Tag Archives: energy

Does The S&P Really Need Higher Oil?

The steady drumbeat of lower and lower Crude Oil prices continues. With the S&P 500 struggling to hit new highs in 2015, much of the blame has been placed on lower Oil prices. Do stocks really need higher Oil to perform well? The steady drumbeat of lower and lower Crude Oil prices continues. Oil’s fall from its peak in 2014 is up to an astounding 67%. This is fast approaching the largest decline in history, the 68% drop during the financial crisis of 2008-09. (click to enlarge) With the S&P 500 struggling to hit new highs in 2015, much of the blame has been placed on lower Oil prices. If only Oil prices were higher, say the pundits, stocks would be soaring. But how accurate is this story? Do stocks really need higher Oil to perform well? Let’s take a look back at history. We have data on Crude Oil (Generic First Futures via Bloomberg) going back to March 1983. The monthly correlation to the S&P 500 since then? Essentially zero (.05). Looking at the rolling 1-year correlation, we can see there are times where Oil and equities are positively correlated and other times when they are negatively correlated. (click to enlarge) During the financial crisis of 2008 and its aftermath, the correlation between equities and Crude became more consistently positive and higher than in prior cycles. Why? A deflationary, depression-like collapse was the major fear in 2008, and lower Crude prices that year were said to be a harbinger of bad things to come. When that theory did not materialize in 2009, the opposite was said to be true. The rally in Crude was thought to be a positive, indicating reflation and stronger global growth. This relationship would persist until 2014 when Crude began its most recent collapse. Since then, while equities have struggled to hit new highs, there has been little overall correlation with Oil. This is more in line with history, as evidenced by the table below displaying calendar year returns in Crude Oil and the S&P. Some thoughts on their unpredictable relationship: From 1984-87, Crude declined every year while the S&P advanced. The S&P continued to advance in 1988 and 1989 while Crude rebounded. Then, in 1990, the S&P experienced its only down year in the 1982-99 period while Crude Oil was up 30%. From 1994-96 the S&P and Crude moved up together. From 1997-98, Crude declined while the S&P experienced two strong years. The 2000-02 Bear Market in stocks displayed no obvious correlation to Crude. From 2003-07, Crude and the S&P rose together during the commodities boom. In the 2008 deflationary collapse, they declined together and during the 2009-11 reflation they rose together. In the past two years, as Crude has suffered one of its worst declines in history, the S&P is higher. So do U.S. stocks really need higher Oil prices to generate a positive return? The answer based on the historical evidence is clearly no. Why? Because it is not clear exactly what a higher or low Crude price means for the overall economy and an S&P 500 Index where the Energy sector which comprises less than 10%. Most studies show that the U.S. economy (and U.S. consumer), as a net consumer of commodities, ultimately benefits from lower Oil and Gas prices. Similarly, companies outside of the Energy spectrum benefit from lower input costs. Ultimately, the correlation between Crude and stocks depends on why Crude is moving higher and lower, which is difficult to ascertain in the moment. It only becomes clear in hindsight. Certainly a crash in Crude as we saw in 2008 which was an indication of a collapse in global demand was not going to be a positive for the U.S. equity market. However, a crash in Crude due to increasing supply and alternative forms of Energy could very well be construed as positive for markets. Is that the case today? Again, we’ll only know in hindsight. Ironically, while the fear of the day is over lower Crude Oil prices, historically the opposite situation has been more harmful for markets and the economy. If we look back at history, 1-year spikes in Crude above 90% occurred in 1987, 1990, 2000, and 2008. All of these spikes were associated with equity Bear Markets and the 1990, 2000, and 2008 spikes associated with U.S. recessions. So perhaps the greater fear should be not a continued slide in Crude but a spike higher. (click to enlarge) That is not to say that some stability or a bounce in Crude in 2016 would not be welcomed by U.S. stocks. It most likely would if the rise could be attributed to an increase in global demand. But predicting whether and why Crude rises and falls is not an easy game to play. Harder still is predicting its impact on stocks. This writing is for informational purposes only and does not constitute an offer to sell, a solicitation to buy, or a recommendation regarding any securities transaction, or as an offer to provide advisory or other services by Pension Partners, LLC in any jurisdiction in which such offer, solicitation, purchase or sale would be unlawful under the securities laws of such jurisdiction. The information contained in this writing should not be construed as financial or investment advice on any subject matter. Pension Partners, LLC expressly disclaims all liability in respect to actions taken based on any or all of the information on this writing. CHARLIE BILELLO, CMT Charlie Bilello is the Director of Research at Pension Partners, LLC, an investment advisor that manages mitial funds nd separate accounts. He is the co-author of three award-winning research papers on market anomalies and investing. Mr. Bilello is responsible for strategy development, investment research and communicating the firm’s investment themes and portfolio positioning to clients. Prior to joining Pension Partners, he was the Managing Member of Momentum Global Advisors previously held positions as an Equity and Hedge Fund Analyst at billion dollar alternative investment firms. Mr. Bilello holds a J.D. and M.B.A. in Finance and Accounting from Fordham University and a B.A. in Economics from Binghamton University. He is a Chartered Market Technician and a Member of the Market Technicians Association. Mr. Bilello also holds the Certified Public Accountant certificate.

Best Performing Bond ETFs Of 2015

The 33-year bull run in the bond market may totter next year after the Fed hiked the key U.S. interest rate after almost a decade. Though the initial rise was widely expected and meager in measure, 2016 will likely see four more hikes, provided the current global economic conditions remain intact. So the market is abuzz with the speculation that 2016 may mark the end of the prolonged bull run in the bond market and initiate the ‘great rotation’ from bonds to high quality stocks. For as long as the Fed remained dovish with rock-bottom interest rates, both bonds and equities rallied. But the first U.S. rate hike in a decade may make fixed-income investors jittery in 2016. Though the threat doesn’t look too scary at the current level given the Fed’s repeated assertion of going steady with hikes, the process may speed up if inflation perks up and wage growth gains momentum. In short, the backdrop of bond investing is likely to be dull ahead. Yet bond investors may see some hope in global growth worries, plummeting oil prices, slouching commodities, surging greenback and its effect on U.S. corporate earnings that might compel many to look for safety, shun risky assets and once again park their money in the relatively safer fixed-income securities. However, the chances of this tailwind are dimmer than the impending headwinds. In such a situation, it would be interesting to note the ETFs that were the leaders in the bond space during 2015. Returns are as per xtf.com . Market Vectors CEF Municipal Income ETF (NYSEARCA: XMPT ) – Up 7.11% Muni bonds are nice choices for investors seeking a steady stream of tax-free income. Munis are safer bets compared to corporate bonds and yield higher than treasuries. This overlooked choice looks to track the S-Network Municipal Bond Closed-End Fund Index. The product is composed of shares of municipal closed-end funds listed in the U.S. that are principally engaged in asset management processes designed to produce a federally tax-exempted annual yield. Notably, closed-end products are best suited for those who seek higher income (read: Is 2015 The Year for Municipal Bond ETFs? ). The product charges165 bps in fees. The fund is up 7.1% year to date (as of December 24, 2015) and has a dividend yield of 5.26% as of the same date. iPath US Treasury 5-year Bull ETN (NASDAQ: DFVL ) – Up 6.30% The fund is linked to the performance of the Barclays Capital 5Y US Treasury Futures Targeted Exposure Index. The index looks to track movements in the yields from buying 5-year U.S. Treasury Notes. The index looks to increase in response to a decrease in 5-year Treasury note yields and decrease in response to an increase in 5-year Treasury note yields. ProShares Short-Term USD Emerging Market Bond ETF (BATS: EMSH ) – Up 6.30% The fund looks to track the DBIQ short duration emerging market bond index, which is composed of a diversified portfolio of USD-denominated emerging markets bonds that have less than five years remaining to maturity that are issued by emerging markets sovereign governments, non-sovereign government agencies and entities, and corporations with significant government ownership. The fund yields 5.81% annually and is a good vehicle to earn solid current income on a regular basis. The fund rules out extreme volatility as the underlying securities are sovereign in nature. Secondly, the fund is USD-denominated and thus eradicates the adverse impact of the rising greenback. Moreover, low duration of the fund (about 2.65 years) alleviates the interest rate risks. iPath US Treasury 2-year Bull ETN (NASDAQ: DTUL ) – Up 4.84% DTUL is linked to the performance of the Barclays Capital 2Y US Treasury Futures Targeted Exposure Index. The index seeks to produce returns that track movements in response to an increase or decrease, as applicable, in the yields available to investors purchasing 2-year U.S. Treasury notes. The fund charges 75 bps in fees. Market Vectors High-Yield Municipal ETF (NYSEARCA: HYD ) – Up 4.69% The fund seeks to replicate the price & yield performance of the Barclays Capital Municipal Custom High Yield Composite Index. This benchmark picks securities using a market value weighting methodology and tracks the high yield municipal bond market with a 75% weight in non-investment grade municipal bonds and a 25% weight in Baa/BBB-rated investment grade municipal bonds for liquidity and balance. The fund yields 4.88% annually (read: How the Oil Crash Hit the Junk Bond ETF Market ). Road Ahead Having presented the scorecard of the year, we would like to note that the trend is likely to change ahead. High-yield or junk bond ETFs having considerable exposure to the energy sector are likely to perform miserably as the energy companies are at a high risk of defaulting. Moreover, short-term bond yields are likely to surge ahead with every Fed hike putting more pressure on the shorter end of the yield curve. Since inflation is still subdued, long-term bonds may not perform that glumly. Link to the original post on Zacks.com

Should You Stick With Duke Energy After A Rough Year?

Duke Energy has received the first two regulatory approvals to proceed with its acquisition of Piedmont. The annual average residential electricity sales will drop 0.5% in 2016, but the prices increase will offset the impact of unfavorable weather conditions. Duke Energy is trading at very reasonable valuation and offers a very attractive dividend yield of 4.58% at current levels. Duke Energy (NYSE: DUK ) has received the first two regulatory approvals to proceed with its acquisition of Piedmont Natural Gas (NYSE: PNY ). Now the approval of Piedmont’s shareholders and permission from the N.C. Utilities Commission is required to complete the transaction. So far the process has progressed smoothly, and Piedmont’s shareholders will meet on January 22, for that purpose. Duke Energy will become the largest gas utility in the state and N.C. Utilities Commission could raise concern over the dominance position, but the management expects to complete the transaction on time. Duke Energy, like most of the other utility stocks, underperformed during 2015 primarily due to uncertainty over interest rate hike. Now finally, Fed has raised the rate and would continue to hike steadily during 2016. The only downside of interest rate increase for Duke Energy is that incremental financial burden could restrict the earnings growth. In this scenario, the investor might be concern over the sustainability of future dividend payments. However, consistently growing regulated electric & gas operations and stout cash flow position will enable Duke Energy to bear the shock and continue to return cash to shareholders. So far this year, Duke Energy has delivered satisfactory performance despite very rough weather conditions. In the coming quarters, the outlook of unregulated utilities is likely to remain challenging primarily due to declining power and natural gas prices and soft electricity demand. On the contrary, regulated utilities will benefit from the supportive regulatory environment, resulting in steady operating earnings growth in 2016. While overall sector earnings are likely to grow 3.7% during, Moody’s (NYSE: MCO ) expects that regulated utilities will witness better operating earnings growth. Source: Factset Duke Energy’s regulated utilities segment recorded operating revenue of $17.09 billion, an increase of only $16 million year-over-year. The flat top-line was due to unfavorable weather during the first half of 2015, but the segment revenue increased 2.7% during the third quarter on the back of mid-single digit increase in electricity demand. Currently, the regulated electricity business is 91.3% of total revenue flowed by 6.4% nonregulated and 2.3% regulated natural gas. Going forward, the addition of approximately $1.4 billion annual sales from Piedmont will significantly increase the revenue contribution of Duke Energy’s existing regulate natural gas business. In the advantageous scenario, the aggressive acquisition of regulated assets will fuel the company’s earnings. (click to enlarge) Source: Company Presentation The commercial and industrial demand is steadily rising, but the mild weather is negatively impacting the demand for residential electricity. The Energy Information Administration (EIA) estimates that annual average retail residential sales will drop 0.5% in 2016, but electricity sales to the commercial and industrial sector will increase by 0.7% and 1.4%, respectively. Source: EIA Duke Energy may continue to witness flat residential usage per customers owing to stable demand and improving efficiency level, but an increase of 0.7% in residential electricity prices will support the growth during 2016. Moreover, the diversified customer base and the addition of new residential customer at a low single-digit, the company added 1.3% new customer over the past twelve months, will boost the top-line at a steady pace. On the other hand, the potential ease in currency headwind and divestiture of poor performing assets could also improve the revenue from international operations. Thus, the trickling down of revenue growth, solid gross margins, and a massive $10 billion investment in gas & electric infrastructure will enable Duke Energy to accelerate an average long-term earnings growth of 4% – 6%. Duke Energy pland to invest approximately $20 billion in new generations and infrastructure development between 2015 and 2019. So far, the company has spent $4.64 billion in CAPEX during 2015, while it generated $5.4 billion in operating cash flow with cash & cash equivalent of $1.37 billion cash. The cash flow position looks pretty healthy, which depict that the company would be able to manage CAPEX and dividend payments without any cut if the interest rate increases further. Duke Energy increases dividends each year, and it has paid the quarterly dividend for 89 consecutive years. Duke Energy is one of the high yield utility stocks and currently, it offers a yield of 4.58%, significantly higher than the average 3.90% yield of large-cap electric utilities in the U.S. Duke Energy has increased the dividend at a CAGR of approximately 2% between 2009 and 2014. Now, the company has recently boosted the increase rate to 4%. The management expressed the intention to increase the future dividend more in line with the long-run earnings growth, which is 4% – 6%. Though interest rate is a threat, the healthy balance sheet will enable the company to maintain the dividend growth. Source: Finviz The balance sheet of the company is very sound with total assets of $121 billion. In contrast, the company has a total debt of $40.2 billion. The debt would increase in 2016 owing to partial debt financing to complete the acquisition and additional debt from Piedmont. Despite the substantial debt, the company’s financial health is likely to remain rigorous as it invests in quality assets to generate growing cash flows, and its total debt to asset ratio, excluding goodwill, is only 0.38 times. Currently, the total debt to equity ratio of Duke Energy is 1.07 times, which seems quite high but is significantly lower than the large-cap electric utilities average and median of 1.38 times and 1.21 times, respectively. Moreover, the interest coverage ratio of 3.85 times depicts that Duke Energy is in a very comfortable position to cover the future interest expense while raising the dividend in line with the earnings growth. Duke Energy delights the investors by raising dividends, which are backed by consistently growing earnings. Unfortunately, Duke Energy is one of the stocks to lose double-digit value during 2015 primarily due to interest rate turmoil throughout the year. On the flip side, Duke Energy is now trading at very reasonable valuation, and its yield has increased due to a steep decline in share price. Duke Energy is currently trading at forward PE of 15.31x, which is slightly less than the utility sector forward PE of 15.5x. That said, Duke Energy is a very decent utility stock to hold for growing dividends and investors should not worry about the interest rate as it is already priced-in.