Oil is Starting to Flow Out of the Strait of Hormuz Again. Should You Still Buy Oil Stocks?

The geopolitical conflict in the Middle East pushed oil prices sharply higher. Now that the tensions have cooled, the price of oil has fallen back to its levels prior to the conflict. Major oil companies, like ExxonMobil (XOM +2.21%) and Chevron (CVX +1.49%), have warned that oil prices aren’t reflecting industry fundamentals. So oil prices could move higher again.

But the big lesson from this event isn’t that investors should try to time energy markets. The lesson is that oil and natural gas are vital for the normal functioning of the world economy. Because of that, most investors should have some exposure to the sector. Here’s what you need to know and why Exxon and Chevron are great energy stocks to buy even as oil prices come back down.

The world still needs oil

For many years, the world has been focused on shifting away from dirtier energy sources and toward cleaner ones. That’s great, but the conflict in the Middle East has made it clear that oil and natural gas remain vitally important. That isn’t likely to change anytime soon, with the most likely energy scenario including more clean energy and at least a similar amount of oil and natural gas, if not a little more. That’s because energy demand is rising as the world gets more digital and more economically developed.

That said, oil and natural gas are highly volatile commodities. The conflict in the Middle East has, again, highlighted this fact. So investors need to take a measured approach to the energy sector. You could buy a pure-play driller like Devon Energy (DVN +2.70%) or Diamondback Energy (FANG +1.71%), but these businesses are entirely reliant on the prices of oil and natural gas to support their top and bottom lines.

Devon and Diamondback are both onshore U.S. drillers, which means they don’t have direct geographic exposure to the Middle East. That’s good for their production metrics, but neither one can avoid the impact the Middle East has on commodity prices. Most investors looking for long-term exposure to energy will probably want to look elsewhere.

Exxon and Chevron: Big, strong, and diversified

Exxon and Chevron are two of the world’s largest energy companies. They are integrated, meaning they are exposed to energy production, transportation, and processing. Having diversification across the entire energy value chain helps to soften the peaks and valleys of energy prices, since the sector’s different segments perform differently through the energy cycle.

Exxon and Chevron also have geographic diversification, with operations worldwide. So problems in one area won’t derail their entire businesses, and the companies can put capital to work where it’s likely to generate the highest returns. Moreover, Exxon and Chevron tend to be run conservatively, with both making limited use of leverage. At this point, their debt-to-equity ratios are modest at 0.19x and 0.25x, respectively. Those would be low numbers for any business and give them the financial wherewithal to use debt to support their operations during energy market downturns.

The big story is the dividend

The strength of Exxon and Chevron is highlighted by the fact that each company has increased its dividend annually for decades despite oil’s volatility. That’s great news for income-focused investors, but that resilience also makes these stocks a good fit for most investors. Of the two, Chevron currently has the higher dividend yield, at 4.1%. Exxon’s yield is 3%.

However, there’s one more subtle wrinkle here that you shouldn’t ignore. Both Exxon and Chevron have been warning that oil prices aren’t reflecting the energy sector’s true fundamentals. Energy markets don’t operate like a light switch, and the end of the conflict is still an uncertain affair. In other words, despite the drop in oil prices, you may still want to add exposure right now because energy prices could rise again. And if you do buy energy stocks, Exxon and Chevron are two great options.