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10/29/24 Capitalist Times Live Chat
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AvatarRoger Conrad
1:47
Hello everyone and welcome to our October Capitalist Times live webchat.
 
As always, there is no audio. Just type in your questions and Elliott and I will get to them as soon as we can comprehensively and concisely. We will be sending you a link to the complete transcript of all the Q&A, probably tomorrow morning as these tend to go on a while.
 
We’ll start with some questions we received via email prior to the chat.
1:48
Q. In a recent alert, you wrote: “The way to understand Partners is it’s first and last a funding vehicle for its parent NextEra Energy.
I'm invested some in NEP, but I've never understood this basic point, which you make repeatedly.
 
So my question is: What is it about a yieldco that makes it advantageous for the parent company? Why isn't it just as beneficial for the parent to make new investments on its own without selling off assets to its yieldco? Yeah, it frees up capital, but are the new investments anticipated likely to pay off better than the high dividends usually associated with the yieldco? I'm baffled. I think you should publish an explanation in the monthly newsletter.—Paul N.
 
A. Hi Paul. I think that’s a good idea for a piece. Thank you. The advantages for parent companies of spinning off cash generating assets as yieldcos are basically the same as they were for big energy companies spinning out MLPs in the previous decade.
1. The assets’ value to investors was greater in an independent entity than as part of the companies. Spinning out created a sum of the parts greater than the former whole—much as MDU’s spinoff of Everus did earlier this year.
 
2. Dropping down/selling assets to yieldcos/MLPs procures immediate cash to parent companies. Parents retain effective control of the assets— both with direct interests and by controlling the yieldco/MLPs. In contrast, selling an ownership interest to a private capital firm for example means the parent now has a partner with expectations and rights—so much less control.
 
3. By dropping down/selling assets to an affiliate, the parent avoids issuing new stock, which dilutes equity and often causes stocks to sell off. They also avoid issuing new debt, and thereby weakening the credit rating.
 
The whole model working depends on the yieldco/MLP being able to access capital on economic terms. That is, raising capital at 8% average cost is not economic for a project with a 7% return on
capital—though the same project would be worth it if the cost of capital is 4%.
 
The drop down model for many MLPs failed when cost of capital rose sharply in the previous decade while midstream assets were in oversupply. NextEra Energy Partners’ ability to serve as a financing vehicle for NEE by taking drop downs was supported up until mid-2023 or so by the fact renewable energy assets are in high demand and returns are robust. That’s still the case as demonstrated by NEE’s massive order backlog growth. But much higher interest rates and a very high dividend yield have made financing problematic. And I think that’s what’s behind management’s inference that a dividend cut is coming.
 
Bottom line: The yieldco/MLP models effectiveness is cyclical—even when the assets in question are in a decided uptrend. I think NEP at its core has solid assets generating a lot of cash. But to be an effective fund raising vehicle again for NEE—which does need a lot of capital—cost of capital has to come down.
1:49
And the quickest way to do that is to cut the dividend and redirect cash flow to growth.
 
Q. Roger. As I reflect on the history dating back to my first year of NEP ownership in 2020 to now, it raises many questions about Management's grasp of the situation and their apparent disregard for their street credibility as it related to NEP. As you have written, the macro environment for power utilities is exceptionally strong, and financing needs are going higher ....so NEP cant point to market weakness as a factor in NEPs recent turmoil and performance. 
 
And when their leadership set their long term dividend growth goals back in 2020, it would have been short sighted and incompetent to think that interest rates would not be increasing in their projections give their records lows at the time. And now that rates appear to have peaked and are coming down they apparently are defaulting to massive dividend cuts which begs the question:
Why were they so careless and irresponsible to begin with and then again in their reset to 6% growth fairly recently?
Seems like the amateur hour and NEPs shareholders have been severely punished for thinking that management could contemplate the basics in their business model. Very strange for what is supposedly a sophisticated company. 
 
A. Well, it's fair to say NextEra isn't the first major energy company to have this model sour on them. In fact, I count 56 "roll-up" mergers of yieldcos/MLPs since the peak of the previous energy cycle in 2014--companies giving up on the drop down model entirely and reconsolidating the assets, usually at a lower than peak price for the MLP/yieldco.
I had thought NEP would escape that fate because of two factors: First, unlike the oil and gas infrastructure MLPs of the previous decade, NextEra has a rapidly growing market and therefore clear financing needs. That's a stark contrast from the oil and gas MLPs, since at that time pipeline infrastructure was overbuilt and commodity prices were dropping. NEE can really use a functioning NEP to shoulder some of that burden. Shell had no such need for the former Shell Midstream, for example, and rolled it up.
 
The other reason I though NEP would be an exception is simply that NextEra Energy, the parent, was extraordinarily patient in the previous decade, when the yieldco was unable to take drop downs for almost two years. Up until this week, they appeared to be taking the same approach, waiting for interest rates to decline. But I think a couple of things may have happened to convince them to act sooner. One may be that the private capital firms holding the CEPFs (convertible equity preferred funding) are
1:50
are taking a harder line on refinancing/getting paid off. Another is the market isn't rewarding a high yield, which has taken equity finance basically out of play and made stock buybacks infinitely more attractive.
 
I don't claim to have any knowledge of what they're going to wind up doing in three months--dividend cut plus stock buyback, or roll-up merger. But I do think from the standpoint of pricing in a very steep dividend cut, we're already there. And the basic core of NEP--the assets it has ownership of--is very solid, basically wind, solar and storage under 10-year plus contracts to utilities, governments and investment grade corporations. A sizeable dividend cut would give them a great deal of financial flexibility. And while in retrospect this is a stock I should have sold at the beginning of the interest rate cycle as we did others, I'm willing to take my chances now at this price and hold on.
As a post script to this answer, today’s announcement by parent NextEra Energy of a $1.5 bil equity units issue I think highlights why management would want NextEra Energy Partners as a viable funding vehicle again. Mainly, the market saw the issue as dilutive and has punished the stock today.
 
Q. Should I add to to my NextEra Energy Partners is at this point?—Jack D.
 
A. Hi Jack. My view is we just stick with what we have and see how this shakes out. There are a lot of unknowns and the stock is likely to remain volatile until there’s more clarity. Good news is we don’t have to wait long and in the meantime the dividend is very high.
 
Q. Hi Roger,
Is the NEP fall today a buy on the dip or are you ready to throw in the towel? Yield is over 16%. Thank you for the detailed update and the earnings round up. I've done very well with your service.  The only one I wish I had back was I never pulled the trigger on VST when it was in the 20's.--Don
 
A. I think the situation with NextEra Energy Partners is pretty
much the same as it's been since last autumn, when management reduced the dividend growth rate from 12-15% to 6% and the stock plunged. This is first and last a funding vehicle for its parent NextEra Energy. And as such, all decisions about NEP's future will be in the context of how effective a funding vehicle it can be. The stock market is obviously not rewarding NEP shares for the high dividend, which believe it or not remains well covered by cash flow. That's made it impossible for NEP to fund anything NEE is doing--so it makes sense they'd consider reducing the dividend to fund growth with internally generated cash flow.
 
That said, NEP is now priced to yield about 17%--so it's obviously already fully pricing in a pretty sizable dividend cut. Clearway Energy is a close peer and yields about 6%. So you could argue NEP's current price now reflects a reduction in the quarterly dividend from the current 90.5 cents to something on the order of 30-35 cents. That would indeed free up a lot of cash flow to fund
1:51
the now increased wind repowering effort, pay off the CEPFs as they mature, pay off other debt, make acquisitions as management alluded to during the earnings call or even buy back a fair chunk of stock. 
 
During the Q3 earnings call, NextEra management stated its "base case" was to keep control of NextEra Energy Partners as a funding vehicle long-term. But it's also possible NextEra will decide to roll-up NEP, as other large companies have done with their MLP and yieldco affiliates. If that happens, I would expect a takeout price in at least the mid-20s. That could be in NEE stock, which would give investors leverage to a recovery. But NEP's total market cap is barely $2 billion including what NEE already owns, so a cash offer would also be pretty easy to pull off. Remember that NEP's assets are basically ownership of facilities operated by NextEra's unregulated unit. So these are assets the company knows well.
 
Whatever the case, I would be surprised if there's any real movement in NEP shares before
1:52
parent NextEra announces the results of its strategic plan, which based on what they've said today will be when Q4 results are announced in late January. 
 
I think downside risk at this point is limited. Mainly, today's panic reaction in the market notwithstanding, NEP shares have been pricing in a substantial dividend cut for almost a year now. I think at this point, the stock is probably reflecting a bigger cut than will actually happen. And I think we could see a few points of recovery before the strategic review results are announced. But I don't see any big move up either until more is known. And admittedly, management has a bit of a credibility challenge now after changing dividend policy twice in the past year.
 
Longer-term, I think the NextEra Energy story is very much intact. I think the Q3 results and guidance fully reflect that. And so long as NEE is healthy
and growing, there's certainly potential for a big recovery in NEP. I intend to keep both in CUI portfolios.
 
Q. Do you currently have a take profits point for OKE?—Daniel F.
 
A. Hi DanieL. I think we’re already there as far as taking a partial profit. It’s a great company and will likely go higher the next few years. It’s also putting a high share price to good use funding acquisitions that will increase profitability and long term staying power. But the shares have come a long way in a hurry. And the same is true for the other C-Corp pipeline stocks, including Kinder Morgan Inc (NYSE: KMI)—which is up almost 50% year to date and is trading above our highest recommended entry point of 24.
In contrast, as we noted in this week’s Energy and Income Advisor, pipeline MLP are still quite cheap. That’s where we’d focus at this time, with Energy Transfer a particular standout along with Plains GP (NYSE: PAGP).
 
Q. Hello Roger: Should we be buying shares of SOBO? I received 200 in the spinoff. 
Can't find any advice to follow.—Bill G.
 
A.Hi Bill. I don’t really have much to add on South Bow (NYSE: SOBO) since the October 21 Alert we send to both Energy and Income Advisor and Conrad’s Utility Investor members “TC and South Bow: Stick with Both Pieces.” And I continue to advise holding the SOBO shares for the time being.
 
The key date is November 7, when the company is expected to announce earnings for Q3 as well as its first dividend. I expect the payout will be generous and increased over time at a modest pace for as long as South Bow remains independent.
1:54
Q. Hi Roger. I have a nice position in BEP and a lesser position in BEPC, but while happy, of course, with today's news of reorganization with resulting big jump in price, I'm also a little confused re exactly what is going to happen. I don't think this is like when KMP "vanished" into shares of KMI with great tax liability and from what I read, it appears there is not going be a huge impact but I'm not certain whether I need to be concerned. I would appreciate any comments and/or thoughts you might have, as always.—Chuck B.
 
A. First, this “reorganization” will have no effect on your BEP shares. Second, it doesn’t look like there will be any practical impact on your BEPC. Basically, the BEPC shares will be swapped for a new share that does meet the requirements under the new Canadian law. In fact, they will still trade NYSE under the BEPC symbol.
 
Bottom line is I don’t think there’s anything you need to do, or have to worry about. 
 
As for the jump in the share price earlier in the month, that appears
1:55
to me to have more to do with the Westinghouse announcements—a new nuclear fuel contract with the US government and a partnership with EDF in Italy. The company owns half of Westinghouse in a 50-50 partnership with Cameco. I like BEP and BEPC—both are cheap and the underlying company Brookfield is strong and growing.
 
 
 
Q. Will starlink replace and make obsolete verizon and AT&T Thanks—Judith D.
 
A. Hi Judith. I don't think so. I think Starlink is only just scratching the surface on capabilities. But end of the day, putting up satellites is extremely expensive compared to the economics of scale from converged 5G wireless (soon to be 6G) and fiber broadband networks of the Big 3 US companies, which are gobbling up market share from everyone else in the sector as they have been the last 30 years.
 
I think the biggest mistake analysts make in communications is overestimating the ability of a disruptor with great technology to become a real competitor. There's just too much money needed to build a viable network, as those who thought DISH (now EchoStar) would be a fourth national US wireless company are now finding out. I think it's more likely Starlink will become a partner of the Big 3.
 
Q. Subject: This missive is for the mailbag re: the upcoming chat. A misguided WSJ writer had a piece on "AI Sparks Talk of Power Bubb
1:56
Bubble" (10/10/24 WSJ Pg. B12). In essence, he tries to compare the Calpine/NRG overbuilding of 1998-2002 resulting in decs of bankruptcy for both to the present day situation in the power industry. He could not be more off base-the landscape has changed much in 25 years and the overbuilding he posits is simply not occurring at present.
In fact, a 20 year deal for power supply between Mister Softee and Constellation is just a prelude to more like deals and maybe a new model for securing long term power commitments from corps-Mister Softee would not do this deal unless it had major power needs upcoming. This is just one example of the writer's brain cramp. I do have one query-it seems to me there is a bit of a bifurcation developing in the power markets between the producers such as NRG, Constellation and Vistra vis-a-vis the utes in general-SO, Duke, etc--James G.
 
A. Hi James. People who have predicted more rapid growth of US electricity demand have definitely been wrong before. I was in this industry
1:57
during the late 1990s and early '00s. I do remember well what happened with Enron, Calpine etc. And I wouldn't argue that Constellation shares are pretty expensive right now, though actual earnings growth prospects are more of the slow and steady variety. But I also think the author isn't giving enough credence to the actual changes going on with real time weather adjusted demand. Companies aren't investing in some pie in the sky future but to keep up with demand growth happening now.
 
Electricity demand has been sluggish for years, as more efficient appliances have replaced older ones, heavy industry has gone to other countries and utilities have learned to be more efficient with output. But even before AI began to take off, electrification of transportation and reshoring of industry have been lifting demand.
 
As for bifurcation, that’s definitely happened, with so much money pouring into Vistra, Constellation and other companies on the wholesale side. But most of the actual investment going on is within
the regulated utility model--that's another big contrast with the 90s and 00s during which newly deregulated generation companies had the CAPEX. It also means that other utilities are likely to eventually participate in the AI rally, and in fact we’ve already seen some solid moves this year in some stocks.
 
Eventually there will be overbuilding as there is in any commodity cycle. But at this point, it looks like we're still in the middle of it. And the list of beneficiaries is likely to keep growing the next few years.
Now lets get to some live ones!
Ed
2:03
Green to G&A investing.  Could you suggest your top TSX listed picks that have high leverage/torque to any spike that may occur in oil prices and others best positioned to benefit from LNG exports to Europe & Asia.
AvatarRoger Conrad
2:03
Hi Ed. Earlier this month at the Orlando Moneyshow, I highlighted TC Energy as a top pick for betting on Canada's emergence as an LNG, LPG/NGLs and oil exporter to Asia, via newly developed infrastructure on the Pacific Coast. Its biggest asset there is the Coastal GasLink pipeline and it's in the process of linking several large facilities in development to supply. Pembina Pipeline (TSX: PPL, NYSE: PBA) also has substantial investment, a growing portion from its venture with KKR. Smaller producers in line to benefit include ARC Resources (TSX: ARX, OTC: AETUF) and Peyto Exploration and Development (TSX: PEY, OTC: PEYUF). Larger companies like Sunoco and Canadian Natural Resources are also benefitting as new pipelines move oil and gas out of Alberta. This is a good subject for a future EIA.
Jeffrey H.
2:11
Dear Folks, The market was not happy with NEM's recent quarter. How do you feel about it, and the stock's prospects near term, mid term, and long term? Many thanx
AvatarRoger Conrad
2:11
Hi Jeffrey. i've told CUI Plus/CT Income readers that I believe we'll see a $100 price for Newmont Mining in the not too distant future--and I continue to believe that as the company integrates the Newcrest assets and brings down costs. I also think the dividend will eventually be several times the current level.

It's obviously not going to be a straight line--which is why I have not raised our highest recommended entry point past 50. And ironically, I think the stock was already pricing in the good news from results (asset sales progress, lower costs, higher output) before the actual Q3 announcement. So this was not really a reaction to bad news as a buy on rumor sell on news. And I think it's a buying opportunity for anyone who's light on the stock.
Dennis H.
2:19
Roger,

NEM and NEP took big hits recently. Do you still consider them worthwhile investments long term?

Thanks
AvatarRoger Conrad
2:19
Hi Dennis. The short answer is yes. Newmont was actually trading well above my highest recommended entry point of 50 before the Q3 earnings announcement and resulting selloff--which I would view as a combination of sell on news and perhaps concerns about gold prices. But I see the drop as a buying opportunity.

As for NextEra Energy Partners, I've posted several lengthy answers to emailed questions and don't have a lot to add to that. But the short answer again is we're sticking with NEP. And I think the situation is basically the same as it's been the past year--we're still waiting to see what NextEra Energy does to make it viable funding vehicle again--or rolls it up. Either way, risk is pretty low with the stock priced to yield 19% versus 6% for close peer Clearway Energy.
Jack A
2:21
Hi Elliott:

Energy prices have been a disaster so far this year. Are you still optimistic about rising prices going forward?

Thanks
AvatarElliott Gue
2:21
Oil prices are sitting at the low end of their trading range since early 2021 and sentiment is very negative. In my view fears of a glut in 2025 are overblown as assumed production  growth rates for non-OPEC -- US and Brazil mainly -- are too high. Also, unless there's a moderate-to-severe global recession I see demand holding up. OPEC is, in my view, more likely to continue restraining production than to flood the market with oil. As for natural gas, the front-month price is depressed, but that's not an issue for the higher quality E&Ps we recommend since the futures curve is much heathier after next summer (the 12-month gas strip is around $3 and 24 months is at $3.25). I think that's why you're seeing names like EXE (formerly CHK) and EQT performing well of late despite a dip in front-month futures.
Jeffrey H.
2:25
Dear Folks, CWEN has been dropping toward your dream price. Is this due to a general fear of renewable's future under a new GOP administration? (I have read your recent comments about "all energy will be needed"). Is it a general distrust of the drop-down model (shades of NEP)? Are there company-specific reasons? Would you say that a steep drop following a GOP election victory, might be a good buying opportunity? Again, many thanks
AvatarRoger Conrad
2:25
Hi Jeffrey. I would say Clearway at the Dream Price would be a great bargain. There's another dividend increase ahead next month, with management likely to keep the growth rate at the top end of the 5-8% range. Q3 earnings are tomorrow. And there's every indication they'll affirm investment plans and 2024 guidance then.

It's certainly possible some are doubting the drop down structure of the company, though Clearway does not have the same financial complexity of NEP and its cost of capital is far lower--particularly of equity. I do think the energy sector is being affected by politics based investment strategies that are likely to end in severe regret.
Sohel
2:31
Hi Roger,
1) Do you think it’s too late to get into utilities and REITs?

2) I started building a position in AES based on the last couple of chats. I see that it started an upward move then suddenly lost all the gains. Could you please comment on AES prospects and whether you expect weakness to continue. Do you rate this as an aggressive investment and if so why?

Thanks for holding these chats.
AvatarRoger Conrad
2:31
Hi Sohel. I think the best is ahead for both sectors over the next few years--though investors need to be careful what stocks they buy and what prices they pay. It's all too easy to lose money even in a long term uptrend with a lot of room to run.

AES is the most international utility and I think the weakness in the share price is related to worries about the macro environment--including election results. That said, I expect Q3 earnings and updated guidance to be announced November 1 will be robust--basically continuing the trends we saw in Q2. And I think this stock is historically cheap at less than 8X forward earnings.
Sohel
2:43
Hi Elliott,
1) What’s your outlook for VLO in intermediate term say next 6+ months and longer term say 1-2 years. It seems to have weakened considerably.

2) What’s your outlook for impact of fed moves on longer duration preferred securities in the near term say 1-3 months?

3) What’s the relative risk reward between CVX and OXY? Which one would you prefer if any? Anticipated 2+ year holding expected.

4) What’s your outlook for money center banks in the current interest rate and economic environment? Your thoughts on WFC and C would be greatly appreciated.

Thanks for holding these chats
AvatarElliott Gue
2:43
Thanks for the questions, let me answer them in order received.
  1. Refining margins have been weak since May, mainly due to fears about demand, particularly from Asia. It appears China is making some more concerted effort to stimulate growth and I do see that putting a floor under margins eventually. India oil (and energy demand) still hot and I think too often overlooked as a longer-term driver. VLO is the highest quality US independent refiner. Given weak VLO momentum, I think the stock could trade sideways near term  (there's some technical support at $120). I do believe refining margins are near the lower edge of their likely range and I think VLO is worth $200+ in a mid-cycle margin type environment.
  2. Well, longer duration, fixed-rate preferreds would be more negatively exposed to rising interest rates. However, I recently wrote a piece over on my Smart Bonds Substack (https://smartbonds.substack.com/) regarding this issue. In a soft landing environment like the late 1990s where the Fed cuts a few times
AvatarElliott Gue
2:43
and then holds rates steady, preferreds are among the best-performing groups in the Smart Bonds coverage universe (basically that's preferred, credit and bond ETFs). From the end of 1994 through the end of 1999 preferred stocks overall generated gains of 10.5% annualized. So, I think overall preferred stocks have far less exposure to rates than fixed income investments. To give you an idea, in Smart Bonds I recommend two preferred ETFs and Treasury yields are sharply higher in October. Yet, one of the preferred ETFs I recommend is down less than 1% this month while the other is up about 0.3%. To put that into context, the popular iShares 20+ Year Treasury ETF, which I do NOT recommend is down 6% this month. Preferreds are one of my top recommendations in SB at the current time.
3) CVX is generally a lower risk name than OXY. I like both names but I’d expect OXY to outperform in an environment of rising energy (particularly oil) prices while CVX will probably outperform if oil remains weak or just trades sideways.
4) Financials are one of my favorite areas right now. Up until recently, I’ve preferred other groups rather than the large banks. For example, in Creating Wealth, I’ve been recommending Blackstone (BX) for the past few months and that stock, an alternative asset manager, has done well. We also have an insurance company in the portfolio. However, the  banks have reported strong Q3 earnings in recent weeks and I’m actually eyeing some of those names as possible future recommendations. Strength in the banks has been pretty broad-based including names like WFC, C and JPM as well as many of the regional banks.
Ed D.
2:45
I took a look at your REIT post on Substack. Need more info on how REIT’s work. Are they taxed as Limited Partnerships or as dividends? Are all distributions usually taxed or are parts return of capital? Is there an additional benefit of these being 199A dividends that get the additional 20% income deduction. What % of portfolio do you recommend be REITS? What type of return expectation of recommended REITS vs Utility or Energy & Income investments?

Thanks
AvatarRoger Conrad
2:45
Hi Ed. Thanks for your questions. REIT dividends do typically have a tax advantaged return of capital portion. But you will receive a 1099 at tax time, not a K-1.

The way to understand REITs is they're a form of corporate structure, not really a specific industry like traditional apartments, office space, malls etc. So you could literally construct a portfolio of diverse businesses with REITs alone that would include everything from energy to technology and farmland.

I think your expectation buying a dividend stock should always be that the sum of the yield plus the growth rate is 10% or greater. if you buy high enough quality at a low enough price to do that, you should earn double digit returns over time. As for the macro, I think it's bullish for utilities, REITs and energy the next few years.
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