Tag Archives: energy

Why American Electric Power’s Recent Rally Will Continue, In 4 Charts

Summary Oversupply in the natural gas market will keep prices under pressure, and this will act as a catalyst for AEP since it is increasingly using the fuel for power generation. The company’s increasing usage of natural gas and other renewable sources will help it reduce costs by 13% this year and 28% next year as compared to 2014 levels. American Electric will benefit from an increase in retail electricity prices and an increase in electricity consumption going forward, which will allow it to arrest the decline in its top line. AEP’s valuation indicates bottom-line growth going forward while its payout ratio of 59% and aggressive cost reductions will allow it to sustain its dividend. Utility company American Electric Power (NYSE: AEP ) has gained some momentum in the past one month after releasing its second-quarter results at the end of July, with the stock gaining almost 3%. This is despite the fact that American Electric had posted mixed results , as its top line declined year over year and missed the consensus estimate by a wide margin. However, the company’s bottom-line performance was stronger than expected, which can be attributed to costs of electricity generation. Looking ahead, I believe that the company will be able to sustain its recent momentum going into the remainder of the year. Let’s see why. Lower natural gas prices will lead to better margins On account of massive oversupply in the U.S. natural gas market, the price of the fuel is not expected to rise anytime soon. There is news that the U.S. is considering increasing the exports of LNG, which could lead to higher prices. But, in the short run, the oversupply in the market will keep prices down. For example, on July 31, natural gas inventory stood at 2,912 Bcf, which is 23% higher than the prior-year period. The EIA believes that this level of inventory will go up to 3,867 Bcf at the end of October, up 1.8% as compared to the five-year average. Thus, higher inventory will keep natural gas prices, which are already down 11% in 2015, under more pressure. This will help American Electric to improve its margins going forward, as natural gas has turned into the largest source of electricity generation in the U.S. Given the dynamics in the natural gas market, it is not surprising to see why American Electric will increase the use of the fuel in electricity generation. As shown in the following chart, apart from natural gas, American Electric will use more renewable resources to eliminate extra costs associated with coal. (click to enlarge) Source: Investor relations As a result, by reducing its dependence on coal and using more of natural gas along with other energy sources, American Electric’s costs are expected to decline 13% this year and 28% next year as compared to 2014 levels, as shown below. Source: American Electric Higher electricity retail prices and demand will aid revenue growth The EIA expects the retail price of electricity in the U.S. for the residential sector to average 12.8 cents per kilowatt hour in fiscal 2015. This is approximately 2.5% higher than the average price in fiscal 2014. Also, it is expected that the retail price for commercial as well as industrial sectors will grow by 2% and 0.4%, respectively, in fiscal 2015. More importantly, the trend is expected to continue going into 2016 as well, with prices in all three sectors expected to rise. This is shown in the following chart: Source: EIA Along with the improvement in electricity rates, consumption is also slated to increase this year. For instance, residential consumption is expected to average 1,044 killowatthours per month during June, July, and August. This is about 3.7% higher than the consumption level last year. The increase in the consumption level will be driven by an expected 14% increase in summer cooling degree days in 2015. All in all, retail sales of electricity to the residential sector during 2015 are expected to grow by 0.4% from 2014 levels. In addition, American Electric expects reasonable sales growth for its commercial as well as industrial retail classes. The following illustrates its sales estimates for the fiscal-year 2015: (click to enlarge) Source: Investor presentation Hence, American Electric is well positioned to benefit from both an increase in electricity consumption and higher pricing. This will allow the company to improve its financial performance going forward. Valuation and takeaway Apart from strong end-market prospects, American Electric also has an impressive valuation that indicates earnings growth in the future. Its forward P/E of 15.4 is lower than the trailing P/E of 16.1, indicating positive bottom-line growth going forward. Additionally, the company carries a strong dividend yield of 3.60% at a payout ratio of 59%. Now, American Electric Power is reducing its costs by using natural gas while it will also benefit from better demand and pricing conditions. As a result, the company should be able to sustain its dividend in the future. Thus, according to me, investors should continue holding American Electric Power as the stock’s recent run will continue going forward. 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.

ETF Deathwatch For August 2015: 330 And Climbing

Eleven ETFs and ETNs came off of ETF Deathwatch this month because they are no longer with us. Five more escaped because they were able to show a sustained improvement in their health, although the two iShares ETFs in this category are scheduled to close in August. Even with these sixteen departures, the overall list has four more members than last month. The reason for this growth is the twenty new names being added. The ETF Deathwatch for August consists of 330 products (240 ETFs and 90 ETNs). Historically, the number of ETFs and ETNs on Deathwatch have shown strong correlation to new ETF launch activity. The theory behind this is simple: a large number of new ETFs coming to market must compete against the other new products as well as the established base. Even the above-average performers may fail to attract attention, as investors find it more and more difficult to stay abreast of current offerings. As launch activity dwindles and overall ETF assets grow, many of the better products begin to take hold and weaker ones close, forcing the quantity of products on Deathwatch to decrease. As with many economic realities, it comes down to supply and demand. If this historical relationship holds, then I expect the size of the ETF Deathwatch list to continue growing in 2015 since launch activity is on pace to be the third strongest year ever. Meanwhile, closure activity is on pace to set a new record, and hundreds more are not profitable for their sponsors and should be closed. I expect the next large wave of additions to ETF Deathwatch will be many of the recently hatched currency-hedged ETFs. As detailed in ETF Stats for July 2015 – Currency Hedging Jumps The Shark , the quantity of currency-hedged ETFs surged from 16 to 57 since the beginning of 2014. By the time August comes to a close, the number will be even higher. I suspect many of these funds will find their way to Deathwatch due to either lack of investor awareness or lagging performance when the dollar rally fades. The average asset level of products on ETF Deathwatch decreased from $6.9 million to $6.8 million, but the quantity of products with less than $2 million in assets rose from 57 to 62. The average age fell from 50.3 months to 49.7 months, although the number of products more than five years old increased from 105 to 110. Here is the Complete List of 330 Products on ETF Deathwatch for August 2015 compiled using the objective ETF Deathwatch Criteria . The 20 ETPs added to ETF Deathwatch for August: ALPS Emerging Sector Dividend Dogs ETF (NYSEARCA: EDOG ) Arrow DWA Tactical ETF (NASDAQ: DWAT ) Deutsche X-trackers Muni Infrastructure Revenue Bond ETF (NYSEARCA: RVNU ) Direxion Daily FTSE Developed Markets Bull 1.25x (NYSEARCA: LLDM ) Direxion Daily FTSE Emerging Markets Bull 1.25x (NYSEARCA: LLEM ) Direxion Daily S&P 500 Bull 1.25x (NYSEARCA: LLSP ) Direxion Daily Small Cap Bull 1.25x (NYSEARCA: LLSC ) ETFS Diversified-Factor Developed Europe (NYSEARCA: SBEU ) ETFS Diversified-Factor U.S. Large Cap (NYSEARCA: SBUS ) ETFS Zacks Earnings Large-Cap U.S. (NYSEARCA: ZLRG ) ETFS Zacks Earnings Small-Cap U.S. (NYSEARCA: ZSML ) ETRACS Wells Fargo MLP Ex-Energy ETN (NYSEARCA: FMLP ) iPath US Treasury 2-year Bear ETN (NASDAQ: DTUS ) iShares Global Inflation-Linked Bond (NYSEARCA: GTIP ) iShares MSCI International Developed Momentum Factor (NYSEARCA: IMTM ) iShares MSCI International Developed Quality Factor (NYSEARCA: IQLT ) Master Income ETF (NYSEARCA: HIPS ) ProShares Managed Futures Strategy (NYSEARCA: FUTS ) QuantShares Hedged Dividend Income (NYSEARCA: DIVA ) SPDR Barclays International High Yield Bond (NYSEARCA: IJNK ) The 5 ETPs removed from ETF Deathwatch due to improved health: UBS ETRACS Monthly Pay 2x Leveraged S&P Dividend ETN (NYSEARCA: SDYL ) Guggenheim BulletShares 2022 HY Corp Bond (NYSEARCA: BSJM ) iShares MSCI Emerging Markets Value Index ETF (NASDAQ: EVAL ) iShares MSCI Hong Kong Small-Cap (NYSEARCA: EWHS ) PowerShares KBW Property & Casualty Insurance (PBWP) The 11 ETPs removed from ETF Deathwatch due to delisting: CS X-Links 2x Monthly Merger Arbitrage ETN (NYSEARCA: CSMB ) CS X-Links HOLT Market Neutral Global Equity ETN (NYSEARCA: CSMN ) RBS China Trendpilot ETN (NYSEARCA: TCHI ) RBS Global Big Pharma ETN (NYSEARCA: DRGS ) RBS Oil Trendpilot ETN (NYSEARCA: TWTI ) RBS Rogers Enhanced Agriculture ETN (NYSEARCA: RGRA ) RBS Rogers Enhanced Commodity Index ETN (NYSEARCA: RGRC ) RBS Rogers Enhanced Energy ETN (NYSEARCA: RGRE ) RBS Rogers Enhanced Industrial Metals ETN (NYSEARCA: RGRI ) RBS Rogers Enhanced Precious Metals ETN (NYSEARCA: RGRP ) RBS US Large Cap Alternator ETN (NYSEARCA: ALTL ) Disclosure: No positions in any of the securities mentioned. No positions in any of the companies or ETF sponsors mentioned. No income, revenue, or other compensation (either directly or indirectly) received from, or on behalf of, any of the companies or ETF sponsors mentioned. Share this article with a colleague

VPU: Utilities For Stronger Yields And Better Diversification

Summary VPU has a respectably low correlation to SPY, but the correlation and relative volatility have changed materially over time. The ETF is great for improving diversification benefits across the portfolio. The expense ratio and dividend yield are both great. If an investor is already using a large bond holding to diversify their portfolio, the benefits from adding VPU to the equity section won’t be as strong. A substantial portion of my analysis will use modern portfolio theory, so my goal is to find ways to minimize costs while achieving diversification at the portfolio level. In this article I’m reviewing the Vanguard Utilities ETF (NYSEARCA: VPU ). In my past analysis on other utility ETFs I have found they can offer some nice benefits to the portfolio from lower levels of volatility and lower levels of correlation to the S&P 500. However, finding a good utility ETF can be a problem because a high expense ratio can destroy a fund that would otherwise be very attractive. Since VPU has an expense ratio of only .12%, I’m feeling pretty optimistic going into this one. Does VPU provide diversification benefits to a portfolio? Each investor may hold a different portfolio, but I use the SPDR S&P 500 Trust ETF (NYSEARCA: SPY ) as the basis for my analysis. When I ran a regression on SPY and VPU, I found a correlation of 77%. That isn’t very low, but it is not high enough to be problematic. On the other hand, the annualized volatility of VPU since January 2004 was 17.6% compared to SPY having an annualized volatility of 19.4%. Since the sample size includes both very solid bull markets and harsh bear markets, it should be providing a reasonable indication of the relative level of volatility implicit in each investment. However, if an investor focuses only on the last couple of years the resulting volatility levels are significantly less favorable for VPU. Over the last 26 months the annualized volatility on VPU was 14% and it was only 11.3% on SPY. On the other hand, during those 26 months the correlation was only around 52% rather than the longer term average of 77%. Yield & Taxes The yield is 3.35%. That may not sound incredibly high, but it isn’t bad either. Higher yields on the ETFs are nice because they reduce the incentive for human error. Many investors materially underperform the S&P 500 because of a human tendency to buy high and sell low. Having an ETF with a high dividend yield encourages investors to avoid selling off their shares when prices fall. The benefit here could be considered a placebo effect, but so long as it encourages investors to hold onto their equity through the downturn the result is more wealth in the long run. Expense Ratio The ETF is posting .12% for an expense ratio. What else is there to say? That is a solid expense ratio. Largest Holdings The diversification within the ETF is pretty weak. For a very long term holder it might make sense to replicate the ETF by just buying the underlying securities and taking higher trading costs to eliminate the expense ratio. However, an expense ratio of only .12% would be difficult to beat without a fairly long time horizon or a large volume of commission free trades in the account. (click to enlarge) The major holdings here are the same ones I would expect to see. Duke Energy Corporation (NYSE: DUK ) is a fairly huge utility company and frequently at the top of the list for utility ETFs. All around this appears to be a reasonable portfolio for an investor that wants to get more utility companies into their portfolio without having to buy the companies individually. Conclusion Utility companies can act as a form of income investment because of their strong dividend yields. Unlike buying into a bond portfolio investors can expect that the level of dividends will be increasing over time which makes up for the portfolio having more risk than a simple bond portfolio. When it comes down to designing an ideal portfolio, I think there is a viable argument for running a higher allocation to the utility sector as a way to improve diversification throughout the portfolio. The biggest weakness for using utility companies as a way to diversify the portfolio is that the diversification benefits of the utility allocation are not as strong as the benefits from simply using a diversified bond portfolio since bonds have historically shown materially lower correlations with the S&P 500. If an investor already has a large allocation to bonds, the benefits of adding VPU will not be as strong. On the other hand, if an investor places a high value on getting qualified dividends as a source of income, it would materially increase the relative attractiveness of VPU. In those cases, it would make sense to use a stronger allocation to VPU to reduce portfolio risk. 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. Additional disclosure: Information in this article represents the opinion of the analyst. All statements are represented as opinions, rather than facts, and should not be construed as advice to buy or sell a security. Ratings of “outperform” and “underperform” reflect the analyst’s estimation of a divergence between the market value for a security and the price that would be appropriate given the potential for risks and returns relative to other securities. The analyst does not know your particular objectives for returns or constraints upon investing. All investors are encouraged to do their own research before making any investment decision. Information is regularly obtained from Yahoo Finance, Google Finance, and SEC Database. If Yahoo, Google, or the SEC database contained faulty or old information it could be incorporated into my analysis.