Energy sector specialist Elliott Gue of Energy & Income Advisor discusses the outlook for oil and highlights three of his favorite stocks for low-risk, medium-risk, and high-risk investors.
Steven Halpern: We're here today with Elliott Gue, editor of Energy and Income Advisor. How are you, Elliott?
Elliott Gue: Good. Thanks for having me on.
Steven Halpern: Well, you've been following the energy sector for 15 years or so, so you've been doing this a long time, but the Energy and Income Advisor is a new project. Can you tell our listeners a little bit it?
Elliott Gue: Absolutely. We started the Energy and Income Advisor in October of 2012, so it is a relatively new advisory. Our coverage universe in the newsletter is actually very broad.
We cover pretty much every aspect of energy out there, everything from Master Limited Partnerships which are a high income-producing group and a tax-advantaged group, to your traditional energy firms, like Exxon Mobile (XOM) and Chevron (CVX), as well as some of the smaller independent producers, and of course oil services firms like Schlumberger (SLB) and Weatherford (WFT), and of course, all sorts of transportation firms, tanker stocks, etc.
So we really have a very broad coverage universe touching on pretty much every aspect of the global energy markets, and it's really the culmination of a number of coverage universes that I used to, that I've been covering for a number of years in a variety of different public publications.
So I really, when I created Energy and Income Advisor, my focus was to give investors everything energy all in one place, and so we cover both growth stocks, as well as of course, what's been very popular over the last few years, which is income-orientated stocks like the Master Limited Partnerships and Trusts.
Steven Halpern: In the past couple of days we've seen oil spike up over the $105 level. I was wondering if you could give us your outlook for oil and possibly explain how rise in oil prices impact the stocks that you're looking at.
Elliott Gue: Sure. Well, oil prices have spiked up a little bit recently, and I think a lot of that has to do with some concerns about the geopolitical environment.
Of course, Egypt is in the headlines again with the democratically elected government there being basically deposed by the Army, and there are some concerns of sort of a re-kindling of the Arab spring that affected the oil markets just a few years ago, so I think that's some of the reason that you're seeing a little bit of a spike-up in oil prices in the near term.
I certainly don't think it's particularly supportable by basic oil fundamentals. Right now, you really have to look at the oil market in terms of two types of oil.
First of all, you have US oil, which would be best summarized by the performance of the West Texas Intermediate or WTI crude oil blend, and then you have international oil prices, which I think are best summarized by the Brent crude oil blend, and what we've seen over the last couple of years is that generally speaking, US oil prices, WTI, has been trading at a pretty large discount to Brent.
In fact, at one point late last year it was trading at about $30, or more than $30 a barrel discount to present. The reason for that, of course, is strong growth in US shale production. That would be plays like the Bakken Shale in North Dakota, part of the Eagle Ford Shale in southern Texas, and even part of some of the other shale places like the Utica Shale in Ohio.
So we've seen strong growth in production from shale plays, and that means that US imports of oil or US demand for imports are falling for the first time since the early 1970s because US oil production is rising for the first time since the early 1970s. So that's kind of kept a damper on US oil prices.
Outside the United States, it's been a very different picture. What we've seen is non-OPEC production growth very, very limited. We've seen a lot of project delays. We've seen a lot of projects not live up to expectations, so non-OPEC production outside North America, US, and Canada has been very, very weak.
|pagebreak|Elliott Gue: What that's meant is that the call on OPEC, the amount of oil that OPEC has to provide every single day to balance the oil market, has remained pretty high and therefore their spare capacity has remained relatively low. So that's kind of kept a little bit of a floor under Brent crude oil prices relative to WTI.
You know, going forward I think that WTI prices will ultimately come down again. The US is still seeing pretty strong production growth from our oil focus plays. The fact that WTI prices have risen a great deal over since last late year, partly because all oil prices have gone up, and partly because they've closed a lot of that gap with Brent.
That's going to encourage even faster drilling activity in the US oil plays, and I think that the US market is going to be pretty well supplied going forward, so once some of the concerns about the geopolitical situation die down, I certainly think WTI oil prices could come down again.
Brent crude oil prices, I think they're going to trade above $105 a barrel, $100 to $105 a barrel, over the next few years mainly because, again, production growth outside the US and Canada just isn't all that impressive, so I do think we're going to see a re-opening of that gap where WTI prices are trading at sort of a $15 a barrel or so discount on average to Brent going forward.
Steven Halpern: You mentioned earlier you follow a lot of different stocks and a lot of different sectors within energy, but I know for your readers you sum everything up in what you call your focus list, which highlights your current favorite ideas and breaks that down into different areas, being low risk, medium risk, and high risk. I was wondering if we could start with that. If you look at your low risk recommendations, you mention Occidental Petroleum (OXY). What do you like about those shares?
Elliott Gue: Occidental Petroleum (OXY) is one of my favorite large independent producers in the world right now. They basically have three basic areas of operations. They have California, so they're the largest or one of the largest acreage holders in the California.
They have the Permian Basin area, which is basically in western Texas, and then they have a large international operation in Abu Dhabi, which is focused on liquefied natural gas or LNG project there.
Now, if we look at these three basic areas, I see things to be attracted to in each one. First of all, California, probably many investors don't associate California with oil production, but in reality it's actually one of the largest oil-producing states in the United States.
It was actually only recently unseated by North Dakota in being the fourth largest oil producer in the US, and the reality is that over the last several years, California has become increasingly reliant on imports of crude oil, and because they do not have much pipeline capacity to other parts of the US in California, they're not really able to import oil from other parts of the United States.
So, as a result, they're reliant on expensive foreign crude oil imports by tanker. So the beauty of that for Occidental is they get a higher realized price for the oil they produce in California.
The Permian Basin is a very fast growing play. Occidental has a lot of history there in terms of using enhanced oil recovery, injecting carbon dioxide into wells to increase production, and then the Abu Dhabi play, actually a very stable returner.
When it comes on stream over the next couple of years, they're basically getting a fairly fixed price for the natural gas under long-term contracts so they should get a very stable return on their investment there.
Generally speaking, as we go forward, Occidental has really spent a lot of money over the last few years, building that project in Abu Dhabi, accelerating their drilling activity in California, but now that they've made that investment, over the next couple of years they're going to be able to cut back on their capital spending, and I believe that's going to allow them to actually boost their dividends and probably accelerate their pace of share buy-backs.
So you've got a company with about a 2.9% yield today. I think they're going to be growing that payout at as much as a 20% to 30% analyzed pace over the next few years, and again three very attractive areas of operation.
Steven Halpern: Great. Now, for people willing to take on a little bit more risk, you look at Weatherford (WFT) and Vanguard Natural Resources. Can you tell us a little about the two of those?
|pagebreak| Elliott Gue: Absolutely. Well, Weatherford (WFT) is one of what we call the big four. It's an oil services firms, it's an oil services firm rather. The other members of the big four would be Schlumberger (SLB), Halliburton (HAL), and Baker Hughes (BHI). Weatherford is the smallest of those.The company has a couple of core areas of operation, which I think are attractive, but the biggest is what's called artificial lift. Now, artificial lift is basically using technology such as sucker rod pumping or down-hole pumps to actually pull oil out of mature fields.
These are fields that may have been in production for many, many years, and the underground pressures are no longer sufficient for the oil to come to the surface naturally so they basically need a little bit more help.
So artificial lift is almost exclusively an oil-levered business so does benefit from high oil prices, and of course, oil prices are very high right now in the US compared to natural gas.
Historically, it's been a very North American-focused business, but increasingly we're seeing artificial lift technology really see a huge adoption trend outside the United States in international markets, even places like the Middle East, where there traditionally haven't been that many mature fields to produce.
We also saw General Electric's Oil Field Services Division purchase a company called Lufkin earlier this year. Lufkin is another leader, actually a little bit smaller in artificial lift than Weatherford. So I think that gives you an idea that that's a very, very attractive business line.
The other thing I like about Weatherford, they've had kind of some accounting problems over the last couple of years, those are now behind the company. They've restated their results, and I think that gives a chance for investors to re-focus on fundamentals and not headline risk.
Steven Halpern: Now at the riskiest end of the spectrum that you look at, you picked Vanguard Natural Resources (VNR). What makes that a risky play and what makes that attractive?
Elliott Gue: Well, Vanguard Natural Resources (VNR) is a little bit more volatile play, mainly because of some headline risk associated with Linn Energy (LINE), a partnership. It's a limited liability company, but it's, it's much like a Master Limited Partnership.
It's in the upstream energy business basically producing oil and natural gas. It's the largest upstream MLP in the US, and over the last four or five months it's come under fire from mainly a group of short sellers, as well as it's been the subject of about three or four negative articles in Barron's, which of course is a widely read news weekly magazine.
Then most recently they announced that the Securities and Exchange Commission, SEC, is undergoing an informal inquiry of their accounting, which is really, the SEC tends to do this when a company is in the news a lot, especially when it makes major publications like Barron's. So there have been basically some accounting questions out there about Linn Energy.
I think that for the most part these issues are completely bogus. What we've seen is that Linn Energy has a very high retail ownership base. In other words, it's owned primarily by individual investors rather than big institutions, and that makes it a likely target for a bear raid.
Basically what that means is that you have a group of people who are short the stock who have been advancing these accounting allegations, which you know, and of course I don't have time to go into all the details here, but we've been covering that at length and I just don't see a whole lot of merit behind them. Really to push down the price.
Steven Halpern: The negatives in that situation are impacting Vanguard Natural?
Elliott Gue: They are, because Vanguard Natural is in a very similar business. They are also an upstream MLP.
One of the big differences though is that Vanguard is actually a little more conservative in their accounting than Linn, so while I don't think that there, there's any problem with Linn's accounts, Vanguard is very conservative but it's still getting painted with the same brush because it's in the same basic small group of companies.
There are only a handful of about a dozen or so of these upstream MLPs of any size, so when you only have a handful of companies that are basically in the same class and you have the largest of those under fire from short sellers and the SEC right now, you know, it's spreading.
It's basically the baby's getting thrown out with the bathwater when it comes to Vanguard. So I think this is an excellent opportunity to pick up that stock, currently offering a 9% yield, and those distributions are actually paid out on a monthly basis as well.
Steven Halpern: We appreciate you taking the time to share your ideas with us. Thank you, Elliott.
Elliott Gue: Thanks for having me.
