Tag Archives: alternative

Addicted To Energy Investing, Like CRAK

Summary Refineries have been the one bright spot for oil and gas investing lately. A new ETF captures the investment trend but still requires considerable monitoring by the investor. CRAK offers both U.S. and global refiners exposure, which offers diversification but also additional information needs. I couldn’t help myself, a chance to add levity in the face of oil market woes and gyrations. Then it appeared on my radar. CRAK . No, not the “Breaking Bad” sort, but the recently launched ETF. We know how horribly the oil and gas sector has fared, save the refiners. Well now you can own a “slice” of CRAK for your energy or retirement portfolio. I acknowledge the ETF trading issues revealed in the last couple of weeks as markets took a dive, hence the slice approach to this segment for the non-fainthearted. The fund Market Vectors Oil Refiners ETF ((Pending: CRAK )) launched 8/18/2015, right in lock step with the observed trend that refiners were performing better than other energy sub-sectors. (click to enlarge) Source: here . What are drivers? One driver behind the profitability in the sector is lower oil prices. Lower oil prices result in lower input prices, which can lead to higher margins. The fund says, “Unlike other energy sector segments, oil refiners may benefit from lower oil prices if crack spreads remain attractive.” Crack spreads are the differentials between oil prices and the refined products. In the U.S., product growth have been playing a role as well. Furthermore, the U.S. Energy Information Administration (NYSEMKT: EIA ) says: (As of July EIA estimates) that refinery runs will average 16.7 million b/d from April through September and then decline slightly in the fourth quarter to 16.2 million b/d before falling further to 15.8 million b/d in the first quarter of 2016. Following the winter period of lower demand and refinery maintenance, EIA’s expects U.S. refinery runs will reach new highs next summer, averaging 16.9 million b/d in third quarter of 2016. Low oil prices are expected to keep demand for gasoline slightly increasing in 2016. Recent EIA U.S. crude production estimates suggest slightly lower production but prices are expected to stay soft longer than previously expected given overall anticipated global supply. The EIA notes in a May report that increasing U.S. shale oil production is expected to lead to a decline in crude imports, an increase in refinery runs, new investments to expand refinery capacity, and higher crude and refined petroleum product exports. This is the expectation to the year 2025 under three general scenarios: 1) Low crude production under current export restrictions (10.9 million bbl/d in 2025) 2) High crude production without export restrictions (14.7 million bbl/d in 2025) 3) High crude production with current export restrictions (14.7 million bbl/d in 2025) The cases follow, in order from left to right: (click to enlarge) About CRAK The fund tracks the pure-play index (MVCRAKTR) comprised of companies that generate at least 50% of their revenue from crude oil refining, including oil, naphtha and other petrochemicals. It tracks the performance of the largest and most liquid companies in the global oil refining segment. The global firms included in the tracked index come from the following countries: Another way to view these country weightings is based on their expected growth rates, or GDP. This offers an indication as to whether these segments have growth prospects within a country context. Estimates for the U.S. are 2.4% for 2015; Japan 0.8%; India 7.5%; S. Korea 2.6%; Poland 3.4% and Taiwan 3.4%, to name a few (source: The Economist, Sept. 5, 2015, p 88). Thinking about this another way, the ETF offers exposure to energy-related infrastructure in economies with reasonable growth, for now. But it’s a little more complicated than that. Specific companies included in the index: (click to enlarge) Source detail: here . Considering the five U.S. refiners – Phillips (NYSE: PSX ), Marathon Petroleum (NYSE: MPC ), Valero Energy (NYSE: VLO ), Tesoro (NYSE: TSO ) and Holly Corp (NYSE: HFC ) – let’s look at their performance at a time of rising oil prices from 2013 to the peak of July 2014, and then down. (click to enlarge) Bloomberg offers a view of Reliance Industries vs. Phillips and Valero. (click to enlarge) This table shows the performance of the tracked index in comparison with FRAK , just for grins, as of 9/09/2015. (click to enlarge) (click to enlarge) Source: here. Findings I understand the immediate appeal of a swathe of exposure to the better performing segment of the oil and gas industry. The first performance chart is no longer the whole story however, given a nearly 6% decline in the last month for CRAK’s tracker index, MYCRAKTR. Some recovery is evident from the index performance above. While I have illustrated a broad brush stroke of the dynamics related to an ETF approach and refiners, serious complexity is involved in these dynamics. For example , from the EIA: Higher demand for gasoline is supporting these margins (from years of higher distillate crack spreads followed now by gasoline). U.S. gasoline product supplied is up 2.9% through the first five months of 2015; demand is also higher in major world markets such as Europe and India so far this year compared with 2014. Total U.S. petroleum product supplied (a proxy for demand) is up 2.5% through the first five months of the year compared with 2014… (Net) exports are 19% higher this year through May. Thus, investors interested in this ETF approach need to be monitoring variables such as oil prices, crack spreads, product exports and both domestic and global economic demand forecasts, at minimum. Some suggest that refinery investment exposure belongs to the traders owing to cyclicality, and one can see why this is so. Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. (More…) I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Introducing A New Roller Coaster: Brazil

Brazil’s economy has been on a drop due to significant and near fully priced in risks. Short sellers should be cautious for a rebound in commodity prices and an expanding middle class in this region. For broad exposure to the Brazil economy investors can buy EWZ while it trades at a discount to historic valuation. Let’s discuss Brazil. While their soccer team has been a top performer notching more world cup titles than any other country, unfortunately their equity prices have been consistently inconsistent. (click to enlarge) Brazil has been an easy money short-sell due to the market conditions including lower commodity prices, a weakening currency, high inflation, political instability, and minimal forecasted GDP growth. Examine the chart below, commodity prices based on this ETF are trading at half their value as compared to last year. (click to enlarge) The country’s currency continues to weaken, and the GDP growth has been moving in the wrong direction. The 5 year average GDP growth has been 3.2% and the 10 year average is slightly above at 3.4% according to Worldbank . For the next four years, the GDP growth is estimated to be an average of only 0.5%. While the current P/E based on historic growth of this region is promising, if you trust future estimates, the outlook remains bleak. Another risk which isn’t necessarily a new risk, is political corruption . The Petrobas scandal which was a state-owned oil company has essentially put the president at risk of impeachment. While inflation is a risk for Brazil overall, it may not be a huge concern for investors in iShares MSCI Brazil Capped (NYSEARCA: EWZ ). In fact, value stocks can be a good hedge against inflation (especially as compared to growth stocks). Looking at the equity style box accessed from Morningstar , you’ll notice this fund is value weighted. As prices in Brazil continue to fall, yields may become more attractive to investors. Continuing to drill into the Brazil ETF EWZ, a bullish story begins to unravel. For the fund itself, if you take the P/E divided by the long-term earnings % it creates a PEG of 0.88. This type of PEG is hard to find for a major country like Brazil. If you take the PEG ratio of the fund as compared to the historic or future GDP figure, however, you will be disappointed. The bull story here is that the P/E is attractive, commodity prices in the country’s abundant resources may rebound, the young population and expanding middle class may fuel growth GDP growth over consensus estimates, and the political environment may stabilize. I believe the short sellers should proceed with caution at this price level. If equity prices continue to fall the risk versus reward is going to be look quite lucrative in this region of the world. Digging deeper you will see below the five most heavily weighted stocks in the fund EWZ. This is a list I created which is why the quick descriptions are not in great detail. This is meant to provide a better picture of what an investor really is buying when they own this ETF. In these top five stocks which make up 36% of the total fund weight, you will notice the style is mostly consumer defensive and financial services. If the score 1 meant long and 10 indicated being short, I would sit at about a 4 today. Only slightly on the bullish argument at this price level. This country is one that I will be watching closely, and will add funds to if any of the bullish opportunities unravel. For now, I will be looking to enter a small amount of capital as I sit back and enjoy a nice yield with a good beverage . If you agree with the bear argument, I’ve already picked out a fund for you. My advice is to keep a close eye on Brazil because once the economy shows signs of light, equity prices will lift rapidly. (click to enlarge) Since July 1, 2000 this is the performance of Brazil as compared to the S&P 500. Brazil is clearly a roller-coaster ride, one that it does not pay to sit on forever. Get in when assets are cheap, and sell when they trade at a premium. Disclosure: I/we have no positions in any stocks mentioned, but may initiate a long position in EWZ over the next 72 hours. (More…) I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

PJM Capacity Auction Impact On Exelon And Other Electric Utilities

Summary PJM’s annual capacity auction was completed in August. This was the first year using the stricter capacity performance standards, which led to an increase in clearing prices. Exelon was the big winner in this year’s auction, with the potential to earn over $1.7B in capacity payments. Fewer new power plants bid into this year’s auction. This could be a positive sign for the long-run outlook of generation owners. For those who follow the electric utility industry, the PJM capacity auction is usually one of the big events on the calendar. (PJM is the regional transmission organization that essentially controls the operation of the electric grid from New Jersey to Chicago.) This year’s auction completed in August was no exception. The capacity auction was created a number of years ago to help support the reliability of the electric grid in a competitive market. The auction takes place three years before the capacity is needed, so this year’s auction was for the 2018/19 planning year. Electric demand fluctuates by time of day and by time of the year. There are some power plants that are needed for those few hours each year when demand is at its highest, but otherwise don’t have to run. These plants would never stay open if they were only paid for the few hours that they operate. The capacity auction essentially pays plants a standby fee to keep them open so that there is plenty of power available on high demand days. This fee is in dollars per megawatt of capacity for each day of the year. The size of the fee is determined in the capacity auction, and varies by location within PJM based on constraints in the electric transmission system. The following map shows the zones tested for transmission constraints in this year’s auction. Exhibit 1 (click to enlarge) Source: Brattle Group The arrows in the above map represent the connection between the parent zones and smaller sub-zones that might also have transmission constraints. For example, the MAAC zone has EMAAC as one of its sub-zones. EMAAC has its own sub-zones, including PSEG, which has its sub zone, PSEG-N. After the 2014 polar vortex caused reliability scares in PJM, changes, called capacity performance (NYSE: CP ), were made to the auction creating stricter eligibility requirements to participate. It also increased penalties for plants that receive capacity payments but are unable to perform when called upon during periods of peak demand. The creation of CP led to an increase in the clearing price for generation assets this year, as the higher cost of meeting the tighter eligibility requirements raised the auction bids for many participants. The clearing price of the RTO region of PJM (basically the areas in PJM without any transmission constraints) increased almost $45/MW-day over last year’s auction. Exhibit 2 Source: PJM Since this is the first year of CP, PJM only required 80% of the generation capacity to meet the new tougher standard. Eventually all capacity will have to meet the CP standard. Capacity in this year’s auction only meeting the old standard still received almost $150/MW-day in the RTO zone, which was close to a $30/MW-day increase in price. As you can see on the following map, only two areas priced separately due to transmission constraints this year, EMAAC and COMED. The prices in these zones were $50-60/MW-day higher than in the RTO. Exhibit 3 (click to enlarge) Source: PJM There are nine major generators that are impacted by the results of the auction. American Electric Power (NYSE: AEP ), AES Corporation (NYSE: AES ), Calpine (NYSE: CPN ), Dynegy (NYSE: DYN ), Exelon (NYSE: EXC ), FirstEnergy (NYSE: FE ), NRG Energy (NYSE: NRG ), Public Service Enterprise Group (NYSE: PEG ), and Talen Energy (NYSE: TLN ). The following chart shows the capacity each company holds inside PJM, and the zone where it is located. (A free excel file with information on the size, zone, and capacity of each company’s PJM plants, as well has historical auction prices is available here ) Exhibit 4 (click to enlarge) Courtesy Garnet Research, LLC You can see that the big player in PJM is EXC. You can also see that the majority of EXC’s capacity is in the COMED and EMAAC zones, which are the two zones that received higher prices this year because of transmission constraints. One thing to remember, though, is that having capacity in a region doesn’t necessarily mean you will receive payments for all of your capacity. Exelon actually issued a press release after the auction stating that three of its nuclear units (Quad Cities, TMI, and Oyster Creek), totaling 3,230MW of capacity did not clear the auction. The lost revenue from these plants not clearing is about $240M. Exelon already has plans to close Oyster Creek at the end of 2019. TMI and Quad Cities not clearing the latest auction probably means EXC will seriously be reviewing whether or not these plants should also be closed in the next few years. In general companies don’t publish which plants clear the auction because of competitive reasons, so it is difficult to know exactly which units will be receiving this revenue each year. Taking a company’s capacity in each zone and multiplying by the auction clearing price and by 365 days gives you an idea on how much potential revenue it could get from capacity payments. In this year’s auction, if you assume all of EXC’s capacity cleared at the latest prices, they would be receiving almost $2B in revenues. EXC is by far the biggest, but you can see the potential for the major players in the following table: Exhibit 5 (click to enlarge) Courtesy Garnet Research, LLC So without the three nuclear plants we know didn’t clear, Exelon still has the potential to earn over $1.7B of capacity payments. The above table also shows the biggest beneficiaries from the constraints in the electric transmission system. EXC obviously has the biggest benefit on a dollar basis, but PEG gets the biggest percentage benefit. Most of PEG’s plants are in EMAAC or in EMAAC’s sub-zones. Historically this has been a very good place to own power plants, because transmission constraints have impacted at least one sub-zone of EMAAC in all but one of the past capacity auctions. Exhibit 6 (click to enlarge) Courtesy Garnet Research, LLC So one thing to keep in mind when looking at PEG’s historical earnings is that they have been a big beneficiary of these transmission constraints. These constraints have been there for a long time, and with the difficulty in building new generation and transmission capacity, it is likely PEG will continue to be a beneficiary well into the future. This is actually the first time that COMED has ever broken out separately in the auction, which was partly driven by some power plant retirements. It remains to be seen if this year’s breakout was a one-time event, or the start of a trend. The ATSI zone, where the majority of FE’s assets are located, actually set an auction record with a $357/MW-day clearing price for 2015/16. But this year’s 2018/19 auction had ATSI just receiving the RTO price. So just because a zone received premium prices in an auction, it doesn’t mean this will continue for a long time. While EXC has the most potential revenue from the auction, on a percentage basis the impact to the bottom line is significantly greater for independent power producers Dynegy, NRG, and Talen. If you assume a $20 change in the auction clearing price across all zones, that all of each company’s capacity clears the auction, and a 40% tax rate on the incremental revenue, the impact is over 35% of NRG’s 2016 Street earnings estimate. The IPPs tend to trade more on EBITDA than EPS, and Talen Energy is actually the most sensitive on that metric. You can see the impact by company in the table below: Exhibit 7 (click to enlarge) Courtesy Garnet Research, LLC AEP, EXC, FE, and PEG all have sizable regulated wires businesses as part of their companies, which leads to the auction’s smaller bottom line impact for these names. While these names might not get as big a boost from the auction increase, their regulated business helps protect them when power markets suffer any downturns. Besides the increase in prices, this year’s auction may have brought additional positive news for competitive electric generators. Over the past few years record numbers of bidders have proposed adding new capacity to PJM. Last year almost 6,000 megawatts of new capacity cleared the auction, but this year less than 3,500MW was even offered. Exhibit 8 (click to enlarge) Courtesy Garnet Research, LLC This could be a sign that the economics of building a new power plant are becoming less attractive. The decrease in natural gas prices over the past few years has knocked down power prices and has been a big reason for the building binge, with generators trying to take advantage of a cheaper fuel source. If this buildout slows there would be fewer new power plants to compete with the current set of plants and would be supportive to companies that currently own capacity. This would be a positive for all generation in PJM, and could mean increased stability for power prices in the region. It also gives hope that the higher level of this year’s capacity auction might stick around for a while. Conclusion If the latest auction is a sign for a turnaround in the mid-Atlantic electricity markets, investors would benefit most by obtaining shares in DYN, NRG, or TLN. If investors want exposure to these markets, but with more regulatory assets to give some downside protection, then Exelon is probably the preferred name. FE and PEG are also similar to EXC, but they lack the added protection of Exelon’s geographic diversity. Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. (More…) I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.