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7/29/21 Energy & Income Advisor Live Chat
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AvatarRoger Conrad
1:53
Hello again everyone and welcome to the July live chat for Energy and Income Advisor members. As always, there is no audio. Just type in your questions and Elliott and I will get to them as soon as we can comprehensively and concisely. There will be a transcript of the complete Q&A after the conclusion of the chat, which will be after we've been able to answer all of the questions in the queue, as well as from email we received prior.
1:54
As always, I'm going to start with answers to questions we received prior to the chat:
Q. Hello Elliott and Roger. I may not be able to make the Live Chat tomorrow and wanted to make sure I was able to advance my question.
Here goes...Since mid June we have seen a definite weakening in our a number of our portfolio favorites: Enterprise Products Partners (NYSE: EPD) and Kinder Morgan Inc (NYSE: KMI) down about 9%, Energy Transfer LP (NYSE: ET) and Magellan Midstream Partners (NYSE: MMP) down about 15% and Occidental Petroleum (NYSE: OXY) and Schlumberger Ltd (NYSE: SLB) down about 20%. At the same time, the S&P 500 has inched higher (+4%), Oil is flat at around $72 and natural gas is up 25%.

Could you comment on this? Is it all just investor sentiment sliding back with the strong move toward clean energy and investor activism within big oil companies like ExxonMobil (NYSE: XOM) and Royal Dutch Shell (NYSE: RDS/A) or what? The fundamentals certainly seem to be strong and improving but the stocks are being punished versus rewarded. I have recovered about half of the drawdowns I experienced last
year but am questioning if these positions and the energy space in general (oil and natural gas) will ever come back and if so how? Thank you for all you do.—Mark D.

A. Excellent question Mark. In fact, I think it’s a perfect one to lead off the pre-chat answers with today, since it’s no doubt on many readers’ minds this month.
1:55
The short answer is we think the energy sector pullback we’ve seen since mid-June is actually pretty normal for this stage of the commodity cycle. That is, the time where companies up and down the value chain are severely restricting capital spending, and thereby setting the stage for shortages of everything from oil and gas to transportation and processing capacity in coming years.
 
Most energy companies have yet to report their Q2 results. But from what we’ve seen so far, $70 plus oil and $4 plus natural gas haven’t convinced producers’ management teams to step up CAPEX, as recovering prices did over the 2016-18. That’s confirmed in conservative outlooks and CAPEX plans issued by bellwether services company Schlumberger and midstream companies like Enterprise and Kinder reporting so far.
We see several reasons for the investment cutbacks. First, investors are mostly punishing energy companies that invest in growth and rewarding those focused on generating free cash flow to pay down debt. Second, the memory of 2019-2020 is all too fresh for companies themselves and as a result they’re also loath to bet on the current recovery in oil and gas lasting out the year.
 
Third, despite rising energy prices, the Biden Administration is still actively discouraging new production with the continuing restraints on new drilling on federal lands and the threat of removing tax advantages as part of plans to encourage reductions of carbon emissions. And while it hasn’t yet moved against any currently operating or soon-to-start up pipeline projects since Keystone XL, it’s also made it clear that future projects will face much higher hurdles.
Eventually, we believe it’s likely all three factors will reverse, as lack of investment builds further scarcity. But for now, the important thing is at this stage of the cycle, the best in class companies we’ve recommended and you’ve listed above have adapted to be strongly profitable in the currently restrained environment. And so long as they maintain their current course, the result will be reduced supply of oil, gas and refined products even as the global economy picks up steam from the pandemic.
 
We believe there are two likely reasons for the selling since mid-June. One is simply booking the gains many of these stocks have made since early November 2020. Another is concern this rally in energy stocks and prices will meet the same fate as the 2016-18 recovery from the 2014-15 decline, with shale producers again ramping up output and supply and ultimately driving down prices below zero in April 2020.
One of our key objectives this earnings reporting and guidance updates season is getting a good read on companies’ plans—mainly if the rebound in oil and gas prices this year has convinced anyone to ramp up CAPEX. Anything short of that will be pretty sound confirmation that we really are a different place in the energy cycle than we were late in the previous decade.
 
So long as that’s the case, the pullback we’re now seeing is very much another opportunity to buy the best in class companies we’ve been recommending in the energy sector. As you point out, many of these continue to trade at prices 15 to 20 percent below where they did pre-pandemic, when oil and gas were anywhere from 20 to 40 percent below current levels depending on the benchmark. We see those levels as excellent near-term targets for these stocks, which should ultimately trade in neighborhood of the highs seen in the previous cycle.
1:56
As for the impact of shareholder activism, ExxonMobil this week announced a major oil find off Guyana. That’s likely to please activist investors now on its board, who reportedly are as interested in dividend safety as anything else. As for divestiture, oil and gas companies despite their run-up are still greatly under-weighted in institutional portfolios as well as the S&P 500 relative to historical norms. We believe further outperformance will continue to induce strategies and algorithms to find ways to include these companies, which after all must be part of the solution if there are going to be meaningful CO2 emissions reductions.
 
Bottom line: What we’re seeing now is something of a gut check for the rally that began in earnest in November 2020. But so long as higher prices aren’t triggering a ramping up of CAPEX, the long-term supply outlook will shrink even as demand bounces back. And that’s a formula for big gains in this sector, even from the highs we saw earlier this summer.
Readers who already have big positions in our recommendations may want to just sit with what they have. But anyone who missed the buying opportunities so far will want to make sure they take positions at current prices. We may not see a better chance this cycle to lock in big, long-term gains in these stocks.
 
 
 
Q. Dear Folks. I subscribe to CUI, CUI+ and EIA. The first two "follow" TotalEnergies (Paris: TTE, NYSE: TTE). The third, curiously, does not -- at least not explicitly in model portfolios, etc. I do wonder why the company does not figure more prominently in your EIA recommendations. Do you have a "Dream Price" for Total? 
 
But my real question concerns Total's collapsing share price. Even before OPEC's announcement of increasing production, it was knocking on its 200 day moving average, and its yield was approaching 7.5%. In the CUI Report Card, you consider the yield safe, unless Brent goes way down. Why is the stock faring so poorly? Do you consider it to be as sound a long-term investment as other super majors such as Exxon, Chevron (NYSE: CVX) and Royal Dutch Shell? Many thanks—Jeffrey H.
 
A.Hi Jeffrey. We actually track TotalEnergies in Energy and Income Advisor under our “E&P and Services” coverage universe. The NYSE-listed ADRs rate a buy up to 50 for conservative investors, just as they do in Conrad’s Utility Investor and in the CUI+ portfolio.
 
1:57
As you point out, shares are down from a high of about $50 in mid-June to the low 40s currently, after dipping as far as $40.50 at one point last week. That decline, however, is pretty much in line with the downside in ExxonMobil, Chevron and other super majors over that time after factoring in the drop in the Euro (TotalEnergies’ home currency) from about $1.22 to $1.18 over that time.
 
In my answer to the previous question, I discussed several reasons for the whole energy sector selling off, namely profit taking and worries that the current oil and gas price surge would end the same way as the 2016-18 rise. That was spurred by worries a new outbreak of Covid could derail the demand recovery at the same time OPEC+ puts more supply into the market.
 
 
Since then, of course, oil prices have rebounded and gas has continue to move higher. But the stocks though posting some gains have yet to regain their highs of earlier this summer. Again we see that as reflecting lingering investor doubts this oil and gas rally will last. We believe the evidence points to us being in an entirely different place in the cycle and look for that to be confirmed in tepid CAPEX guidance for energy companies as they release Q2 results.
 
As for TotalEnergies, we’re digesting the Q2 numbers announced today. But from what we’ve gone over so far this still looks like a company that can produce meaningful amounts of free cash flow after dividends even at $40 to $50 oil. That’s powerful support to the dividend, the balance sheet and plans by the company to expand its counter cyclical revenues by investing in alternative energies, most recently acquiring a leading Singapore electric vehicle charging network.
 
1:58
 
Again, our view is the bigger cycle has shifted up and this will prove to be a temporary gut check on the way to higher highs. I think under 40 is a dream buy price for TTE. 
 
 
Q. Gentlemen. I’m retired and need SAFE income. I’ve very overweight integrated oil/midstream energy sectors. I’ve have hedged “oil” with the likes of Dominion Energy (NYSE: D), Duke Energy (NYSE: DUK), Brookfield Renewable (TSX: BEP-U, NYSE: BEP) and NextEra Energy (NYSE: NEE). My sense is if this “green hysteria” really takes off, the demand for copper will be insatiable. So I’m tempted to further hedge my fossil fuel positions with Southern Copper (NYSE: SCCO). It pays a decent dividend…nice inflation hedge as well. Is it worth the risk (production in Peru, Chile) or at the end of the day? Would the likes of the above utilities meet my goals at less risk?--David O.
A. First off, all of those utilities and power companies have very strong underlying businesses that should underwrite reliable mid-to-upper single annual earnings and dividend growth for years to come. The growth is also fueled by regulator-approved long-term capital spending, much on wind and solar. And eventually I expect that to result in premium price multiples for all of these companies as well, as it arguably already does for NextEra at 30.8 times expected next 12 months earnings. All of these are in other words solid long-term holdings.
 
Second, we absolutely agree that any future involving significant wind and solar power generation as well as electric vehicles is going to require mining a lot more copper than the world is now. And we see significant opportunities in major mining companies especially, which have the reach and financial power to go ever-deeper and ever-more dangerously to get at the needed resources.
Our two favorites of copper producers are the broadly diversified BHP Group (ASX: BHP, NYSE: BHP) for the more conservative and Freeport (NYSE: FCX) as a more aggressive play. Southern Copper should do well also, though as you point out there are new political risks in Chile and Peru that weren’t there a couple years ago. At the least, activist governments are likely to demand higher wages for workers, which will push up costs. And as SCCO is less able to absorb them, it presents greater risk than BHP or Freeport.
 
We provide greater coverage of metals markets in Deep Dive Investing, including the most recent issue of that publication. If that’s of interest to you, please feel free to contact Sherry at 877-302-0749, Monday through Friday, 9-5 pm. Among other things, the new issue features an interesting SPAC with a potentially revolutionary new technology for mining battery metals from the ocean floor.
1:59
 
 
 
 
Q. Do you have an opinion on Black Stone Minerals (NYSE: BSM)? They are a large holder of royalty interests and are considering surface leases for solar development.—T.G.
 
 
 
A. We’ve actually just added Black Stone to coverage in our “MLPs and Midstream” listing. We rate the company suitable for aggressive investors and a buy up to 12.
 
Black Stone is one of a generation of oil and gas royalty based MLPs electing to pay what’s basically a variable distribution, rather than locking in a set payout as earlier producer MLPs did. This gives it the flexibility to weather difficult times by paying out less, while rewarding investors during rising markets for energy such as what we believe we’re in now.
 
The company will publish its full results early next month. But it’s already telegraphed the numbers will be strong by declaring a 20 cents per unit regular partnership distribution as well as a 5 cents per unit “special cash” payout. What it does going forward will depend heavily on what happens to oil
and gas prices—and investors need to remember the payout can and will be cut if prices decline. But we believe the trajectory should be up going forward.
 
As for solar development, it’s possible this could at some point become a significant generator of stable revenue. But for the foreseeable future, Black Stone’s results are going to be driven by oil and gas. And that’s what investors need to focus on with the company.
 
 
Q. Hello Elliott and Roger. I subscribe to both your CUI and EIA. I believe you stated in a recent memo to us readers not to be surprised if AGL Energy (ASX: AGL, OTC: AGLXY) could drop another 20% from its $6 price at that time. Any more thoughts about if AGLXY can recover and if so, how many years might it take? Are the company’s problems political, economic or leadership in nature? Thanks again for your cogent and detailed analyses on so many companies. You make the analysis of many of your competitors look so rote and superficial. Best.—Barry J.
 
A. Thanks Barry.
2:00
The primary appeal of AGL is that it’s selling very cheaply despite still being the leading Australian electricity generator from both fossil fuels and renewable energy, as well as the leading energy retailer and developer of distributed power including battery energy storage. And when the company divides sometime in calendar 2022, its two halves will remain leaders in those respective areas.
 
At issue is how the de-merger will proceed and what those two halves will be worth when it’s complete, including what the combined dividend will be. At this point, investor expectations are pretty low. And despite the long drop in the stock, it is well on its way toward making that further decline of 20%.
 
Management is scheduled to give us another update on the business health and de-merger in mid-August. And there are some signs that what it will report and guide to will indicate the company’s fortunes are turning up. The retail business, for example, has already reported market share gains for the three months
ended June 30. The announcement this month of the shutdown of a 200-megawatt gas fired power plant to replace with battery storage is clearly the kind of move that only a company with financial resources can make. And recently released documents imply there won’t be a need to issue new equity with the de-merger.
 
My view is still that this stock could go a bit lower, given the negative sentiment piled up against it and the fact that momentum plays such a major role in setting stock prices. But at this point, what we have is a still dominant company that barring a highly unlikely bankruptcy is going to be worth a lot more in 2 to 3 years than it is now. I’m not a fan of doubling down on losing stocks. But I do think AGL is still a hold for those who already own it. And I’m getting close to recommending for new investors as well, depending on what we see in the numbers next month.
 
2:01
Q. Good morning, Roger and Elliott, a few questions for you today: First, listening to Enterprise Products Partners’ (NYSE: EPD) conference call, I was struck by comment from CFO that price of EPD does not correlate well with cash flow, but rather closely follows price of The Energy Select SPDR Fund (NYSE: XLE). How would you feel about a long EPD/short XLE trade? There should be little appreciation/depreciation risk and one would benefit from the almost 2:1 dividend percentage differential. Also, I’d wager that EPD’s dividend is more secure than XLE’s.
 
Second, what is the rationale for EPD having a yield of nearly 8% when Kinder Morgan Inc (NYSE: KMI) and others are lower? Wouldn’t a 5%-6% yield be more appropriate for a company of EPD’s quality? With a $1.80 dividend that appears invulnerable, that implies a reasonable price of $30-$36. Am I missing something?
 
Third, how serious is the re-contracting risk discussed on the KMI conference fall, and what other pipeline companies have similar problems
expiring contracts? And finally my last question, Pembina Pipeline (TSX: PPL, NYSE: PBA) losing its takeover struggle with Brookfield Asset Management (TSX: BAM/A, NYSE: BAM) for Inter Pipeline (TSX: IPL, OTC: IPPLF) does not seem to have hurt the stock at all. Wasn’t the expected acquisition supposed to be a bonanza for PBA? Thanks—Ken V.
 
A. Hi Ken. I read Randy Fowler’s remarks about Enterprise’s share price a little differently. Mainly, he believes that at this stage of the cycle investors aren’t giving the company much credit for its ability to reliably create value, including paying a safe and still rising distribution. But he intends to continue the same general financial policies, since returning money to shareholders in distributions and buybacks is still the best way to reliably create value in the long term.
The fact that EPD has correlated closely with XLE the past few years—an ETF that holds mainly large oil and gas producers—has some economic logic to it. Mainly, for midstream companies to thrive, the producers that are their major customers have to be healthy. And producer cutbacks have affected midstream company throughputs and therefore cash flow growth.
 
On the other hand, this is not a pair trade we would recommend. For one thing, Enterprise is not a producer and it’s entirely possible we could see producers (and the XLE) rally sharply while EPD shares run in place, for example producers curtail output and benefit from higher oil and gas prices while midstream throughputs are flat.
 
We would just advise holding EPD, which is a high quality stock that right now yields nearly 8%. And yes, we would agree the share are worth at least a low to mid-30s price. As for the yield discount to Kinder Morgan, that’s likely due to the fact that EPD is still organized as an MLP rather than a corporation. ONEOK,
2:02
for example, has a more cyclically exposed business plan but also yields a percentage point less than EPD. We believe MLP structure is likely to become more valuable in coming years if tax rates rise, as appears likely. And in any case, both KMI and EPD should become more valuable as the energy cycle continues.
 
As for your last question, investors generally sell off companies making acquisitions, particularly if they’re in bidding wars with uncertain outcomes and operate in the still unloved energy business. Pembina’s decision to walk away from Inter Pipeline showed investors that management values financial discipline over getting bigger. They also walked away with CAD350 million in cash, which they can use on myriad internal growth projects already in progress. And it’s also possible Brookfield will be shedding some Inter Pipeline assets, with the company a logical buyer.
I thought the combination of Pembina and Inter Pipeline had compelling industrial logic. So did the leading independent proxy advisors who wound up recommending Brookfield’s offer because of a higher cash portion. But Pembina is also a company with a very strong balance sheet and multiple expansion opportunities—not getting Inter Pipeline is not a serious setback at this time.
 
In fact, Pembina may eventually get the assets it wants because Brookfield Infrastructure Partners (NYSE: BIP) is fundamentally a financial investor. Its current asset base is both global and extremely diversified and therefore has little or no business synergies with Inter Pipeline’s. And if past is prologue, it will be looking flip at least some of its acquisition the next few years.
2:05
One final note on midstream companies exposure to expiring contracts, this is very much a challenge for many smaller players in the sector. But we believe it's very much baked into guidance for the best in class players we've been bringing to your attention--which are offsetting the impact of lower revenue from those contracts with incremental asset additions, cost cutting, debt reduction and buybacks. We saw that done successfully by Magellan Midstream Partners (NYSE: MMP) in its Q2 results just as Kinder accomplished it in the numbers it released earlier. Contract expirations come with the territory in midstream. But it's something the big diversified midstreams can do that smaller fare can't.
2:06
Well that's it for the questions we received prior to the chat. Let's get onto some live ones.
Arnie S
2:11
In my brokerage messages, I've noticed that analysts are upgrading price targets on many energy stocks.
ConocoPhillips COP -- some analyst has a price target of over $80 a share which would be getting close to its all-time high. 
PDC Energy Inc PDCE -- price targets are as high as $73 on this one. Is there any basis in reality for either one of these?
AvatarRoger Conrad
2:11
Yes, it's mainly a reappraisal on the part of some that the current level of oil and gas prices is sustainable and the energy market isn't headed for a repeat of the last decade, when the price recovery from 2016-2018 led to a huge ramp up in shale oil and gas production, which in turn drove down prices eventually to negative levels in April 2020 when the pandemic collapsed demand. We suspect what we're seeing may be related to the fact that producers are largely sticking to the very conservative CAPEX and output guidance set out earlier this year--rather than using higher energy prices as an excuse to ramp up CAPEX and output guidance. Again, this is a big difference from what we saw in the previous decade and we believe it's a great sign the cycle has turned upwards. Certainly at some point producers will pick up the pace. But for now it looks like restraint will tighten the supply picture further and that's good news for producer stocks--which for many producers are still below pre-pandemic levels.
Jeffrey H.
2:14
Hello Folks, Good to talk to you again. I have three questions for you, First, have you found any surprises so far in earnings reports? 

Second, how do you feel about Pembina's walking away from the Interpipeline deal?

 And lastly, what banks do you think will profit the most from the turn in the energy cycle? In the not-too-distant past, exposure to energy loans was a drag.

Many thanks for your answers.
AvatarElliott Gue
2:14
Thanks for the questions. We actually have an issue that will be out today or tomorrow where we cover some of the first reporters at more length. Bottom line is that we're not seeing any major surprises to date in the companies that have reported. Of course, less than a third of energy companies have reported at this time so there are a lot more releases to come over the next 2 weeks including most of the producers. So far, I'd also say that energy stocks are generally performing better than the average S&P 500 company stock in the trading day following earnings. So, this tells me that most investors are seeing reassuring signs in reports. As for the banks, historically CFR and CMA are two names that have had above-average exposure to energy loans. However, quite honestly, most of the regional banks I follow have been trading as a sort of "herd," driven more by macroeconomic catalysts and rotations than company-specific fundamentals.
AvatarRoger Conrad
2:16
Hi Jeffrey. I did answer a prechat question on the Pembina deal, which we also address in the EIA issue. All in all, I'm happy about their capital discipline in walking away (not empty handed with CAD350 mil in cash as the breakup fee) and they have many opportunities to invest their capital profitably.
Barry J.
2:19
Gents:

 1 Does the acquisition by ET of ENBL constitute a taxable event? I have a very high basis in the ENBL stock and am down about 35% from the time I purchased the shares.
 2 When will it happen?
 3 What amount of shares do we receive from ET for each ENBL share?

Thanks.
AvatarRoger Conrad
2:19
As Energy Transfer is also an MLP, swapping ET for Enable Midstream Partners units is not considered a taxable event. Each ENBL unit will be swapped for 0.8595 units of ET when the deal closes, for which the official guidance is still "Q3." I'm expecting to hear more details when ET announces results on August 3. My view is ET has considerable upside in this cycle as a major midstream player and that ENBL unitholders who hold on through the merger have a lot of opportunity to make up lost ground.
Ben F.
2:23
Roger -

Thoughts on RWE, the Germany utility for those of us looking for some international exposure.

Thank you for all the hard work.

Cheers
AvatarRoger Conrad
2:23
Thanks Ben. We currently rate the company a buy in Conrad's Utility Investor. The company has successfully restructured with its asset swap with fellow German giant electric E.On. It has favorable deals in hand to phase out its use of nuclear and coal-fired electricity, which say what you will about the impact on German ratepayers is a big plus for the company. And it's successfully expanding renewable energy generation worldwide, with particular success in Europe. I expect another strong earnings report August 12 and shares are not expensive on 19.3 times expected next 12 months earnings.
Mike C.
2:37
Hi gentlemen (and Sherry!) – Thanks as always for such solid and lucid insight and guidance.

A couple of questions in advance of the chat: a few weeks ago, Elliott anticipated a pullback in oil prices, which promptly materialized. Do you think the pullback/weakness is done? I’m timing retirement account buys, and beyond sticking with your portfolio and HY list names/entry prices, I’m wondering if you see broader weakness in energy names this autumn. (It seems like energy names are back to being highly correlated to the price of WTI, rather than being valued in their own right.)

Secondly (and maybe this is too big a topic for a chat): where do you think we are in your energy cycle diagram?

Many thanks for a great set of services!
AvatarElliott Gue
2:37
Thanks for the question. WTI basically filled my short term downside target of the mid-$60's around the time of the Saudi/UAE/OPEC+ deal. My sense is that further downside in oil is limited this summer however, so is the upside potential. That's because it'll be tough for oil to decline too much with OPEC+ seemingly willing to fine tune their supply to keep the global oil market from becoming oversupplied. On the flip side of the coin, you have the lingering concerns about the "delta variant" and the potential for new containment restrictions to slow the return of global demand, which will probably act as a sort of ceiling on significant upside near term. When it comes to the stocks, I think the No. 1 driver will be market-wide rotations. I continue to expect the value-to-growth rotation that's been underway since May to reverse at some point this quarter and that will act as a tailwind for the group. There have been some very recent (past week) changes that hint we may already be seeing a rotation back into
AvatarElliott Gue
2:37
value stocks. One is that there's been a surge in inflation expectations again, both in terms of breakeven rates and longer term expectations. My sense is that the market may be beginning to price in the idea that at least some of the recent inflation surge is not just temporary but will persist. That's bad news for growth stocks and generally supports commodity sectors like energy. Broadly speaking, this argues for a strategy of buying the dips in hte higher quality energy stocks we recommend.
Jack A.
2:39
Enterprise Products Partners took a slight hit after earnings release yesterday. How would you characterize the earnings results from both EPD and KMI? Since both depend on volumes, do you think they're being repriced with the opposition to oil production?

Thanks.
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