These are the best of times for the US energy industry. Domestic crude production and fuel exports are booming, propped up by triple-digit oil prices and a clear upswing in natural gas.

The Energy Select Sector SPDR (NYSE: XLE) is up 6.5 percent year to date, versus a 1.5 percent gain for the S&P 500 and a 1.2 percent loss for the Nasdaq. Meanwhile, the SPDR S&P Oil & Gas Exploration & Production ETF (NYSE: XOP) is up 13.6 percent so far in 2014, thanks to the small and midcap drillers landing big windfalls from shale. 

Energy stocks are now the undisputed market leaders, enjoying a degree of outperformance not seen since early 2011, before the debt ceiling fiasco and the European crisis took their toll. With Libyan production offline, Iran still embargoed and  major oil exporter Russia threatening to invade more of neighboring Ukraine, the stock market has belatedly come to view $100 crude as par for the course rather than a fleeting anomaly.

How right it is about that, time will tell. But it was a lot easier to recommend new buys a year ago when the consensus was bracing for a big correction.

Now West Texas Intermediate crude is up 10 percent over the last year, NYMEX natural gas has appreciated by 15 percent and the average national price of gasoline has been up  11 weeks in a row. High energy prices appear more and more priced in. They will have to stay high for energy stocks to stay ahead of the pack.

Meanwhile, the Gulf Coast is drowning in surplus domestic crude. Commercial crude inventories rose by 3.5 million barrels last week to 398 million barrels, according to the US Energy Information Administration. That was the biggest stockpile since 1931, when unwanted crude was piling up in the depths of the Great Depression.  The current commercial stockpiles would be sufficient to turn the island of Manhattan into a waist-deep crude lake, logistics permitting.

Crude stocks nationwide (left) and on Gulf Coast (right)


Source: US Energy Information Administration

Right now, logistics are permitting mostly a Gulf glut fed by light, sweet crude from the Eagle Ford and the Bakken. The Gulf has the biggest refineries,  most extensive pipeline links and the best location for exporting refined products.  With crude exports still mostly banned under a relic of a law passed in 1975, this is where the crude and condensate can most profitably be processed into fuel that can be sold at home and abroad.

For the moment, the oil is coming in at a pace above what the region’s refineries can handle, and some market analysts have asserted that the record stockpiles as a sign that crude prices are due for a correction. The trouble with that argument is, they haven’t corrected much so far. Those 3.5 million barrels added last week weren’t bought from the producers by some rubes unfamiliar with the industry’s fundamentals. They belong to the refiners and big traders willing to hold crude worth an aggregate of $40 billion despite the fact that the futures market expects it to get cheaper in the coming months.

It may be that the domestic refineries simply can’t cope with the surge of shale production. Or perhaps today’s high utilization rates require more stockpiling than in the past. In any case, storage represents real demand for crude from some of the savviest players in the business, and if the future price could be easily extrapolated from stockpiles we would all have gotten rich long ago.

It’s not that simple. But it’s also true that, with roughly 80 percent of the domestic storage capacity used up, the current pace of accumulation can’t continue for much longer.

Lifting curbs on crude exports is one obvious solution, albeit one that might make too much economic sense for Congress, especially in an election year.  A more realistic saving grace is the continuing pickup in domestic fuel consumption, which is so far defying the EIA’s forecast for flat US demand this year.

Over the last four weeks, the EIA has registered a 1.8 percent year-over-year rise in deliveries of gasoline, a 2.6 percent increase for jet fuel and a 5.2 percent  gain in demand for distillate fuel oil. These tallies of “products supplied” are the agency’s preferred measure of domestic demand. They do not include fuel exports that are so far in 2014 running 22 percent above last year’s record levels.

New highs for drillers while the crude market looks oversupplied relative to what refineries can process is an opportunity to take profits in some of the biggest and riskiest winners, particularly those reliant on high crude prices to continue financing rapid development .

Continental Resources (NYSE: CLR) has returned 73 percent since we picked up the leading Bakken producer 14 months ago, and we’re now recommending that you sell half of your position. Whiting Petroleum (NYSE: WLL) has been good for  a 47 percent gain over a slightly shorter span and now warrants similar profit-taking. So does Gastar Exploration (NYSE: GST), up 29 percent since we recommended it in December. We believe in these companies and in their long-term potential, but this is the right time to trim crude exposure. WPX Energy (NYSE: WPX) produces more natural gas than crude, but with the stock up 23 percent since March 27 we’re not letting that stop us. Sell half of CLR, WLL, GST and WPX.

Source: Howard Weil

Meanwhile, Gulf Coast refiners are already enjoying a margin boost from the glut of crude on their doorstep. Our favorite plays on this theme remain Valero Energy (NYSE: VLO), up 45 percent since we added it six months ago, and Marathon Petroleum (NYSE: MPC), after a 28 percent return over 15 months. The charts look strong and the price should follow profits higher. We’re raising our price targets accordingly. Buy VLO below $63 and MPC below $95. Western Refining (NYSE: WNR), with its strong profitability and 26 percent short interest also looks attractive here. Buy WNR below $46.