Energy powers our world, but the energy sector itself is one of the smaller of the 11 Global Industry Classification Standard (GICS) sectors in the stock market. It’s smaller because of its narrow focus on the traditional fossil fuel energy industry—you won’t find any alternative energy stocks in this sector—and because its weight in the S&P 500 is only about 3.8% as of early 2024.

　　The narrow focus of the GICS energy sector stands at odds with how many investors think about energy and the growing role of alternative and renewable energy. Those newer forms of power, such as solar, are often found in other GICS sectors (including materials, industrials, and utilities).

　　Despite the narrow focus, the GICS energy sector offers investors a chance to own companies that pay high dividends and cyclical companies connected to the economy. As a value play, the energy sector can offer diversification compared with the growth-focused tech sector.

　　What is the energy sector?There are 22 companies in the GICS energy sector, which covers two traditional fossil fuel energy industries:

　　Energy equipment servicesOil, gas, and consumable fuelsUnder energy equipment services, you’ll find companies that drill for oil and gas and those that supply equipment and services to help companies extract fossil fuel energy. Energy stocks in this category include Schlumberger Limited (SLB) and Halliburton Company (HAL).

　　Integrated oil and gas companies. These industry giants explore for energy and also either refine, market, and transport energy, or make chemicals. Among them, you’ll find the biggest and best-known fossil fuel companies, including top energy stocks such as Exxon Mobil Corporation (XOM), Chevron Corporation (CVX), and ConocoPhillips (COP). These companies handle the entire production process, from exploration, production, transportation, and refining to distribution and retail sales. You may be familiar with their gas stations, which is how they sell directly to consumers.Oil and gas exploration and production-only companies. Included in this group are Diamondback Energy, Inc. (FANG), which is one of the largest producers of natural gas and unconventional crude (shale oil). Oil and gas refining and marketing. These are companies that aren’t included in the integrated subsector or may be independent power producers or energy traders. Phillips 66 (PSX) is a refiner that takes crude oil and creates usable products such as jet fuel or gasoline, but it also creates chemicals, transports natural gas, and operates gas stations. Valero Energy Corporation (VLO) is also a crude oil refiner, but in addition, it makes renewable fuels such as ethanol and renewable diesel.Oil and gas storage and transportation. Companies in this subsector include midstream natural gas companies, oil and refined product pipelines, coal slurry pipelines, and oil and gas shipping. The biggest ones are Williams Companies, Inc. (WMB) and Kinder Morgan, Inc. (KMI). Both firms operate pipelines to transport natural gas, among other enterprises. Coal and consumable fuels. This category includes companies that mine coal and related products and fuels for energy generation. Not included are gas-producing companies found within the industrial gas subindustry and companies that mine metallurgical coal used in steel production. The best known is Peabody Energy Corporation (BTU).How energy gets from field to gas tankGetting oil out of the ground and into your car takes several steps:

　　Geologists and geophysicists identify potential oil reservoirs and use seismic imaging to find oil reserves.Wells are drilled into the ground, either using traditional drilling or hydraulic fracturing (also called fracking).When the oil is extracted, it’s refined using a distillation process where it is heated, vaporized, and separated. Refiners also use other processes such as cracking (to make gasoline) and blending to produce chemicals, gasoline, diesel, jet fuel, and home heating oil.Once refined, the products are stored in tanks or terminals until they can be transported, typically by tanker trucks and ships, railroads, or pipelines.Commodities markets and energyEnergy is the biggest and most important commodity market. There are futures markets for crude oil, natural gas, heating oil, and gasoline. Commodity prices also influence the energy companies’ stocks—they need to at least meet the cost of production.

　　Refiners watch the energy product markets closely. In particular, “crack spreads” (the difference between the price paid for crude oil and the cost of products made from it) affect refiners’ margins.

　　Characteristics of the energy sectorLike every GICS sector, energy has unique characteristics:

　　Mostly large-cap companies. Given the significant capital required to explore, drill, and transport energy, it’s not surprising that many energy sector constituents are large-cap companies. Some shale oil companies are mid-cap companies, but those are being bought by the major crude oil producers.A concentrated sector. With only 22 companies, energy is one of the most concentrated GICS sectors. The top 10 stocks account for about three-quarters of the sector’s market capitalization, so if one or two of them report poor results, it can weigh heavily on the entire sector.Considered a value play. Because of its low growth, the energy sector leans toward the value factor. Looking at three common metrics to measure value, as of mid-2024, energy has a 2.1 price-to-book value, a 12.4 price-to-earnings ratio, and a 1.2 price-to-sales ratio. Those results compare with the broader S&P 500, which has a 4.4 price-to-book value, a 21.1 P/E ratio, and a price-to-sales ratio of 2.6.Follows economic cycles. Because nearly all consumers and businesses still use some sort of fossil fuel energy, demand matters. During a recession, consumption falters and prices for energy stocks fall, while during boom periods, energy stocks rise as demand increases. High-dividend yield. To entice investors, many energy companies pay higher dividends to make up for low growth. The energy sector’s indicated annual dividend yield ( an estimate of dividend payments for the next 12 months) in mid-2024 was 3.46%, double the broader S&P 500’s 1.48%. Tips for investing in energy companiesEnergy stocks appeal to investors for different reasons, including these factors:

　　Diversification. Energy stocks often are independent of other types of stocks because of their close ties to commodity prices. Hedge against inflation. Energy producers typically pass higher costs on to consumers, so earnings aren’t necessarily dented because of a jump in prices. Income. This sector is known for paying quarterly dividends and, more recently, variable dividends, which are based on company performance.What to watch for:

　　Commodity prices. Supply and demand have an impact on energy companies, especially integrated oil and gas producers and independent oil and gas producers. Refiners, on the other hand, do better when energy prices are down because the raw material—also known as feedstock—is cheaper. Transportation companies are less impacted by commodity prices, but can still be influenced by them. Reserves. For integrated oil and gas producers and independent oil and gas producers, their levels of reserves are important (and are often discussed during earnings calls). Oil is a depleting asset, so the need to find more is constant. Geopolitics. Energy is consumed worldwide, and geopolitical events such as conflicts among nations can cause commodity prices to spike. One example is the start of the Russia-Ukraine War, which traces its roots back to 2014 and continues to influence prices. The bottom lineThe energy market plays an important role in the global economy, although it makes up just a small part of the broader stock market. If you’re looking to include energy stocks in your portfolio, remember that the companies in this GICS sector don’t yet include pure-play renewable and alternative energy companies.

　　The fossil-fuel energy market has been through a wild ride in the past decade, seeing competition from the growing alternative energy sector, a glut of supply as the U.S. started to elbow out Saudi Arabia as the top global energy producer, COVID-19 affecting demand, and more. Even as policymakers worldwide are embracing renewable energy, fossil fuel production and use is likely to be around for the foreseeable future.

　　Specific companies and funds are mentioned for educational purposes only and not as an endorsement. The lists in this article are representative and not intended to be comprehensive.