barrel in February, the Journal thinks such low prices are "unlikely to be revisited soon," and indeed, argues that the oil market is now close to reaching "equilibrium."

According to the paper, oil majors such as Chevron, Conoco, Exxon, and their peers are planning to cut a combined $100 billion from their capital spending on oil infrastructure this year. Relative to expectations set two years ago, that's 40% less investment in bringing new oil to market than previously planned. This investment, when combined with a planned 10% decline in oil production this year, suggests that in both the short term and the long term as well, the oil industry plans to invest much less in bringing oil to market, tightening oil supply to match oil demand -- and stabilizing prices.

Endgame

What's the result then, and what can investors expect? In the Journal's estimation, and it seems in Simmons', too, oil prices of $50 to $70 look to mark the "equilibrium" point, and will be sustainable. If correct, that means we could see a run-up in oil prices of anywhere from 16% to 63%, and perhaps as soon as later this year.

That's where we are in the cycle. And if Simmons is right, that's how close we are to a big jump in Chevron stock as well.

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Fool contributor Rich Smith does not own shares of, nor is he short, any company named above. You can find him on Motley Fool CAPS, publicly pontificating under the handle TMFDitty, where he currently ranks No. 308 out of more than 75,000 rated members.

The Motley Fool owns shares of ExxonMobil. The Motley Fool recommends Chevron. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.