Mark Jones http://www.egroups.com/group/CrashList --------------------------------------------------
From:
MoneyCentral Investor June 11, 2000 Company Focus Energy stocks are cooking with gas With demand for natural gas climbing, prices for the energy source -- and the companies that find and produce it -- should continue to soar. Among the winners: Devon Energy, EOG Resources and Louis Dreyfus Natural Gas. By Michael Brush
Like much of the energy sector, natural-gas stocks were a good place to hide out while tech stocks got trashed this spring. But when tech issues came back to life last week, the sector rotation helped put the kibosh on natural-gas issues. Is this the end of the ride, or a chance to get in? [ ]
Barring recession, the pause offers a good entry point, say money managers and analysts at energy funds. Long-term trends in the sector will sustain the meteoric rise in natural-gas prices for another two years or more. And that will continue to drive huge profit gains. Three firms getting impressive, upward earnings revisions that are likely to continue because they are in the right part of the market are: Devon Energy (DVN, news, msgs), EOG Resources (EOG, news, msgs) and Louis Dreyfus Natural Gas (LD, news, msgs).
Newcomers to the group, be warned: The charts on these stocks will make you stop in your tracks. They have doubled during the past three to six months. But given the structural supply-demand imbalances for natural gas, these stocks likely have much more upside to go.
"If this was just a six-month blip in the price of natural gas, it would not pay to get in now," says Jason Selch, an analyst with Wanger Asset Management, which holds shares of Devon Energy in its Acorn Fund (ACRNX), up 19.5% in the trailing 12 months.
Like many energy analysts, however, Selch goes along with forecasts by Cambridge Energy Research that put natural-gas prices in their current range through 2003 -- assuming the Fed does not tip the economy into recession. "If it lasts for three years, the fact that the stocks have run up a lot lately won't make any difference to investors who get in now."
Despite the recent gains, natural-gas stocks are arguably cheap. Donaldson, Lufkin & Jenrette analyst David Bradshaw notes the group now trades between five and six times cash flow. The historic range is four to 10. "The stocks are up, but they are not trading at a significant premium on the value of the reserves in the ground," Selch agrees.
Those reserves have gotten a lot more valuable, given that natural gas has advanced to about $4.30 per million British thermal units (known as MMBTU in the trade) in the July futures market, compared to a cash price of around $2.25 just two years ago. Why has the price shot up so much? More importantly, why will prices stay high? Aside from the strong economy, energy experts offer the following reasons.
Too much demand for power generation The biggest ramp-up in demand for natural gas comes from electricity producers, and it is not likely to change soon. Environmental laws have jacked up the cost of coal and oil power plants. Nuclear plants, meanwhile, are out of favor. The result: Natural gas is the preferred energy source. "Gas is economical, and it is environmentally friendly, though it is not 100% clean," says John Segner, the portfolio manager of the Invesco Energy Fund (FSTEX), which is up about 32% in the past year. [ ] The shift is so dramatic that electricity producers face a four-year waiting list for gas turbines. But gas-fired plants are coming on line right now. Their share of the electricity market is expected to double from 14% in 1998, to 31% by 2020. Fuel cells, powered mainly by natural gas, should be another source of demand down the road, Segner says.
Shortage of rigs and drifters Natural-gas companies cut back dramatically on capital spending in the late 1990s, when gas prices were low. Now there is a shortage of wells. "We have used up almost all of our rigs, and the ones we have left are trashed and picked over," explains Charles Maxwell, an energy analyst at the Connecticut-based brokerage Weeden & Co. "We are also short of crews. At 3.9% unemployment, you can't go into a bar and get a lot of drifters to work on rigs."
Yes, higher gas prices will bring more production on line. But with natural-gas usage up 50% in the past 10 years, much of the "low hanging fruit" has been swiped, Segner says. "So we have to drill more complicated structures. That will be done, but it is going to take time." Don't forget: There is no oil-type cartel that politicians can wheedle into increasing supplies. "Frankly, I don't see anything to derail this soon," says Bradshaw.
Running near empty Given that the demand-supply equation is out of whack, it is little surprise the nation is way behind in stockpiling natural gas for the winter. Typically, the country stores 3 trillion cubic feet by November 1. But since inventories are about 25% below where they were last year at this time, it is pretty clear there is no way the industry will reach that goal. "At this point, we need to add 11 billion cubic feet per day to make 3 trillion, and we are adding only 8 billion to 8.5 billion," Maxwell says. Energy analysts think the stockpile will only reach 2.5 trillion cubic feet by November.
That's a big enough shortfall to keep gas prices aloft even if we get another warm winter. Problem is, the weather is likely to be cooler, with the La Nina weather pattern gone. "And God save us from a colder-than-normal winter," says Maxwell. "We have not had one of those since 1996, when gas went from $2 per MMBTU to $5. If we had anything like that, gas will go to $7."
Picking the natural-gas stocks That would be bad news for consumers, but great news for natural-gas companies. Even with the current cash price nearing $4 per MMBTU, gas companies are rolling in profits. "The fact of the matter is a lot of these companies can make some good money when gas is at $2," Segner says.
You need to take care in selecting natural-gas companies, however. The first thing to remember is this: Go for production companies, because they benefit the most when gas prices are up. Distributors won't do as well. "The rising price of natural gas will not affect the value of the pipeline that carries it, because that service is not in tight supply," notes Maxwell. Since most of the profits at a company like El Paso Energy (EPG, news, msgs) come from processing and distribution, for example, it won't gain as much as others from higher gas prices.
EOG Resources, in contrast, is better positioned. "About 75% of the company's output is U.S. natural gas," notes Maxwell. "That is one of the higher proportions among all the natural-gas producing companies." Louis Dreyfus has a similar mix. "They are very heavily natural gas, and I am positive about that," Segner says. "I like the production growth of the company." A recent acquisition has added natural-gas reserves, and Segner thinks that could continue. "They have always had kind of a knack for that." About half the output at Devon Energy comes from natural gas, while the rest comes from oil.
[ ]
Investors in natural-gas stocks should be aware of two risks. The first: Prices move up so much that a public outcry sparks government intervention. The second threat is a recession strong enough to cut demand and reduce prices. "But if we have that kind of recession," says Maxwell, "many of your equity investments are going to have big problems."
At the time of publication, Michael Brush did not own or control shares in any of the equities mentioned in this column.
©2000 Microsoft Corporation. All rights reserved. Terms of Use Advertise TRUSTe Approved Privacy Statement