Billions of dollars are flowing into midstream infrastructure—by producers, pipeline operators and storage companies. Is new capacity being overbuilt? Will some existing capacity become obsolete?
“There are some companies out there that are professing they may never drill another vertical well again,” says John Olson, managing partner of energy hedge fund Houston Energy Partners and the analyst who first called Enron Corp. on its business model and profitability, in the webinar The Energy-Industry Economy Today, and Where the Smart Money’s Going.
“If you look at the rig count in the Gulf of Mexico,” he says, “it is a fraction of what it used to be and some of the supporting gathering lines have already run out of steam here, or will sooner or later. It has happened offshore Texas, for instance.”
The traditionally predictable midstream space is surprising lately, and investors are courting her like a girlfriend these days, instead of like a wife. “A substantial overflow of private-equity money is now out there looking for gathering deals,” he adds. “This comes atop of all the normal MLP (master limited partnership) spending there, and could make this arena more crowded and more expensive.”
So, there is a definite risk, “depending on where you are in the country,” Olson says. “The shale is clearly going to become a very important contributor to the marketplace. The problem is somewhat aggravated by virtue of the new pipelines that have come into being in the past year, such as the Rockies Express (Rex), which has changed the basis differential from the Rockies rather substantially and also changed the basis once you get to Appalachian markets and the storage in Pennsylvania, New York state and Ohio.
“I can’t give you a final answer but the situation is somewhat still in flux and may create disincentives to drill a deep gas well in the Gulf of Mexico or some other place.”
Olson lists energy-sector investment strategies for value investors:
-- Dollar/crude arbitrage. Crude oil has become a proxy for U.S. dollars, with oil prices fluctuating this year largely in step with the value of the dollar. “For value investors like me, we’re still playing very strongly this dollar/crude arbitrage.” E&P stocks that fit well with that strategy include Apache Corp., Occidental Petroleum Corp. and Petrobras. “(These) look like very strong candidates as long as this dollar/crude play continues and all of these companies have attractive exploration and exploitation agendas.”
-- NGL relative attractions. The natural gas liquids space is a niche play currently. “A year ago at this time, the frac spreads on NGLs on the Gulf Coast were running a negative, unbelievably. Usually, long term, it’s about $6 a barrel. Today, those NGL frac spreads, or gross margins, are $30 a barrel. So there are companies that are able to exploit that very nicely.” These include Spectra Energy Corp., which owns 50% of DCP Midstream Partners with ConocoPhillips and is the largest NGL producer in the U.S. “Those margins are going to come back rather nicely and you’ll get yourself more than a 5% yield on that.” Another major NGL player he cites is Oneok Partners LP that has done well in the past.
-- Niche oil-service sectors. Subsea completions is notable among subsectors of oilfield services that are going to be attractive. High-end companies in this space include Cameron International Corp., Dril-Quip Inc., FMC Technologies Inc. and Oceaneering International Inc.
-- Well-hedged producers and integrated gas companies. “It is a rare company I’ll go even close to that doesn’t have good hedges on,” he says. Both well-hedged and integrated in gas are EQT Corp. and Energen Corp., and each has a track record of low acquisition costs and low all-in costs.
Among speculators, Olson says, popular strategies include the traditional ideas—take-over stories, discovery plays and momentum ideas. There will be a growing number of take-over stories in the market, he forecasts. As for bets on discoveries, some have not worked out , such as the pervasiveness of the Utah Hingeline play or the potential of the Columbia River Basin play, in which investors in Delta Petroleum Corp. had great hopes for both.
And, there will continue to be momentum ideas “run by your prop shops that are not your friends. They are going to continue to trade stocks, options…and all of the above.”
For all of Olson’s remarks, see the webinar The Energy-Industry Economy Today, and Where the Smart Money’s Going, including remarks and a presentation by Stephens Inc. managing director, energy investment banking, Keith Behrens.
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