Archive for category: Midstream Energy Infrastructure

November is on track to be the second best month in the history of the American Energy Independence Index (AEITR). Through yesterday, the index is up 27% for the month. April’s 39% bounce off the March lows is the biggest, but with the index having doubled in value since then, November is on track to be the biggest points move ever. It’s eclipsed the June high, and has recovered to –12% YTD (the S&P500 is +16% YTD).  

Jim Cramer has even offered some reasons to buy – describing President-elect Joe Biden as “the counterintuitive savior of the oil industry”. He’s echoing a point we’ve made – that Democrat policies favor higher energy prices (see Why Exxon Mobil Investors Might Like Biden). Combined with a more cautious attitude towards growth projects, an era of growing free cash flow is at hand for midstream energy infrastructure – a trend that’s remained in place all year and is returning cash to shareholders (see Pipeline Buybacks Are Coming). 

Although energy is enjoying a strong month, fund flows are not yet following which suggests a healthy skepticism remains. Investors in this sector have seen too many false dawns, and remain cautious. Nonetheless, with recently announced buybacks being big enough to counter the typical outflows of the past few months, it won’t take much of a shift by investors to cause net buying.  

The vaccine news triggered the rally, but the fundamental outlook had been improving for months before that. Other than Energy Transfer (ET), all paid dividends as expected following 3Q earnings. The components of the AEITR now yield just under 8% on a market-cap weighted basis – almost 4X the S&P500. 

The energy sector is the biggest beneficiary of the huge shift under way from technology to value (see The Big Rotation Begins). Since the ratio of the QQQ to the Russell 2000 (IWM) crossed its 200-day moving average on November 9th, when Pfizer’s vaccine news broke, it has moved decisively lower. 

The North American pipeline sector has a float-adjusted market cap of around $375BN, less than a fifth of tech giant Apple (AAPL). Exxon Mobil is $175BN. Energy has sunk to below 3% of the S&P500. 

The strong performance of technology stocks in recent years means that if just a small percentage of investors switch from tech to energy, it’s likely to move higher given their relative size. 

Meanwhile, we can look forward to incoming Climate Change Czar John Kerry overlooking his own outsized carbon footprint while lecturing the rest of us about ours.  

We are invested in all the components of the American Energy Independence Index via the ETF that seeks to track its performance.

 

 

Last week’s news from Pfizer triggered some big sector moves, as investors sold technology stocks in favor of value like energy and financials (see The Big Rotation Begins). Pfizer CEO Albert Bourla didn’t overstate the case when he said, “It is a great day for humanity when you realize your vaccine has 90% effectiveness. That’s overwhelming,” 

Moderna followed up with their own vaccine announcement this week, topping Pfizer with 94.5% efficacy. Even though this news was telegraphed by Anthony Fauci days earlier, the switch into value stocks has continued.  

On the day of Pfizer’s announcement, the American Energy Independence Index (AEITR) solidly crossed its 200–day moving average. It has continued to move sharply higher since then, outpacing the S&P500 by 10%. The prospect of a return to normalcy within six months or so has lifted sectors that Covid has hurt, such as energy.  

Yesterday showed the energy demand for pipeline stocks, as the sector opened down on the day but traded up from then on, increasing its recent outperformance against the S&P500.  

For the past six months, investors have wrestled with the conundrum of the Covid pandemic and rising equity markets. During the spring, the news seemed so relentlessly bad that holding a constructive view on stocks seemed insensitive (see The Stock Market’s Heartless Optimism).  

Superlatives were inadequate for the many record statistics that described the global economy shuddering to a sudden halt. Economic distress shows up quickly in the employment statistics. The April non-farm payroll report recorded a stunning loss of 20 million jobs – almost 1 in 7 U.S. workers lost their jobs in one month. Even in the face of this disaster, the S&P500 was up 12% by the end of the month. 

Although the Federal government’s stimulus is widely credited with arresting the economy’s sharp decline, most people assume that personal income has similarly collapsed along with employment. This is not the case. 

The chart below shows the personal income “bridge” from September 2019 to September 2020. Disposable Personal Income – that is, including the effects of any government transfer payments such as unemployment insurance, is $1TN higher than a year ago. $800BN of that is due to direct payments by the Federal government. But even Wages and Salaries are $56BN higher over this period. 

Meanwhile, the economy has lost ten million jobs. In 2019 we averaged monthly gains of 178K None of us have ever witnessed a period like this, with employment and personal income heading in sharply different directions.  

It’s surprised economists for most of the year. The failure of Congress to pass an additional stimulus plan has created fears of more widespread hardship. But the vaccine news from Pfizer and Moderna will likely temper the more extreme stimulus proposals.  

Meanwhile, energy is becoming the new momentum sector. 

We are invested in all the components of the American Energy Independence Index via the ETF that seeks to track its performance.

Monday’s dramatic news on Pfizer’s vaccine triggered a sector rotation which could be enduring. A vaccine that’s 90% effective is a far better outcome than most had expected, bringing the prospect of an early end to lockdowns, self-quarantines and the rest of the Victorian-era public health measures we’ve come to accept.  

The ratio of the Nasdaq QQQ with the Russell 2000 is followed by many as a reflection of technology versus small cap value. Covid gave a boost to a long-established trend favoring tech stocks in March. The reversal of the past couple of days has caused this ratio to decisively cross its 200 day moving average to the downside. Given the vaccine news, it wouldn’t be surprising for this new trend to continue. 

Having lagged value stocks most of the year, energy is leading the way higher. The S&P Energy ETF (XLE) has jumped 16% since Monday morning, helped by a 10% rally in crude oil. The broad-based American Energy Independence Index (AEITR) is up almost 12% since Monday. Pipeline stocks are so undervalued that it doesn’t take much to move them higher.  

The recently announced buybacks buoyed sentiment, as well as helping neutralize the relentless selling by MLP fund investors (see Pipeline Buybacks Are Coming). Fund outflows have been persistent for most of the year, but the buybacks are big enough to absorb the typical outflows. Western Gas (WES) added to the growing list with a $250MM program yesterday. 

Long-suffering energy investors are wondering if the recent move up is the real deal or another head fake. The election is likely to produce the best of both worlds – divided government with an instinctively moderate president (listen to Energy Executives and the Election). 

Georgia’s run-off for two senate seats will be heavily financed by both parties – without winning both races, the Democrats will be unable to push the more radically liberal elements of their platform (Green New Deal, fracking ban).   

In this political environment, long term capital commitments to new hydrocarbon production or related infrastructure are unappealing (see Why Exxon Mobil Investors Might Like Biden).  

The world relies on fossil fuels, and there is little chance of  that changing any time soon. Curtailed investment in new supply should lead to higher prices for oil & gas. Fewer new infrastructure projects will lead to less competition, as well as reduced capital needs.  

This will boost the pipeline sector’s free cash flow, which is already set to double this year (see Pipeline Cash Flows Will Still Double This Year).  

The style rotation has shown up in other areas too. Tech stocks have seemed a one-way bet, so it was no surprise that on Monday, Bloomberg’s US Pure Momentum Portfolio suffered its biggest ever one day drop. It lost over 3.5%, on a day the S&P500 rose 1.2%. MTUM fell another 1% yesterday.  

Over two days, Russell Growth has lagged Value by over 8%. As recently as Friday, Growth was 40% ahead of Value for the year.  

Pipelines may be the quintessential value play. The components of the AEITR still yield 8.9% on a market cap-weighted basis. 3Q earnings saw dividends paid once again. Energy Transfer (ET) was the only meaningful exception (see Why Energy Transfer Cut Their Distribution). 

A recovery in the pipeline sector is long overdue, and given valuations has enormous upside from current levels.  

We are invested in all the components of the American Energy Independence Index via the ETF that seeks to track its performance.

 

On Wednesday Exxon Mobil (XOM) declared a quarterly dividend of 82 cents a share. Although this means 2020 will be the first year since 1982 that they haven’t raised it, the bigger question is whether they can sustain it.

We noted recently how energy investors could fare better under a Democrat administration (see Why Exxon Mobil Investors Might Like Biden). A White House looking for ways to combat climate change should cause energy executives to hunker down, constraining their desire to drill for oil and build new infrastructure. A pipeline owner should find this a welcome prospect, as less cash spent on new projects means more for buybacks, debt reduction and dividend hikes. XOM is positioning itself for such a scenario – they plan to increase oil and gas production from 4 million Barrels of Oil Equivalent per Day (MMBOED) currently to over 5 MMBOED by 2025. This bet is predicated on rising global demand driven by emerging economies combined with falling investment in new supply, as energy companies prepare for peak oil and the energy transition.

There’s something appealingly pragmatic about XOM’s positioning. Although growth in renewables gets all the attention, the world still relies on fossil fuels for more than 80% of its energy. In the U.S., the biggest increase in power generation in the first half of the year came from natural gas, not renewables. Most credible long-term energy forecasts show that the world will be using more of every type of energy, because developing countries want to raise living standards. The energy outlook embedded in XOM’s production plans is probably not consistent with the Paris Climate Accord. If you want to bet that the world will manage to live with a warmer climate, rather than achieve the reductions laid out by the UN’s Intergovernmental Panel on Climate Change, XOM might be a way to express that view.

If they’re wrong, that 82 cent dividend won’t last. Analysts estimate they need crude prices of at least $55 per barrel in order to generate enough cash to cover planned growth capex and pay their dividend. For now, they’re funding it with increased debt.

Given the energy sector’s sorry history of overinvesting in recent years, maintaining high dividends does impose greater financial discipline. It raises the required return on new spending, making dilutive projects less likely. Although financial theory teaches that dividends shouldn’t matter, investors increasingly recognize the protection against otherwise poor capital allocation decisions. That’s likely part of the reason XOM rose on Thursday, because it maintained a dividend that’s currently financed partly with debt.

Pipeline investors often must consider the viability of a company’s payout policy. The Alerian MLP ETF, AMLP, has cut by 50% since 2014. Although Energy Transfer (ET) just did the same early last week, the pipeline sector is entering a period of sharply rising Free Cash Flow (FCF). The trend towards reduced spending on new projects was well underway before Covid hit this year.

Energy has been chronically out of favor, so XOM and the American Energy Independence Index have tracked one another lower. Although the pipeline sector and XOM are both forecast to experience growing FCF, pipeline dividends will be comfortably covered by FCF while XOM’s will not, at least with current crude oil pricing. XOM offers a way to bet on higher crude. By contrast, pipeline stocks look cheap regardless.

We are invested in all the components of the American Energy Independence Index via the ETF that seeks to track its performance.

Next Wednesday, November 4th at 1pm EST we’ll be hosting a post-election webinar to discuss the outlook for the energy sector. Click here to sign up.

Few would believe there’s a midstream energy infrastructure stock that’s tripled this year, but New Fortress Energy (NFE) has done just that. Happily, it’s a component in the American Energy Independence Index (AEITR). This year’s strong performance has NFE approaching a top ten position, since AEITR is market cap weighted.  

NFE was founded in 2014 by Wes Edens, already a billionaire as a co-founder of Fortress Investment Group (FIG). They transport Liquified Natural Gas (LNG), and have five facilities located around the Caribbean and in Miami. NFE claims that their innovative use of smaller LNG ships makes clean natural gas available to ports that otherwise don’t have the infrastructure. These vessels are called Floating Storage Regasification Units.  NFE’s investor slides emphasize their ability to bring cleaner-burning natural gas to island nations such as Jamaica, thereby reducing their reliance on dirtier, oil-based fuels for power generation.  

NFE went public last year as an LLC electing to be taxed as a corporation, and earlier this year converted to a regular c-corp. Their stock performance was unremarkable – that is, it tracked AEITR – until early July when it took off.  

Although NFE already had a positive environmental story to tell, in recent months they have begun discussing plans to transport hydrogen, an emission-free fuel. So far, management has done little beyond muse on conference calls about their interest in hydrogen and how great it would be if the economics allowed it to compete with natural gas. There are no hydrogen-related revenues, and analysts don’t expect the company to make substantial capital commitments in this area.  

Nonetheless, there’s little else to justify NFE’s recent meteoric rise beyond its stated interest in hydrogen. The word came up 32 times in the 2Q earnings call on August 3rd (up from 12 in the 1Q call), although obliging questions from sell-side analysts helped. CEO Edens noted that, “75% of all of the elements in the universe are hydrogen, 24% helium, 1% other. So the world is full of hydrogen.” 

This doesn’t mean NFE won’t access new technology that makes hydrogen a commercially viable fuel. Pipelines and other infrastructure dedicated to natural gas might be repurposed to handle this zero-emissions fuel, which would transform the malaise felt by investors towards the sector. But NFE’s stock has shot up recently mostly on the hope of a breakthrough. NFE’s green hydrogen division (named Zero) has no revenues. But just having a business unit with that name can only help an energy company. 

NFE’s recent rise hasn’t been overlooked by other midstream companies. Kinder Morgan (KMI) chairman Rich Kinder included the words “green hydrogen” when he opened Tuesday’s earnings call. 

Thursday’s presidential debate touched on climate change. Regardless of who you’re voting for, there can’t be much doubt that Trump won the exchange. Biden’s talk of a moral imperative to reduce carbon emissions isn’t likely to resonate when the economy is virus-ravaged. Trump correctly noted that China and India plan to keep increasing their CO2 emissions for at least another decade. China burns half the world’s coal.  

This component of climate change realpolitik receives little popular attention.  Climate change policies aren’t currently costing much, unless you live in California where electricity is greener, more costly and less reliable. But if America does adopt policies to aggressively reduce emissions, Trump’s point is that many will balk at higher domestic energy prices when the biggest emitters remain focused on raising living standards. A Biden victory will lead to a more vigorous debate, exposing a huge flaw in the Paris agreement. 

We are invested in all the components of the American Energy Independence Index via the ETF that seeks to track its performance.