BARRINGTON FINANCIAL ADVISORS, INC.
a Registered Investment Advisor
(Celebrating 42 years of Professional Service)
MARKET COMMENTARY
FEBRUARY 2015
King Dollar is a two-edged sword. The very strong dollar has helped to cause the dramatic fall in oil prices. Like oil, all commodities are priced in dollars, so copper, iron ore, coal, grains, etc., are all lower in price, which has given the U.S. a very low inflation rate as well as adding after-tax dollars to the consumers’ pocketbook. Engineers know for every action, there is an equal and opposite reaction. This does not always occur in financial markets but it has this time. Our strong currency is slowing our exports since other countries need to spend more of their currency to purchase our exports. This causes inflation in other countries, which is slowing their growth and lowering their consumption. Also, the fall in oil prices is causing domestic companies to dramatically lower capital spending this year resulting in announced lay offs in drilling and oil field service companies. This is problematic because the hydrocarbon industry has been the largest provider of high paying jobs over the last five years.
What was initially announced as a 2.6% GDP increase in the fourth quarter, will probably be reduced as more data on our export activity is more available. However, going forward, there are several factors which point to a continued increase in U.S. growth. Back on February 6th the U.S. Labor Department announced a stronger-than-expected increase of 257,000 jobs for January. They also increased the new hires number for December and November by 147,000 jobs. This is the largest labor increase in a three-month period since 1997. The Labor Department also stated wage gains were beginning to see higher growth. Outside of the energy business, labor hires are increasing. Retail, construction, manufacturing, and healthcare all showed an increase in hirings. The lower gasoline prices has allowed consumers to be able to increase their savings without crushing spending. They are also buying larger vehicles again. Truck and SUV sales have increased over the same periods a year ago. These vehicles are more profitable to the automobile manufacturer, which allows them to increase their profit as well as increase hiring.
As we mentioned earlier the strong dollar has contributed to the dramatic fall in the price of oil. However, slower demand from a slowing world economy along with increased production in Canada and the U.S. quickened the fall in price as surpluses rose. We believe there are several factors, which will cause prices to stabilize and start to rise sooner than many analysts are predicting. The Energy Information Agency (EIA) last week announced that gasoline consumption in January showed a dramatic increase over a year ago. The International Energy Agency (IEA) is predicting world-wide consumption to increase to around 94 mm barrels/day by the end of the year, an increase of about 1.5 mm barrels. In addition, political problems around the world are beginning to slow production. Libya has slowed exports by about 500,000 barrels/day over the last two months and the EIA announced domestic production decreased by 33,000 barrels/day last month. For these reasons we believe the price of oil has currently stabilized around the $50 per barrel price and has started to rise back up toward the $70 to $80 per barrel that we think it will reach by year end. This price increase will be aided by a somewhat weaker dollar between now and year end.
The oil price collapse has caused some investors to throw out the baby with the bath water. As a patient investor, there are bargains available in the market. As oil prices have fallen, so have Natural Gas Liquids (NGLs). Ethane had fallen to about $0.40/gallon, down from over $1.50/gallon last year. This gives the U.S. chemical industry a distinct advantage over other areas of the world that use Naphtha to derive Ethylene. One sector of the economy that benefits from lower prices is the chemical industry. Westlake Chemicals (WLK) and LyondellBasell (LYB) are still our favorites in this sector. Their plant expansions are coming on line now thru mid-2017. This added capacity will lower their cost even more and enable them to take better advantage of the abundance of domestic NGL production. We feel both of these companies are still oversold. We do not feel that the price of oil is going to remain low enough for long enough to have any sort of negative impact on their earnings so we will be adding to these positions as cash becomes available.
The mid-stream sector was hard hit as well. These companies derive most of their income from fee-based revenue through their pipelines and NGL processing. They are largely shielded from the price of the hydrocarbon. Several mid-stream companies we follow are building capacity to take advantage of the domestic expansion in production and demand in the NGL space. Our two favorite names in this space are Enterprise Products Partners (EPD) and Kinder Morgan (KMI).
With the large drop in oil prices, almost all of the E&P companies have slashed their capital expansion spending for the coming year by at least 25% to over 50%. They will not ramp back up until oil prices rise and stabilize. As the price of oil gains ground back to the mid-$60s, several producers that have very good leases will again be very profitable. We are now slowly increasing our positions in several players in this area. Names we recommend are Concho Resources Inc. (CXO), EOG Resources (EOG), and Linn Energy (LINE). For an investment in the Marcellus shale, Gastar Exploration (GST) and Range Resources (RRC) are where we are currently adding money.
We are emphasizing investments in companies with good cash flow, good cash distributions and companies that operate in areas where they have a competitive advantage due to much lower energy costs and raw material input costs. We prefer companies with price earnings ratios that are at levels that are attractive compared to the low interest rates on investment grade bonds. BSG&L and BFA are long-term investors and we believe that if you are patient, build cash and buy good companies on pull backs, your portfolio will have good growth over the long term. Author: Ben Dickey, CFP/MBA/CHFC, Chairman of the Investment Committee, BSG&L Financial Services LLC.
We welcome any concerns, or comments you may have. Please feel free to call (713) 785-7100 or email us at any time.
Have a Blessed Day,
William C. Heath, CFP®
Chairman & CEO
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