The Best Way to Invest in the Natural Gas Revolution
Andrés is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
The natural gas boom is one of the most important trends affecting the economy and different industries over the next years, so positioning your portfolio in order to benefit from such a revolutionary shift in the US energy matrix is certainly a smart idea. The good news is that there are many possibilities to invest in the natural gas revolution, but investors still need to do their homework in search for the best alternatives.
On Supply and Demand
Producers like Chesapeake (NYSE: CHK), may be the first option that comes to mind when thinking about benefitting from booming nat gas production, and this bet may work out pretty well in the long term. But investors beware, producers in general and Chesapeake in particular will need to face some serious challenges in the middle term.
With production booming and gas prices falling from a cliff, profitability has been a problem for Chesapeake and its peers lately. Over the long term, prices should remain high enough to encourage production, so the situation should become more balanced over time. Still, the future level of profitability in the industry is quite uncertain at this stage.
When it comes to company specific issues, Chesapeake has had its fair share of problems: the company expanded too aggressively over the last years, and it has a bad reputation in terms to capital allocation efficiency and management stewardship towards shareholders. On the other hand, there have been some encouraging signs lately, it`s polemic CEO Aubrey McClendon is stepping down, and the company is embarked in a restructuring of its business to increase financial strength and recover profitability.
Chesapeake owns major land acreage in many of the most valuable resource areas in the U.S., and this puts the company in a privileged position to benefit from the nat gas boom. The company has been focusing more on joint ventures as a low cost strategy to increase production, which sounds like a smart idea considering industry conditions. If commodity prices help, and if the company is serious enough in its turnaround efforts, the stock could have a lot of upside potential. But at this stage Chesapeake is quite a risky investment.
A Solid Pipeline
One thing looks quite clear, gas is replacing dirtier and more expensive sources of fuel like coal at a rapid peace, and this increases demand for transportation, storage and all kind of related services. Pipelines can be a smart way to bet on natural gas while at the same time capturing some very attractive divided yields.
Enterprise Products Partners (NYSE: EPD) transports and processes natural gas, natural gas liquids, crude oil, refined products and petrochemicals. It has a unique and integrated asset base across the midstream value chain: Enterprise gathers natural gas from wellheads from the Rockies to the offshore Gulf of Mexico, it operates gas processing plants, transports both natural gas and NGLs, provides storage and fractionation for NGLs, and markets natural gas and NGLs to the petrochemical industry.
The company is in the process of developing a new 270-mile pipeline header system that will deliver ethane to petrochemical plants in the Gulf Coast region, and it's in a privileged position to benefit from increasing demand for natural gas liquids over the next years. Being a natural monopoly, competition is not a big problem and, in addition to all this, investors in this master limited partnership are getting a 4.4% dividend yield.
Companies like Westport Innovations (NASDAQ: WPRT) and Clean Energy Fuels (NASDAQ: CLNE) have many things in common, to begin with: both companies are betting on LNG as a cheaper and more efficient fuel for vehicles, and they are also small companies with massive upside potential if things turn out as expected for them.
Westport is in the business of building engine conversion technologies, and it has partnerships with giants like Caterpillar and Cummins, which shows that big industry players have a clear interest in LNG a as a fuel. Westport has been increasing sales rapidly over the last years, and gross margins are on the rise too. The problem is that R&D expenses keep the company unprofitable at the bottom line.
On a standalone basis, however, some joint ventures like the one with Cummins or another one with Chinese company Weichai are already delivering profits, so overall profitability at the company level may not be too far away. Needless to say, this could provide a great catalyst for the stock.
Clean Energy Fuels, on the other hand, will most likely remain unprofitable for a long time, since the company is heavily investing to build America's Natural Gas Highway: a network of LNG truck fueling stations on Interstate Highways and in major metropolitan areas.
This requires tons of capital, but it also provides the company with a very unique asset base which could be of enormous value in a natural future in which many vehicles are fueled by natural gas.
Westport intends to provide the technologies for the engines, and Clean Energy is building the fueling stations, so both companies are mutually dependent on each other. Perhaps for this reason, they recently launched a joint marketing program
The companies will bundle the Westport LNG Tank System - or the new Cummins Westport ISX12 G engines - and a long-term fuel contract with Clean Energy into a package for qualified customers. It´s nice to see that Westport and Clean Energy are joining forces to foster the transition towards LNG, and investors in both companies have a lot to gain if their succeed in their efforts.
The natural gas revolution is barely in its first stages, and it will provide many opportunities for investors over the next years. Although producers like Chesapeake are facing big uncertainties regarding prices and profitability, pipelines like Enterprise seem much more solid and reward investors with an attractive dividend yield.
If you have the stomach to withstand the volatility, and a long enough investment horizon, disruptive plays like Westport or Clean Energy could deliver amazing returns if LNG continues gaining traction as the fuel of the future.
Andrés Cardenal owns shares of Westport Innovations. The Motley Fool recommends Clean Energy Fuels, Enterprise Products Partners L.P., and Westport Innovations. The Motley Fool owns shares of Westport Innovations and has the following options: Long Jan 2014 $20 Calls on Chesapeake Energy, Long Jan 2014 $30 Calls on Chesapeake Energy, and Short Jan 2014 $15 Puts on Chesapeake Energy. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!