BigBull, I usually do not "plug" our own newsletter. But this month our little Lonestar Growth Investor Newsletter interviews an Oklahoma-based consultant named Richard Spears. He is very knowledgeable in energy IMO.
Our newsletter is free. Just go to our Website and sign onto our mailing list @
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We often carry energy articles. Anyway what I want folks to notice is the May 2000 Texas A&M study that suggests that natural gas production may have peaked in the U.S. (unless of course we open lands currently blocked to oil & gas exploration).
Note that natural gas usage is growing at a 4.3% clip in the U.S. annually- yet we are only increasing NG prdoction by 1% annually- hmmm.... Here's the excerpt from this month's update.
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The following is an update on: (1) how natural gas and crude oil demand are creating investment opportunities, (2) why stocks with high institutional ownership tend to be more volatile; (3) behavioral finance studies that suggest that many investors are too risk adverse; (4) LSGI investment articles published on Marketocracy.com; (5) a discussion of new Model Portfolio selections Texoil Inc. (TXLI), Quicksilver Resources (KWK), and Applied Science & Technology (ASTX); and (6) an update on existing Model Portfolio companies.
The Lone Star Growth Investor was mentioned in the September 11th issue of the Dick Davis Digest - a newsletter that has summarized "the best ideas from Wall Street" for over 19 years - and our investment columns have also been carried on Marketocracy.com.
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IS THE ENERGY SECTOR HEADED FOR BOOM TIMES?
Boosted mainly by demand from new electrical generation facilities, most natural gas wells in North America have produced "flat out" for the last two years according to Richard Spears of Tulsa's Spears & Associates.
Spears & Associates is one of the nation's oldest market research firms in the energy sector. And Spears notes that natural gas prices are setting records on the spot market, with crude oil prices nearing $30 a barrel.
* Reserves Have Not Replaced Production
Due to weak U.S. natural gas prices natural gas exploration and production activity has been depressed the last few years. Natural gas reserves that were produced have not been replaced according to Spears, and drilling activities were curtailed as companies attempted to reduce costs and preserve cash flows.
In normal times when reserves are depressed drilling activity quickly provides additional volumes that can be marketed to meet demand. Surprisingly, Spears has some concerns whether increased drilling and exploration activity can increase natural gas reserves in the onshore areas in the U.S. Due to the mature nature of the onshore areas he thinks that such activity may only reduce the ongoing decline of domestic natural gas reserves.
Spears cites a recent study by Texas A&M University (May, 2000) that indicates that natural gas production capability in the North American continent may have peaked last year. "When a well regarded petroleum engineering school publishes such a study, you tend to take notice" according to Spears.
* High Technology Sector Energy Intensive
Some analysts are surprised how energy intensive the high-technology sector is proving to be. Electricity usage from the expansion of Internet and telecommunications networks is growing at twice the rate planners were expecting just a couple of years ago. And energy consumption in Silicon Valley - the heart of the new economy - is rising three times as fast as in the rest of California.
Peter Huber and Mark Mills, co-authors of the Digital Power Report, recently noted that ''the digital economy is completely dependent on the big central power plant.'' Firms such as Sun Microsystems Inc. and Oracle Corp. use as much energy as a small steel mill.
And virtually all the incremental power demand is being fulfilled by turbines that burn natural gas - an industry trend that has been going on for 10 years now. The use of natural gas is fed by the environmental benefits of the relatively clean-burning fossil fuel, and technological innovations that provided enormous gains in generation efficiency. And numerous natural gas fueled generating plants are being planned or are under construction.
* Gas Storage At Record Low Fill Levels
Natural gas storage facilities have been of great assistance in developing distant gas markets by allowing the producer to move the gas closer to the end-use market in slow demand periods. This has reduced the maximum design capacity of the pipeline equipment needed to meet peak market demand.
But many such storage facilities are at record low fill levels for this time of year according to Spears. The American Gas Association pegs current inventories at 2.1 trillion cubic feet (tcf), down 15% from a year ago. Recently, storage tanks have been getting weekly ''injections'' of only 42 billion to 52 billion cubic feet (bcf). At that rate, stocks may inch no higher than 2.7 tcf before winter. That's below the 3.0 tcf cushion normally salted away to get through even a mild winter.
Cambridge Energy Research Associates (CERA) estimates that storage inventories in the United States crossed into record low territory as of the end of August, falling below the previous 1996 record low. CERA thinks that "more records will likely be broken in the coming months, and by widening margins" as injections into such reservoirs lag.
Volumes of gas that historically would be going to storage appears to be now going to new electrical generating facilities according to Spears. He concurs with other experts that fill rates will most likely leave storage levels below historical norms this winter.
* Energy Prices Should Remain Strong, Companies Should Be Profitable
Spears expects both crude oil and natural gas prices to remain above historical levels - and thinks that natural gas and crude oil producers may be "more profitable and have more cash flow than maybe ever, in all of history." He notes that "better run companies can throw a lot of
money to the bottom line" in this environment.
Even if this winter is unusually mild, natural-gas availability could get worse next year. The Energy Department's Energy Information Administration (EIA) estimates natural gas demand will grow 4.3% this year, while production will increase by a mere 1%. Next year demand will increase by 3.2%, and supplies will again increase by 1%.
"The last time we saw economic signals in the energy industry like we see today" was 20 years ago according to Spears - after the Arab oil boycott - and those signals pointed to a boom in the energy industry that lasted a number of years. "This is going to be one of those times that even the poorest run companies are going to be able to make a pretty good profit" in the energy sector.
* More Drilling Activity Forecast
Spears thinks that the strong prices will provide an economic incentive to many producers, and thinks we should see around 25% more drilling rigs next year - mostly looking for natural gas - even though most drillers are constrained by manpower and equipment. He expects the
current economic environment in the energy sector to last for at least several years. Our interview with Richard Spears can be replayed at:
theaudioinvestor.com
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* LSGI Model Portfolio - Quicksilver Resources (KWK) & Texoil (TXLI)
Due to the favorable longer term outlook for energy prices, we are adding the following companies to the Model Portfolio. Both are a strong buy below $10 per share.
* QUICKSILVER RESOURCES (KWK - $8.50). Quicksilver's business strategy focuses on pursuing low-cost development projects and pursuing acquisitions of high-quality, long-lived producing properties with the potential for operating cost reductions. The company manages the exposure to commodity price volatility through an aggressive hedging
program, and also pursues limited low-risk exploration drilling projects.
A small cap firm ($154 million market cap) with a price-to-book ratio of 2.0, KWK sells at a trailing price-earnings ratio of 16 and a forward price-earnings ratio of 10.4. Year over year revenues have grown 81.4%, and five analysts cover with a consensus "strong buy" rating.
Due to recent acquisitions, KWK's debt/equity ratio of 3.22 is above levels we normally feel comfortable with - but a large portion of production has been hedged to assure that the cash flow will be adequate to service this outstanding debt. Certain hedges are expiring this month on natural gas production, and such volumes should generate additional
revenues regardless of whether the gas is sold on the spot market or hedged under new contracts with higher pricing provisions.
* TEXOIL INC. (TXLI - $7.87). TXLI's strategy is to achieve profitable growth through the purchase, re-engineering and development of proven oil and gas properties, as well as with its exploration and drilling program. TXLI has been able to acquire producing fields from larger firms and has enhanced production and lowered operating costs.
A microcap firm ($52.4 million market cap) selling at a price-to-book ratio of 1.27, the company is selling at a trailing price-earnings ratio of 10.2 and a forward price-earnings ratio of 9.5. Revenue growth year over year has been an outstanding 152.0%, and the company sports a
reasonable debt/equity ratio of 0.46.
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