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Niska Gas Is Likely Undervalued Currently

Summary NKA is being sold at a heavy discount to book value and free cash flows based on historical financial analysis. NKA will likely do quite well financially during the current volatile gas price environment. Even if NKA decides to cut dividends, the current price seems very attractive. Investors should not take a large position currently in the case that dividends are cut and the units become even more attractively priced. Niska Gas Storage Partners LLC (NYSE: NKA ) is a company that operates gas storage assets totaling roughly 250 Bcf of natural gas storage capacity in certain areas of North America. Being in the storage industry, the effects of supply and demand in the natural gas industry may not affect NKA the same way as it affects other oil and natural gas concerns. While natural gas supply is relatively stable over the short term, demand may fluctuate quite a lot due to seasonal, weather or other reasons. Therefore, storage assets can be useful when prices are unduly low and used to save gas supplies for when prices rebound to higher levels. There are a few ways that NKA protects itself from the fluctuations in gas prices or perhaps more importantly, fluctuations in the usage of storage facilities by gas and utility companies. Storage might be thought of as a hedge against price volatility and therefore, it may even benefit from exceptionally low gas prices than normal. The company enters into long-term firm (LTF) contracts in which customers pay the company monthly reservation fees for the right to use the storage facilities over a multi-year agreement. These LTF fees must be paid regardless of the actually utilization of storage capacity by the customers. Then there are variable fees that are charged based on usage of the facilities but they represent a very small portion of the fees received under LTF contracts. Therefore, on a qualitative live, the greater part of NKA’s revenue stream should be relatively stable and constant under most circumstances regardless of the direction of gas prices. The extraordinary situation would be if the supply of natural gas were to actually become in danger of being disrupted or if NKA’s customers were to experience financial failure on a large scale. This would put severe stress on the company’s revenue stream and thus severely cripple its ability to service debt. This scenario would happen if gas prices stay below profitability levels for the producers over a prolonged period of time. In the short term, it may even positively impact NKA’s profitability as low prices would beckon more usage of storage capacity. (click to enlarge) NKA’s largest operation is in Alberta with a facility in each of Suffield and Countess which act as a single hub known as the AECO hub. The weighted average contract life of LTF storage contracts in the AECO hub was 2.3 years as of March 31, 2014. As long as those customer companies manage to stay solvent, NKA’s revenues from AECO should be able to weather a fairly long period of low oil prices. Especially since the fact that TransCanada, a large customer of NKA re-implemented its contract making the weighted average life 4.2 years. The weighted average contract life of the LTF storage contracts at Wild Goose is 2.0 years. Salt Plains is 3.0 years. While LTF contracts comprise of the larger part of NKA’s total revenues, they also have Short Term Firm (STF) contracts which also accounts for a material part of their revenues. The company uses a combination of LTF, STF and other revenue optimization techniques to obtain as high an amount of revenue as possible depending on the market situation. The nature of LTF contracts is that the revenue stream is set during the window of when the contracts expire and is renegotiated for the years going forward. Thus, the revenue from this stream have little to do with the day to day fluctuations of the gas markets and is determined by the conditions prevailing when the contract is being renegotiated. The STF contracts are negotiated on an opportunistic basis and this source is more susceptible to the shorter term fluctuations of the greater market. The current scenario The poor performance in the recent quarter was largely due to the inability of the company to find attractive STF contracts. This is partially attributable to the fact that there has been a lack of energy price volatility due to a moderately cool summer in the areas served by NKA. The trend has now reversed and storage capacity will likely be in high demand due to the recent fallout in oil and gas prices. NKA’s facilities will be in short supply when producers become very uncertain about the future prospects of oil prices since storage capacity basically acts as limited type of insurance protection against uncertain prices. In that sense, although I never like to depend on predictions for the future, NKA’s future prospects for both STF and LTF contracts are looking very bright at the moment. The greater the spread in energy prices, the more valuable will be NKA’s storage assets. Restrictive ownership structure The company is effectively controlled by its sponsor HoldCo and there really isn’t any effective control given to the general public shareholders. Furthermore, the company states that if the manager or any of their affiliates own 80% more of the outstanding units, then they have the right to purchase all of the remaining units from the public unit holders at the prevailing market price. This makes holding NKA very unattractive if you were to have paid the full price of $16.00 for the units. However, at $4.00 per unit, the potential risk is much lower and the reward potential is much greater and more attractive. Should the controlling sponsors decide to acquire the entire outstanding units, there is far less risk of selling it for lower than your acquisition price when purchased at $4.00 per unit. Financial analysis Reviewing the historical performance of NKA, it would seem that the current market cap of around $140 million is unduly cheap. The cash available for distribution metric that NKA discloses should be a rough approximation of free cash flow to equity. If we take the year over year results so far, the stock is trading at merely two times free cash flow. The stock was roughly $16.00 per share and has now dropped to less than $4.00 per share based only on one quarter of poor results due to a shortfall in STF business. The company pays out $1.40 in dividends per year which amounts to roughly $51 million in total. The 2nd quarter call conference suggested that the dividend may be reduced or cut altogether going forward which is what caused the collapse in share price. Analyzing the historical financial data along with the current drop in prices, NKA appears to be extremely cheap at the moment not only due to the free cash flow record, but it also trades at such a small fraction of book value. (click to enlarge) Conclusion Even if the dividends were to be cut completely, I believe the unit price should still be worth roughly $6.00 per share when taking into consideration all the risks. Indeed, the share price will likely drop if dividends were to be cut but the fundamentals of the company are sound and should even do quite well under the current volatile oil and gas price regime. The investment is certainly a portfolio of depreciating assets and the maintenance capital expenditures will increase to roughly $10 million per annum going forward. However, this will not affect the fundamental cash flows to equity going forward to warrant a 70-80% drop in the price. There is ample protection in terms of discount to book value as well as the historical free cash flow performance to warrant a small purchase for me at the current prevailing market price. I’ve only taken on a small position because I want to have a lot of dry powder left over if they should actually cut the dividend and the price would fall further. However, I believe that at the current price, NKA is attractive even if it does cut its dividends.

Cambria Introduces A Global Core Portfolio ETF With Zero Management Fees

Summary Mebane Faber’s Cambria Funds has added another ETF to its stable. The fund is a fund-of-funds comprising a core global portfolio of stocks, bonds, commodities and real estate. Cambria charges no management fees for the ETF. Acquired fees for the component funds are 0.29%. A Global Core Portfolio ETF With Zero Management Fees The latest ETF from investment iconoclast Mebane Faber is poised to be an industry disrupter. The Cambria Global Asset Allocation ETF (NYSEARCA: GAA ) is a fund of funds offering a global portfolio of stocks, bonds, commodities and real estate. “So,” you say, “what’s so disruptive about that?” Well, the ETF has no management fee beyond the acquired fees of the component funds. None. Acquired fund expenses amount to a mere 0.29%. Fig. 1. Still from Treasure of the Sierra Madre (1948). More on the fee structure later, let’s take a look at the fund first. The Fund The fund is a designed as a core global market portfolio, what Faber describes on ETF.com as a “one-stop shop for core global allocation… for super-low cost.” He goes so far as to ordain the fund the “global benchmark.” The table below lists the current portfolio. Fund Ticker Percent of Holdings Vanguard Tot Bond Mkt ETF (NYSEARCA: BND ) 8.09% Vanguard Emerging Mkt ETF (NYSEARCA: VWO ) 6.75% United States Comm Index (NYSEARCA: USCI ) 6.58% Vanguard Intl Bond ETF (NASDAQ: BNDX ) 5.07% Vanguard Emerg Mkts Gov B (NASDAQ: VWOB ) 4.90% Ishares MSCI USA Momentum (NYSEARCA: MTUM ) 4.09% Vanguard Mid-Cap ETF (NYSEARCA: VO ) 4.08% Vanguard Viper (NYSEARCA: VTI ) 4.07% Vanguard Europe Pac ETF (NYSEARCA: VEA ) 3.94% Mkt Vectors Em Lc Bd ETF (NYSEARCA: EMLC ) 3.85% Cambria Gloabl Value ETF (NYSEARCA: GVAL ) 3.80% Market Vectors Emer Hy (NYSEARCA: HYEM ) 3.77% Vanguard Reit ETF (NYSEARCA: VNQ ) 3.10% Cambria Shrhldr Yld ETF (NYSEARCA: SYLD ) 3.04% Ishares Lehman 7-10yr Trs (NYSEARCA: IEF ) 3.04% Ishares Iboxx Inv Gr Corp (NYSEARCA: LQD ) 3.03% SPDR Barclays TIPS ETF (NYSEARCA: IPE ) 3.00% Schwab U.S. TIPS ETF (NYSEARCA: SCHP ) 3.00% Vanguard Gbl X U.S. Re ETF (NASDAQ: VNQI ) 2.95% Ishares 20+Yrs Treas ETF (NYSEARCA: TLT ) 2.07% Vanguard St Bond ETF (NYSEARCA: BSV ) 2.01% Vanguard-S/T Corp ETF (NASDAQ: VCSH ) 2.01% Cambria Forgn Shrhldr ETF (NYSEARCA: FYLD ) 2.00% SPDR Barclays Int Corp (NYSEARCA: IBND ) 1.99% Vanguard Ftse All World (NYSEARCA: VSS ) 1.99% Spdr Barclays High Yield (NYSEARCA: JNK ) 1.99% Wisdomtree Em Small Cap (NYSEARCA: DGS ) 1.96% Market Vectors Intl (NYSEARCA: IHY ) 1.94% Cash 0.97% Wisdomtree Emg Mkts Eq (NYSEARCA: DEM ) 0.94% Here’s a couple of charts breaking the portfolio down at high-level geographic and asset class allocations. In the charts I’ve categorized the funds as Global (all-world), International (global ex. U.S.), Developed Markets ex. U.S., Emerging Markets, and Domestic (US) based on the individual funds’ mandates. I’ve not made any effort to break down the holdings by sub-categories within the funds. Obviously, Global would encompass all of the funds and International would encompass the two ex. U.S. categories but I’ve not done that here. (click to enlarge) Fig 2 and 3. Portfolio composition of Cambria Global Asset Allocation ETF . Charts by author. Data from Cambria . As we see, the portfolio breaks down to about half U.S. and half international. Slightly under half of the holdings is in bonds which cover sovereign and corporate debt at a full range of durations. There’s a 6.6% allocation to commodities, and 6% to real estate split equally between U.S. and international. The 36.7% that’s in stocks is split with about half in U.S. equity. If one adds the U.S. portion of the global funds, the mix would be slightly more than half in domestic securities. Zero Management Fee Now, about those fees. Or shall I say, the lack of fees? Surely no one opens an ETF without some reasonable expectation of turning a profit on it. How can they do that without charging fees? Two factors contribute to answer this question. First, according to Faber, this is an extremely low-cost fund to manage. GAA is essentially buy and hold. Although one assumes there will be some periodic rebalancing, the details are not discussed in the literature I examined. Furthermore, Faber claims that management is sufficiently lean and the fund is sufficiently cost-efficient that should it fails to raise a single dollar, the cost to Cambria will only be about $100,000. Or, to put it another way, the fund need only generate that $100,000 for Cambria to break even on it. But, with no fees, how can they generate even that amount? This raises the second point, and it is the key to making GAA viable. Three of the holdings are Cambria funds: SYLD, FYLD and GVAL, representing 8.84% of the portfolio. Faber claims that for a fund value of about $100M for GAA, the fees from those funds will generate sufficient revenue to Cambria for GAA to break even. To sum up, I see GAA an intriguing experiment. It provides exposure to a core global portfolio of 29 ETFs at absolutely minimal cost. An investor could buy the world market in its entirety with this single fund and simply forget about it. Doing so provides a truly passive, index investment. It will be interesting to follow how investors respond. If it succeeds it may well be remembered as the disruptive force Faber considers it to be.

The Various Flavors Of Long/Short Equity Funds

History seems to favor long/short strategies. Just take a look at the 20-year track record of long/short hedge funds. Cumulatively, long/short plays have bettered the S&P benchmark by 62 percent with a third less volatility. This article first appeared at wealthmanagement.com . You have to wonder why anyone would want to launch a domestic long/short equity fund these days. The S&P 500 Index has climbed 15 percent in the last 12 months. Buying a low-cost index tracker like the SPDR S&P 500 ETF (NYSEARCA: SPY ) or the iShares Core S&P 500 ETF (NYSEARCA: IVV ) seems like a no-brainer. Despite this, alternative asset managers persist. First Trust Advisors recently debuted the First Trust Long/Short Equity ETF (NYSEARCA: FTLS ) , an actively managed exchange traded portfolio that exploits forensic accounting to find its investment targets. What’s that, you say? Well, as First Trust’s Ryan Issakainen puts it, the fund’s managers use a proprietary methodology that measures the aggressiveness of a publicly traded company’s accounting practices. Firms with low-quality earnings (read: “aggressive accountancy”) tend to be associated with lower future stock returns compared to more conservative companies. Higher-quality earnings, in this model, portend better returns. FTLS buys high-quality stocks while shorting the low-quality ones. Over FTLS’ brief life, there seems to be something to the quality notion. The fund was launched on Sept. 9 and, through Nov. 20, has outdone the S&P 500 by nearly 60 basis points (0.57 percent, to be exact) with significantly less volatility. The question is, of course, can this last? History seems to favor long/short strategies. Just take a look at the 20-year track record of long/short hedge funds. Cumulatively, long/short plays have bettered the S&P benchmark by 62 percent with a third less volatility. (See Chart 1.) A caveat here. Hedge funds labeled as “long/short” could be trading in myriad investments, including equities, bonds, currencies or options. We need to take a closer look at equity-only portfolios. And we should concern ourselves with publicly traded products. Searching for long/short equity portfolios in the mutual fund or ETF realms requires some discernment. There’s a lot of dirt in the long/short category. Some funds labeled “long/short” are, in fact, market-neutral portfolios—meaning they target a zero beta. Not so with true long/short products: Beta, while potentially mitigated by short sales, isn’t eliminated entirely. Among long/short domestic equity mutual funds ranked by Morningstar, this year’s top five include: Logan Capital Long/Short Fund (MUTF: LGNMX ) — Buying targets include large-cap stocks with potential for rising earnings growth along with those delivering high dividends. Short sale targets include companies with deteriorating financial positions across all capitalization tiers. Schwab Hedged Equity Fund (MUTF: SWHEX ) — Invests by taking long and short positions in stocks based on a proprietary rating system that evaluates fundamentals, valuation and momentum. Highly-rated stocks are bought; low-ranked issues are sold short. CBRE Clarion Long/Short Fund (MUTF: CLSVX ) — Concentrating in the real estate sector, CLSVX managers rank companies using proprietary criteria, then finance long exposures in excess of the fund’s net asset value with short sales of low-ranked stocks. AmericaFirst Defensive Growth Fund (MUTF: DGQAX ) — Another concentration product, this fund focuses its buying interest on defensive, non-cyclical equities, namely consumer staples and healthcare. Short sale candidates are drawn from any industry. Natixis Tactical U.S. Market (MUTF: USMAX ) — Fund managers use a risk model to throttle this fund’s exposure to the domestic market. A positive risk-return tradeoff warrants overexposure through derivatives, while a negative signal triggers a beta-reduction strategy. Clearly, there was a price paid by mutual fund shareholders for long/short equity exposure over the last 12 months. None of the top five funds outdid the S&P 500’s total return, even though most cranked out positive alpha. The reason for the seeming disparity? Beta. Alpha measures a fund’s return against the beta-adjusted benchmark. Four of the five funds were less volatile than the S&P index. Then there’s the annual expense. Long/short plays aren’t cheap. On a market-weighted basis, investors in these five funds forked over 1.9 percent to the portfolio managers. Exchange traded funds boast lower holding expenses, but pickings in the domestic long/short equity sector are pretty sparse. There’s a suite of four thematic QuantShares ETFs that are lumped into the long/short category, but they’re really market-neutral portfolios. Among more than 1,600 extant exchange traded products, there are only two—with the exception of the new FTLS portfolio—that can be properly tagged as domestic long/short equity ETFs: ProShares RAFI Long/Short ETF (NYSEARCA: RALS ) — An index tracker based on the Research Affiliates Fundamental Index (RAFI). Long positions are undertaken in companies with better fundamental metrics—i.e., RAFI weights—relative to their market cap weights, while stocks with smaller RAFI weights are shorted. ProShares Large Cap Core Plus (NYSEARCA: CSM ) — CSM aims to outperform the S&P 500 while maintaining a market-like beta. The fund tracks the Credit Suisse 130/30 Large Cap Index which overweights highly ranked stocks on the long side, financed by short sales of issues with low or negative expected alpha. Long/short ETFs, as you can see in Table 2, are a mixed bag. The smallish RALS portfolio hasn’t benefitted from the past year’s beta bonanza, while CSM took advantage of it in spades. This shouldn’t be a surprise. RALS, most often thought of as an absolute value play, equally weights its long and short exposures. CSM, in contrast, skews to the long side: 130 percent of its net asset value is committed to long positions, 30 percent to shorts. CSM’s asset base, at $487 million, is nearly eight times larger than that of RALS, tilting the long/short ETF category’s market-weighted expense to 51 basis points (0.51 percent), a quarter of the expense borne by investors in the five mutual funds featured in Table 1. The First Trust FTLS fund comes to market with an expense ratio of 99 basis points, cheap by mutual fund standards but pricey when measured against ETFs. FTLS expects to be 80 to 100 percent invested in long positions, complemented by short positions ranging from zero to 50 percent. “As of October 31,” says First Trust Portfolio Manager Mario Manfredi, “the fund had long positions equal to 99.6 percent of NAV and short positions equaling 20.1 percent, for a net market exposure of 79.5 percent.” It’s early days for the fund, but the metrics look promising. FTLS exhibits an r-squared (r2) coefficient of 94 against the S&P 500, with a beta of 83. If the fund continues on its present trajectory for a full year, an alpha north of five could be expected. Not quite that of CSM, but certainly better than RALS. Presently, FTLS goes tradeless about a third of the time. In 17 of the last 53 trading sessions, there’s been zero volume. That doesn’t worry Manfredi. “It’s not unusual for a newly launched ETF to have limited or no trading volume on many days,“ he says. “In our experience, as an ETF gradually builds a track record, interest grows and trading volume follows. We feel that alternatives as an asset class are here to stay, as demonstrated by the growth in assets and overall strategies over the last six years. We have a strong sales and marketing team who we are very confident will drive interest in the fund by working with advisors to help them fulfill their clients’ objectives.” Disclosure: None