Energy stocks are becoming one of Wall Street’s favorite plays for the fourth quarter

Published Mon, Sep 27 20212:10 PM EDTUpdated Mon, Sep 27 20214:22 PM EDT

Energy stocks are surging as oil and natural gas prices jump, and Wall Street analysts believe the rally is far from over — for specific stocks. West Texas Intermediate crude futures , the U.S. oil benchmark, traded at their highest level in more than two months Monday, while international benchmark Brent crude hit a price last seen in October 2018. Oil is getting a boost as demand recovers, while supply remains constrained due in part to Hurricane Ida knocking production in the Gulf of Mexico offline. Natural gas futures , meanwhile, jumped more than 8% at one point Monday, and the contract is on track for its best quarter since 2005. Part of Wall Street's bullish case for energy stocks rests on an expected continuation of oil's climb higher. Goldman Sachs raised its year-end Brent forecast on Sunday to $90 per barrel, up from a prior target of $80. "While we have long held a bullish oil view, the current global oil supply-demand deficit is larger than we expected, with the recovery in global demand from the delta impact even faster than our above consensus forecast and with global supply remaining short of our below consensus forecasts," analysts led by Damien Courvalin wrote in a note to clients. Brent traded around $79.50 per barrel Monday, with WTI around $75.40 per barrel. Both benchmarks are up more than 50% for 2021. Energy is once again the top-performing S & P 500 sector after briefly ceding the title over the summer, rallying more than 40% year to date. But the group's performance has lagged that of the commodity itself. "The disparity in performance between the price of oil and the sector in our view suggests that oil stocks may have further upside in the near term," Oppenheimer Asset Management chief investment strategist John Stoltzfus wrote in a note to clients. Analysts at BMO, meanwhile, said the oil market is in the "early stages of a multi-year upcycle," pointing to similarities between the current market and oil's activity between 2002 and 2014. Amid this backdrop of growing demand and hampered supply, the energy sector has the strongest financial outlook in more than 15 years, according to BMO. "We see compelling value in the North American oil and gas group as the sector's return on capital employed balloons to near all-time highs on the back of rising commodity prices, improved cost discipline, and managements teams' increased focus on generating returns," the firm wrote in a note to clients, adding that investor weighting remains subdued while valuations are at a discount to the overall market. The firm's top picks include Conoco , Devon , Pioneer and ARC Resources . Bank of America expressed a similar sentiment, saying U.S. oil companies are at the "early stages of an extended cyclical recovery." The firm said that while many of the U.S. exploration and production companies have recovered from 2020's lows, they majority are still below pre-Covid levels. Looking forward, the firm favors names like Exxon , Occidental , APA and Diamondback Energy . Exxon is also on Goldman's buy list amid the jump in oil prices, with the firm also bullish on ConocoPhillips. "We argue a premium valuation is justified by a strong asset base and historical trading patterns. We also see earnings beats continuing well into the future," the firm said of Exxon. Goldman has a $68 12-month target on the stock, which is 18% above where the stock closed on Friday. —CNBC's Michael Bloom contributed reporting.

A man walks on a path in front of an oil derrick near the Huntington Beach Oil Fields on April 20, 2020 in Huntington Beach, California.

Michael Heiman | Getty Images

Energy stocks are surging as oil and natural gas prices jump, and Wall Street analysts believe the rally is far from over — for specific stocks.