Tag Archives: utilities

FXG: Consumer Staples With Less Of The Consumer Staples

Summary The portfolio for FXG just doesn’t look right to me. The ETF uses fairly low allocations for some core consumer staple holdings. I’d like to see a heavier weighting for companies with massive market share or addictive products because those firms should be able to protect margins better. Investors should be seeking to improve their risk-adjusted returns. I’m a big fan of using ETFs to achieve the risk-adjusted returns relative to the portfolios that a normal investor can generate for themselves after trading costs. One of the funds that I’m considering is the First Trust Consumer Staples AlphaDEX ETF (NYSEARCA: FXG ). I’ll be performing a substantial portion of my analysis along the lines of modern portfolio theory, so my goal is to find ways to minimize costs while achieving diversification to reduce my risk level. Expense Ratio The expense ratio for FXG is a fairly unappealing .67%, which leaves me feeling that there is some substantial room for improvement. Holdings I was able to grab a chart with all of the holdings for FXG: (click to enlarge) Is this really a consumer staples portfolio? Procter & Gamble (NYSE: PG ) is only 1.68% of the portfolio? Altria Group (NYSE: MO ) is less than 1% of the portfolio? Costco (NASDAQ: COST ) is entirely absent from the portfolio. Coca-Cola (NYSE: KO ) and Pepsi (NYSE: PEP ) are entirely absent. When I’m looking at an ETF of consumer staples, I want to see products that people are going to buy regardless of what is happening in the economy. I’m not a fan of smoking, but I wouldn’t mind a substantial allocation to tobacco. For that matter, I would prefer a portfolio built on companies that have enormous market share and sell addictive products. The fundamental goal of creating a consumer staples allocation in the portfolio is to provide the portfolio with more protection from weakness in the economy. Despite the challenges with firms missing, I do think a large allocation to Tyson Foods (NYSE: TSN ) and ConAgra Foods (NYSE: CAG ) does make sense. There has been enough concentration in this part of the industry that the major players are controlling a large part of the market and are unlikely to be forced to take major price cuts even if the market enters another recession. Building the Portfolio This hypothetical portfolio has a moderately aggressive allocation for the middle-aged investor. Only 25% of the total portfolio value is placed in bonds and a fifth of that bond allocation is given to high-yield bonds. If the investor wants to treat an investment in an mREIT index as an investment in the underlying bonds that the individual mREITs hold, then the total bond allocation would be 35%. Given how substantially mREITs can deviate from book value, I’d rather consider the allocation as an equity position designed to create a very high yield. This portfolio is probably taking on more risk than would be appropriate for many retiring investors since a major recession could still hit this pretty hard. If the investor wanted to modify the portfolio to be more appropriate for retirement, the first place to start would be increasing the bond exposure at the cost of equity. However, the diversification within the portfolio is fairly solid. Long-term treasuries work nicely with major market indexes, and I’ve designed this hypothetical portfolio without putting in the allocation I normally would for equity REITs. An allocation is created for the mortgage REITs, which can offer some fairly nice diversification relative to the rest of the portfolio and they are a major source of yield in this hypothetical portfolio. The portfolio assumes frequent rebalancing which would be a problem for short-term trading outside of tax advantaged accounts unless the investor was going to rebalance by adding to their positions on a regular basis and allocating the majority of the capital towards whichever portions of the portfolio had been underperforming recently. Because a substantial portion of the yield from this portfolio comes from REITs and interest, I would favor this portfolio as a tax exempt strategy even if the investor was frequently rebalancing by adding new capital. The portfolio allocations can be seen below along with the dividend yields from each investment: Name Ticker Portfolio Weight Yield SPDR S&P 500 Trust ETF SPY 35.00% 2.06% Consumer Discretionary Select Sector SPDR ETF XLY 10.00% 1.36% First Trust Consumer Staples AlphaDEX ETF FXG 10.00% 1.60% Vanguard FTSE Emerging Markets ETF VWO 5.00% 3.17% First Trust Utilities AlphaDEX ETF FXU 5.00% 3.77% SPDR Barclays Capital Short Term High Yield Bond ETF SJNK 5.00% 5.45% PowerShares 1-30 Laddered Treasury Portfolio ETF PLW 20.00% 2.22% iShares Mortgage Real Estate Capped ETF REM 10.00% 14.45% Portfolio 100.00% 3.53% The next chart shows the annualized volatility and beta of the portfolio since April of 2012: (click to enlarge) A Quick Rundown of the Portfolio Using SJNK offers investors better yields from using short-term exposure to credit-sensitive debt. The yield on this is fairly nice, and due to the short duration of the securities, the volatility isn’t too bad. PLW on the other hand does have some material volatility, but a negative correlation to other investments allows it to reduce the total risk of the portfolio. FXG is used to make the portfolio overweight on consumer staples with a goal of providing more stability to the equity portion of the portfolio. FXU is used to create a small utility allocation for the portfolio to give it a higher dividend yield and help it produce more income. I find the utility sector often has some desirable risk characteristics that make it worth at least considering for an overweight representation in a portfolio. VWO is simply there to provide more diversification from being an international equity portfolio. While giving investors exposure to emerging markets, it is also offering a very solid dividend yield that enhances the overall income level from the portfolio. XLY offers investors higher expected returns in a solid economy at the cost of higher risk. Using it as more than a small weighting would result in too much risk for the portfolio, but as a small weighting, the diversification it offers relative to the core holding of SPY is eliminating most of the additional risk. REM is primarily there to offer a substantial increase in the dividend yield which is otherwise not very strong. The mREIT sector can be subject to some pretty harsh movements, and dividends from mREITs should not be the core source of income for an investor. However, they can be used to enhance the level of dividend income while investors wait for their other equity investments to increase dividends over the coming decades. If you want a really quick version to refer back to, I put together the following chart that really simplifies the role of each investment: Name Ticker Role in Portfolio SPDR S&P 500 Trust ETF SPY Core of Portfolio Consumer Discretionary Select Sector SPDR ETF XLY Enhance Expected Returned First Trust Consumer Staples AlphaDEX ETF FXG Reduce Beta of Portfolio Vanguard FTSE Emerging Markets ETF VWO Exposure to Foreign Markets First Trust Utilities AlphaDEX ETF FXU Enhance Dividends, Lower Portfolio Risk SPDR Barclays Capital Short Term High Yield Bond ETF SJNK Low Volatility with over 5% Yield PowerShares 1-30 Laddered Treasury Portfolio ETF PLW Negative Beta Reduces Portfolio Risk iShares Mortgage Real Estate Capped ETF REM Enhance Current Income Risk Contribution The risk contribution category demonstrates the amount of the portfolio’s volatility that can be attributed to that position. Despite TLT being fairly volatile and tying SPY for the second highest volatility in the portfolio, it actually produces a negative risk contribution because it has a negative correlation with most of the portfolio. It is important to recognize that the “risk” on an investment needs to be considered in the context of the entire portfolio. To make it easier to analyze how risky each holding would be in the context of the portfolio, I have most of these holdings weighted at a simple 10%. Because of TLT’s heavy negative correlation, it receives a weighting of 20% and as the core of the portfolio SPY was weighted as 50%. Correlation The chart below shows the correlation of each ETF with each other ETF in the portfolio. Blue boxes indicate positive correlations and tan box indicate negative correlations. Generally speaking lower levels of correlation are highly desirable and high levels of correlation substantially reduce the benefits from diversification. (click to enlarge) Conclusion FXG has resisted weakness in the market as demonstrated by both the lower annual volatility and the lower max “drawdown” of -9.8% relative to the market’s worst performance of -11.9%. Despite that, the portfolio composition simply does not match the way I would want the consumer staples exposure constructed. Simply put, the portfolio does not offer strong enough allocations to some of the companies that have both enormous market share and addictive products. Heavy allocations to a few food companies look solid, but I’d rather see less of the convenience stores and more of the major retail low cost leaders such as Costco and Wal-Mart (NYSE: WMT ). Even if WMT is having a rough time lately, it is a long-lived dividend champion with a large market share and powerful economies of scale. 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.

Why Exelon Remains A Buy

Summary EXC has increased its presence in the regulated segment, with a focus on acquisitions. The EPA’s decision works in favor of Exelon. The company has a low valuation and good performance with a regular dividend payout. I have long been bullish on Exelon Corp. (NYSE: EXC ) given its clean energy portfolio, major presence in the U.S. utility market, low valuation, and dividend growth. The company has a market capitalization value of $27 billion and delivered revenues of approximately $27.4 billion in 2014. The company is engaged in the production, sales, and transmission of energy. The stock declined in line with other large U.S. utilities like Southern Company (NYSE: SO ), Dominion Resources (NYSE: D ), and Duke Energy (NYSE: DUK ). However, what gives EXC an edge when compared to the other utilities is its large fleet of green assets. Exelon Nuclear operates the largest nuclear fleet in the nation and the third largest fleet in the world. With the utility industry coming under increasing EPA pressure to reduce carbon emissions, EXC is set to outperform as its nuclear plants emit zero greenhouse gases. Furthermore, the company’s focus on regulated markets, its increased infrastructure improvements, increasing renewable energy asset base, and low valuation make it a buy in my view. Why I Like Exelon 1. Large, Clean Asset Base — The company operates a large low-cost and low-carbon generation fleet across the U.S. Exelon owns more than 35 GW of power generating capacity with less than 10% of its capacity coming from thermal power plants. The other utility companies are predominantly dependent on coal for their power generation. What I like about Exelon is its large clean asset base, which in my view is one of the biggest strengths of the company. It has one of the largest portfolios of solar and wind energy farms. Other than its large nuclear energy fleet, the company also owns and operates the following: More than 1.2 GW of the wind energy portfolio Exelon City Solar, the largest urban solar installation in the United States Four hydroelectric power plants 2. EPA Decision Taxing on Dirty Coal — The U.S. has already finalized its clean power plan , which focuses on cutting carbon emission from power plants. By 2030, the clean power plan will reduce carbon emissions by 32% below 2005 levels. All 50 states have utilities working toward establishing a cleaner and efficient power system using renewable energy. This decision by the EPA will be problematic for utilities relying on coal for their power production. 3. Good Dividend Yield — The company declared a regular quarterly dividend of 31 cents per share. Utility stock owners are mostly interested in a high, stable and growing dividend yield. Utilities attract investors for their stable dividend. If utilities’ stock prices fall, the dividend yield goes up. EXC has a dividend yield of 4.18%. 4. Focus on Regulated Markets — In the wake to overcome current weakness in the energy market, the company is slowly shifting its focus toward the more regulated segment of the market. The company has plans to invest $15 billion in BGE, ComEd and PECO (Exelon’s utilities) between 2014 and 2018. This will ensure stable earnings. Exelon is also expanding its footprint in the natural gas business. The company acquired Integrys Energy Group , with regulated natural gas and electric utility operations. 5. Lower Valuation — EXC stock has a P/B of 1.2x and P/S of 0.9x , which is lower than the industry average of 1.7x and 1.3x, respectively. The lower valuations are due to its lower operating ratios, compared to the general utility industry. Its operating margin at 15.5% is lower than industry average at 21.6%, while its net margin at 7.9% is also lower than the average. The reason for the lower margins is the company’s dependence on wholesale markets where prices have been low over the past few years. Its nuclear power plants have suffered from the low prices. The valuation multiples are also lower than the bigger utility companies. Market Cap ($ billions) P/S P/B Exelon 27 0.9 1.2 Dominion Resources 41.3 3.4 3.3 Duke Energy 48 2.1 1.2 Southern Co. 39.5 2.2 2 Source: Figures from Morningstar. 6. Good Recent Quarter Performance — The company reported a quarterly EPS of 59 cents per share, exceeding its guidance for Q2 2015. The company expects Q3 2015 earnings of $0.65 to $0.75 per share and has narrowed its full-year guidance range from $2.25 to $2.55 per share to $2.35 to $2.55 per share. Exelon has shown considerable improvement across all segments in quarterly revenues and net income when compared to Q2 2014, as can be seen below. (click to enlarge) (Note: Figures in millions.) 7. Exelon & Pepco Merger — In April 2014, Exelon announced its merger with Pepco Holdings, Inc. (NYSE: POM ) in an all-cash transaction. This would have led to the emergence of a leading Mid-Atlantic electric and gas utility. This was a good move by Exelon, as it would expand its regulated holdings and thus strengthen its earnings stability. It was a win-win situation for both companies. This merger recently faced heat from D.C. regulators. However, the companies will appeal the decision and analysts believe there is a 50-50 chance of the merger taking place. I think the merger should go through given its financial benefits for customers . Risks — Nuclear Base Risk While nuclear energy has its advantages in the form of no carbon emissions and low costs, it is still facing a lot of criticism worldwide given its danger of radiation accidents. However, Japan has recently restarted its nuclear power four years after Fukushima. Exelon spends nearly $1 billion annually on its nuclear plants to keep them operating safely and reliably. — Increasing Bond Yields Utility stocks can lose their attraction to yield investors as long-term bond yields rise. With the Federal Reserve expected to raise interest rates this year, bond yields are likely to increase. This will pressurize utility stocks that have benefited from the zero rate interest environment in the past few years. Stock Performance The stock is currently trading at $31.5, which is higher than its 52- week low. The company has a market capitalization value of more than $27 billion. The stock has lost 17% of its value since 2015 . Conclusion Exelon will benefit from the increasing demand for clean electricity in the near future. Though the company is facing various economic challenges in the form of low natural gas and power prices, it is trying to cover up its weaknesses through investments and M&A opportunities. The new EPA rules will improve EXC’s competitive position as compared to other utilities. I remain bullish on the stock given its growing commitments in the regulated markets, its large, clean asset base, its low valuation, and its good dividend yield. 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.

Hunting For Profits At GreenHunter Resources

The CEO has offered to loan (or possibly buy equity) the money to the company to pay the preferred dividends when the lenders allow. One of its biggest customers, Magnum Hunter Resources, has a $430 million joint venture that should allow the company to become profitable within the next year. The company has a cost advantage in disposing waste water. Gross margins are improving and losses from continuing operations are decreasing despite decreasing revenues. SWD capacity will increase to 32,000 barrels per day early in the fourth quarter. GreenHunter Resources (NYSEMKT: GRH ) is a small company that is dedicated to dealing with the disposal and treatment of waste water that is a byproduct of the fracking of wells and the production of oil and gas (primarily). “Today, GreenHunter Water owns and operates salt water disposal wells, a fleet of disposal trucks, including 407 condensate trucks and dispatches third-party trucks, as well as, barging and pipeline operations for the efficient and safe transport of water for disposal.” The above quote from the company website neatly describes the company’s operations. The company exited other operations in Texas and Oklahoma to concentrate on the Utica Shale and Marcellus Shale in the Pennsylvania-West Virginia-Ohio region (possibly even a little bit of Kentucky). As such, it exited Oklahoma before it got caught in the earthquake controversy there. The company maintains that it has a cost advantage in its current area of operations and it is trying to build on that cost advantage. The company claims to have one of the most modern truck fleets in the business. All of the trucks are licensed to carry hydrocarbons, which implies that there can be alternative uses for the trucks should the situation arise; however, at the current time, the emphasis is on waste water disposal. Recently, the company added two disposal wells and seeks to add two more disposal wells. The two new wells increased disposal capacity by approximately 40%. When the four wells have approval and are operating, the company anticipates that it will have a total capacity of 32,000 barrels of water per day. To accomplish its goal of adding capacity, the company issued notes in the amount of $16 million (in two draws of $13 million immediately and $3 million within six months) that allowed the company to finance the new wells as well as add trucks needed to support the transport of water and fluids. The interest rate is nine percent and the company must pay a royalty of twelve cents per barrel disposed from September 2015 to the first twelve months after the notes have been paid in full to the lenders. The notes mature in 36 months. That is not a lot of time for the company to become profitable enough for a refinance with longer terms. Still this financing has allowed the company to accomplish at least some of its growth goals. The company has spearheaded an attempt to barge the waste water using the waterways of Ohio. “Our estimates show that a single 10,000 barrels of brine barge will remove in excess of 600 hours of water truck traffic.” The above quote from the company’s website explains why the company has spent years and asked for help from Congressmen to get the Coast Guard moving on this proposal. The company is obviously looking to enhance its low-cost advantage in disposing of waste water. Recently, the company reported Coast Guard approval for the process, but there is more to go with the proposal before barging can actually begin. Shareholders need to hope that the savings projected actually materialize and make the time and money spent on this proposal worth the effort, as the company has spent years on this proposal. The company does claim barging is very safe and will not pollute the waterways with the waste water transported. The company’s SWD wells are all located in Ohio and West Virginia “GreenHunter Pipeline LLC, through the construction and development of multiple pipelines, will engage in the transportation of brine, freshwater and condensate. In addition to transportation, the pipeline destination will also include a processing facility to split condensates into different quality products, typically resulting in higher value for these finished materials. The first phase of the project has begun with right-of-way negotiations underway and is scheduled to be complete and 100% operational in 2016.” This quote from the company’s website shows that the company is thinking about the future. After a certain point of development is reached in a field, the operator usually seeks to connect the wells up to pipelines for the various products and by-products as the cheapest way to transport fluids from the field to processing, and finally to the sales destination. The company is seeking to transport waste water as well as condensate and treat the condensate. This avenue usually represents the final move by most operators to save money for these byproducts and waste materials. At some point in the very distant future, the fields in the area are mature, trucking needs should be very minimal and pipelines will take care of much of the demand for this service. But that is fairly far in the future, as these fields have a long way to before they can be called mature. The CEO and Chairman of the company is Gary Evans. He has several decades of experience and is also the chairman of Magnum Hunter Resources (NYSE: MHR ). He had built a similarly named company in the past and sold it, so he has experience building companies in this industry. With his experience, the company has found a niche in which it can compete effectively. One of the largest customers of the company is Magnum Hunter Resources. So to some extent the companies are linked. With Magnum currently reporting losses, and may report losses in the future, those losses affect the ability of Magnum Hunter to grow and use the products of GreenHunter Resources. Against that, Gary Evans appears willing to invest in either company should they need more resources, and he has loaned both companies money in the past. In the current second-quarter conference phone call, he has indicated a willingness to lend this company money in the future. That vote of confidence from the CEO cannot be ignored. Plus senior management owns a majority of the stock. They can effectively run the annual meetings to their advantage and to the disadvantage of the minority shareholders. This, however, is very unlikely to happen. In the long run, the major investment by senior management of the company in the common stock of the company is a very good sign. Despite the drop in revenues , as fees decreased across the industry for this service and many other services, the company is clearly in a growth phase. There was a lot of good to report in the second quarter. Gross margins on water disposal went from 32% to 42%, and internal trucking margins roughly doubled. SG&A decreased 19% to $1.7 million. The loss from continuing operations was $2.0 million vs. $3.3 million the year before. While that is some improvement, the company needs to aim for profitability. On the balance sheet, the current ratio is a little weak at 0.8:1, but not so weak as to doom the company. The company is fairly leveraged, with long-term debt nearing twice the amount of equity. As part of the recent loan, the company must raise $2 million in equity before the end of the year. The recent loan also requires that the company not pay preferred stock dividends until certain ratios come into compliance for two quarters. Since the company is going to require a fair amount of cash to build the required pipelines and grow, the equity requirement is a drop in the bucket. Of far more consequences to the preferred shareholders is when they think the company will meet the ratios required by the loan. The company had a good history of paying the preferred dividends before this deferral. The reason for the deferral appears to be the delays in getting the new SWD wells approved to operate. Even though these wells are converted wells and, therefore, cost far less than drilling a new well for these purposes, the approval delays are very costly to the company. Therefore, the preferred shareholders will probably have to wait until the last disposal well is approved in October and operating. The loan agreement and amendment appears to specify a longer time period, but given the company’s history of paying the dividends, and the comments made on the second-quarter conference call, an investor could assume that the company will make a legitimate attempt to begin paying the dividends again later this year and catch up the arrearage. Since the preferred stock has fallen below ten dollars a share ($8.38 as of today, September 14), this makes the preferred stock a speculative investment vehicle at this time, with the potential to more than double by the end of the year plus considerable dividend payments. Although, it is justifiably tempting for the average investor to wait for the stock to stop falling before investing. Magnum Hunter Resources, one of the largest customers of the company, announced a joint venture where the partner will invest more than $400 million. This amount of activity by Magnum Hunter Resources will drive GreenHunter Resources into profitability, assuming that the trends (ratio improvements) noticed on the income statement trends underway continue and hopefully increase favorably. This also assumes that GreenHunter continues to get all of Magnum Hunters’ applicable water disposal business. So profitability for this company within a year is very possible, and even with the dilution through equity raising, this stock offers a speculative value investment play on the oil industry. It is slightly safer than the average oil and gas exploration play in that no matter who discovers the oil, this company will be disposing of the waste water in the area and hopefully processing a significant amount of condensate in the future. Disclaimer: I am not an investment advisor and this article is not meant to be a recommendation of the purchase or sale of stock. Investors are advised to review all company documents, and press releases to see if the company fits their own investment qualifications. Editor’s Note: This article covers one or more stocks trading at less than $1 per share and/or with less than a $100 million market cap. Please be aware of the risks associated with these stocks. 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.