Energy in general is a hotly debated and controversial topic. But when it comes to natural gas, it can become extreme, especially if you mix in liquefied natural gas – or in short: LNG. For long, I have been sitting on the sidelines regarding this market. But I feel now is the time to not only write a Weekly, but also a research report for my members about it – as a hedge from a European perspective. As a bonus, I estimate a 10% dividend yield to be announced next week from my latest pick.
Summary and key takeaways from today’s Weekly
– As if commodities and energy resources weren’t volatile enough for some, nat gas is anything but boring.
– I came to the conclusion that it makes sense now to think about a gas hedge again from a European perspective.
– There is one obvious pick that my members will receive my next research report about next Saturday.
The reason why natural gas is so controversial is that it is sitting between two chairs.
These are the three positions that every respective representative claims to be right upon: On one side, you have extremists who’d like to turn off all valves and pipelines immediately, hoping for sunshine and wind throughout the whole year, including night time. On the other extreme, you have those who want to keep nat gas as a source for reliable energy as it is cheap (when not going through the roof) and abundant anyhow.
At least in some lucky places.
And then, in between, there are those who want to phase it out slowly, though see it as a transitional or even complimentary form of reliable energy, or in other words, the better alternative compared to oil and especially thermal coal. At least, where the use case allows for it.
I do not want to dive into what’s right and even not what I personally prefer.
My job is to as objectively as possible (100% is not possible) sniff out the most likely trends and to translate it into interesting and promising stock ideas.
Like with copper (see my older article here), I have been rather skeptical about nat gas, unlike met coal and oil, where I have published several research reports, being pretty bullish on both. All of the active cases are up between 27–40% since their publication dates. Under certain circumstances (production costs, reserves, growth potential, geography), I continue to be bullish for these sectors.
Somehow it didn’t feel to be the right time and gas prices were also higher than today.
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But what became clear to me, is that unlike with oil, you have to look area by area when analyzing nat gas. You also need to think more around the corner and see other interdependencies. While Brent oil can be viewed as the quasi world-oil price and WTI as the North American one with both only slightly differing by a few dollars, the situation is completely different with nat gas.
Not only is there a gigantic price difference between the American Henry Hub and Europe’s TFF. The gas market is way more volatile as well as more prone to geopolitical interference and pushing around of the involved chess figures.
All those pieces are not hot news that came to the surface overnight. Everyone most likely knows how the landscape changed over the last two years.
But now, the European gas price has come down rather too much – not from a consumer’s perspective – but looking at the big picture. In order to prepare for potential sudden accidents and spikes, I am writing my next research report about a strategic European energy company that is clearly a hedge, should something go wrong or not as planned.
In today’s Weekly, I’ll give you all the necessary background information.
Even if not, then there’s an estimated 10% dividend yield to be collected. The valuation is way too low currently and the downside should be limited – exactly what I am looking for. As a bonus, the company has net cash on its balance sheet and management intends to turn that at least into a neutral position – to the benefit of shareholders.
My report will be sent to all members next Saturday, 03 February 2024.
The average total return of my best stock ideas is +14.6%, beating the S&P500 and the iShares MSCI World ETF.
as per 31 January 2024 market close – since August 2022
Natural gas as a political tool
Everyone being at least a bit interested in history knows that energy matters have always been politicized. Not only have sanctions been put in place, but also entire wars fought for energy and the control of it. I am even not just referring to the events of the last two years.
Anyway, it is clear that this is directly influencing energy prices and especially nat gas.
I had a look at different sources and also opinions regarding the investment case of nat gas. In America the pitch is that there’s an abundance of it so that it has to be exported (at a premium) to Europe and Asia where demand is big. At the same time, both regions heavily rely on those imports, as they with a few exceptions do not have own reserves and production capacities to meet that demand.
At first glance, this makes perfectly sense. Last year, the US has even become the biggest exporter of liquefied natural gas (LNG), overtaking Australia and Qatar:
As more LNG export terminals are being constructed or at least in the permitting process, the thesis is clear: more exports for more dollars compared to the domestic market and as a bonus a closing of the gap between US nat gas and the European counterpart.
Especially Goehring and Rozencwajg, have been advocates of this thesis and pointing in this direction. I enjoy reading their quarterly reports, as they’re very insightful and recommend them to anyone interested in resources.
But I have a problem with this thesis.
I am not fully convinced because first of all I believe – like G&R – that oil production in the US should peak soon. It does not matter whether in a few months or two years. But overall, this is the main reason besides others why I have no active idea for my members featuring a US oil or gas producer (anymore).
Hand in hand with this expected peak, shale fields become more gaseous over time, i.e. the share of gas being extracted rises – this is something G&R have described in their work. This could be a hint for more supply coming.
And today as of writing this weekly on Tuesday 30 January 2024, Doomberg, another recommended and thought-provoking newsletter, wrote an interesting peace about lobbying for lower gas prices in the US – yes, lower, not higher. You can find it here (the free part is enough).
I think we can ignore the weather driven news of one time warmer, the other colder winters or summers. This is a given and cannot be influenced, even though it affects gas prices.
So all in all, I do not see this “great opportunity” in American nat gas.
It has been said to be a no-brainer for many quarters already. The risk reward simply does not fit for me. I need limited downside and huge upside. Not only that, but there must a catalyst to ignite the fire on the horizon and: if it doesn’t happen or come, I do not want to have the time running against me because lots of debt is maturing.
Even though it seems that there’s a limited downside and a huge upside, because US nat gas would need to go up by a factor of around 4.4x to match its European counterpart (30 EUR in Europe vs. 2.15 USD and times the conversion factor of 3.4 and currency, see here for conversion), there’s a better alternative.
You don’t need to be everywhere, only where your conviction is the highest.
And this is the European gas market.
Australia is closer to Asia, Qatar sits somewhere in the middle and the USA has its export terminals mainly on the Atlantic side.
Now, some pictures, first the current and planed US export terminals for LNG.
source: Energy.gov (see here)
Without question, the overwhelming majority points towards Europe and its heavily import-reliant economies. And this is the area I am focussing on, namely Europe as its energy policies and infrastructure have undergone a dramatic shift.
The next slides show the development and the balances of power of LNG imports from the perspective of Europe / the EU as a whole.
Overall, more LNG is being important and especially the US have been a beneficiary.
The dependence on US imports has clearly grown in the last years. For my thesis, it is no further relevant which specific countries are the recipients.
But when you see headlines like the following, you’ll instantly know where my desire for a gas hedge comes from.
Even though it is said that there are certain emergency agreements in the case of a shortfall of supply in Europe to re-allow exports – this is a dangerous gamble.
And you see also again why I don’t like the US nat gas setup. One could say, one announcement and the story is over. In this case, what could have been planned to be exported (lowering domestic supply) instantly puts pressure on the domestic price.
It is also debatable why this gas export ban on pending approvals suddenly came at the end of last week. But if you noticed, most terminals are in Texas. Why Texas? Well, besides its location and connection to the Atlantic Ocean, it has the Permian Basin, the Barnett, Haynesville and the Eagle Ford shale plays (see here). And don’t forget refining and pipelines (see here).
Texas is the US’ largest nat gas exporter and the equivalent of the world’s third largest.
And it is Texas that is suffering from illegal border crossings. It is Republican-led and just recently stood up against federal orders. Is this a payback? We don’t know for sure, especially from Europe, but there’s a bitter taste to it. You can see here on Twitter / X a discussion.
At least, I don’t want to be dependent on political ideologies, whichever the reason for the ban was.
On the other side of the pond, you will see European governments paying every price to secure supply, like it was the case during 2022.
It can and will likely happen again, if the need arises, pushing up prices higher.
I am even surprised that these news haven’t kicked the price of European TFF gas already higher.
Below, you can see that it is currently on a level where it was pre-disruptions, respectively, including that LNG is more expensive anyhow, this is by no means a too high price historically. I cannot imagine under the current circumstances to see way lower gas prices in Europe.
By the way, here’s a quote from the last G&R quarterly commentary:
Driven by supply and demand trends, North American natural gas is about to enter a structural deficit for the first time in 20 years. If we are right, we would not be surprised if President Biden issued an executive order limiting exports to lower the natural gas price. If exports were limited, it would have a knock-on effect on Europe, which has come to rely on safe, secure US LNG to offset lost Russian volumes.G&R Q3 2023 commentary (see here)
Are we there? I don’t know.
But it shows that Europe seems to be the loser in any case. So why not at least look for a hedge that’s currently not expensive? While G&R certainly haven’t thought about what’s happened last week with their quote, the fact is, Europa is being pushed around due to its dependency.
Besides the US situation, you likely have seen that Qatar is the second most important supplier of LNG to Europe, delivering 15% of total LNG.
And guess what, their route through the Strait of Hormuz where 20% of the world’s oil supply passes through (I don’t know the figure for LNG, but it won’t be peanuts), is located in a dangerous hot spot. Any escalation and energy prices jump.
Good news in a set of worrisome developments: For my thesis, it does not have to come this way and I sincerely hope that it does not come. But, let’s be realistic.
As the likelihood of dramatically falling TFF gas prices goes towards zero under such circumstances and the current price not being a historical over-exaggeration either (adjusted for the new supply environment), this is a good time to think about a hedge, should things turn really sour.
That’s why I set everything in motion to get my latest report done.
The featured European company is a play on oil and gas. It benefits from both, but higher gas prices give the extra-kick. Even if nothing happens, I am expecting the company to announce next week a new shareholder return program with a dividend yield of around 10%. Either, it will be higher or buybacks will complement the payout.
Management said during the last conference call that they have too much net cash on the balance sheet and intend to lower it towards a neutral position. This gives extra fire-power for great shareholder returns for the next two to three years.
As if commodities and energy resources weren’t volatile enough for some, nat gas is anything but boring.
I came to the conclusion that it makes sense now to think about a gas hedge again from a European perspective.
There is one obvious pick that my members will receive my next research report about next Saturday.
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