When Should You Take Profits On Energy Stocks?

The last year or so has been a very satisfying time for me in investing terms. As you may know if you have been reading my scribblings here for a few years, I have been saying for some time that energy would recover, and it has done so spectacularly over the last twelve months. The sector ETF, XLE, has roughly doubled in that time, but some of my portfolio favorites have done even better than that. Stocks like FANG, up around 300%, EOG, up "only" 200%, and RIG, which has gained around 400%, have had great years.

You may think, given that I wrote just last week that I still think $100 oil before year's end is a distinct possibility, that I would continue to ride that particular horse. I might get a bit bored, but I could always spend my time laughing at the Jim Cramer's of this world who, lest you forget, just a year ago told us all that oil and oil stocks were a "perma-short". As we used to say in the interbank forex market, "How you left, Jim?".

Surprisingly, though, what I will be doing over the next few weeks is selling some of my energy stocks into any rallies we may see from here. Just as Cramer was a fool a year or so ago to look at cyclical weakness and declare it a forever trend, so I would be foolish to see the current strength as inevitably lasting forever. There is almost bound to be a pullback in energy stock before long and it could even come as oil continues to climb. Markets look forward, and if fuel prices keep rising there will be some pretty scary talk about releasing reserves, putting pressure on OPEC+, or whatever. That will spook some investors and could prompt some pretty heavy selling as the year draws to a close.

Even if energy stocks do remain strong, though, there is a confluence of timing and pricing that makes this an ideal time to bank some profits. I'm not exiting the sector altogether, but I will be selling into rallies rather than buying on dips.

From a timing perspective, there is an old saying that you should never let the taxman make trading decisions for you but there is one aspect of taxation of investment income that can't be ignored. Profits on investments held for more than a year are taxed at the long-term capital gains rate of 0-20% depending on your income, whereas short-term gains are treated as ordinary income and taxed at your marginal rate. I should say that I am not a tax professional, so you should consult your own before making any tax-related decisions, but for me, the fact that most of these holdings now date back more than a year is a big plus.

When combined with triple-digit gains over the last twelve months, it enables me to get to the holy grail of trading, the "zero-cost position" or "trade to nothing". I can sell enough of each stock to bank 120% of my initial investment, and leave myself with a still-sizeable, long position that has an after-tax cost of entry of zero. Now that is what I call a nice position!

If you were able to ignore the screaming of Cramer and others a year or so ago and see the bounce in energy coming, you may well find yourself looking at big profits on some trades. If so, you might want to consider taking some profit, even if you are still bullish on oil, because sometimes the setup is just too good to miss!