JotCast | 3/28/23 Capitalist Times Live Chat

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3/28/23 Capitalist Times Live Chat

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Roger Conrad

1:48

Welcome one and all to this month's Capitalist Times live webchat. The markets are certainly lively and we're looking forward to your comments and questions today.

1:49

As always, there is no audio. Just type in your questions and Elliott and I will get to them as soon as we can in a concise and comprehensive way. We will be emailing you a complete transcript of all the Q&A--probably tomorrow morning as we'll be open until there are no more questions left in the queue or from emails we received prior to the chat.

1:51

Starting with one we received prior to the chat: Roger--I was pleased that you recommend BHP and Merck as I have owned both for decades. In the last year, Merck spun off Organon (OGN) and BHP did the same with Woodside Petroleum. Do you feel that I should hold on to both Organon and Woodside?

Many thanks to you and Elliott for your wonderful services. I believe that I started with you approximately 30 years ago at Utility Forecaster.

Sincerely,

Don C.

2:01

A. Hi Don. We continue to track Woodside in Energy and Income Advisor, it now trades NYSE under the symbol WDS. The company is a major player in LNG production and marketing in Asia, and strong demand and pricing contributed to its being able to pay a semi-annual dividend of $1.42 per share April 5 to shareholders of record March 9. I did recommend in CUI Plus that investors sell the rump position in this stock we received with the BHP spinoff. But since then, the price has come back a bit and I think it's worthwhile for anyone who didn't sell to keep holding--as the dividend and share price should move quite a bit higher this energy cycle. I also sold the rump position we had in Organon (NYSE: OGN) from the Merck (NYSE: MRK) spinoff. It too has slipped back. Insider buying is a bullish sign and I think the dividend is secure. But floating rate debt has hurt earnings and prospects for treatments like the biosimilar to Humira are lackluster. I think we're better off selling and investing in MRK on a dip

2:08

Can you recommend any of the big banks? Are there any to avoid? Thanks

Elliott Gue

2:08

At this time, I'm not recommending any of the big banks. There seems to be a view out there that the big banks will actually benefit from the regional bank crisis and, certainly, names like JPM will pick up deposits as a result of this. However, it's important to remember that the big banks don't actually want more deposits. Deposits are liabilities on a banks balance sheet and a jump in deposits will reduce a big bank's supplementary capital ratio; long and short of it, if that ratio drops below 5% that would mean the bank would face serious regulatory issues such as not being allowed to raise their dividends. On top of that, banks are cyclical and I believe we're facing an imminent recession. I do think that financials in general will outperform the broader market over the next 5 to 10 years and I do think there will be regional banks that thrive eventually. However, I still think there's more reckoning ahead for most of the big banks before we get a buying opportunity.

Guest

2:09

Hi Roger and Elliot: Thank you again for your ongoing sage advice over the years. NEP has recently dropped below your Dream Price of 60 and last week hit as low as $57.50. Is there a problem with the company or is this a reflection of the renewable sector? Same question with BEP except it has been trading far below your Dream Price of $35 for many months now unlike NEP.

Roger Conrad

2:09

Brookfield Renewable (NYSE: BEP) is actually up nearly 20% year to date. But after a 5.5% dividend boost last month, I think shares still represent strong value--and investors seem to be warming up to parent Brookfield Asset Management's push into Australia with the Origin Energy acquisition. The story here has been very steady results at the company but the stock being caught up in deflation of the renewable energy stock bubble--which really began in mid-2021 with both BEP and NextEra Energy Partners (NYSE: NEP) in profit taking territory. For NEP's part, it's also fresh off another dividend increase and still on track for annual boosts of 12-15% a year off a dividend that's now 5% plus. I consider that a pretty compelling value proposition. Q1 earnings are due around April 21. But the most recent business news--Fitch affirming ratings--is still bullish. NEP is still a buy like BEP.

Elliott Gue

2:13

Keep in mind that most of the money leaving the regional banks (fleeing depositors) is likely to end up in high-yield money market funds. Money market funds are the most important users of the Fed's reverse repo (RRP) facility. This is what we call "low velocity" money supply, which essentially means that it has little impact on economic conditions. In contrast, money that flows into bank deposits is usually used to support credit/lending activity. So, what we're seeing right now is money being pulled from a part of the banking system where it's used to back up significant lending activity (regional banks) and being put into what amounts to a "virtual mattress" in the form of RRP.

Roger Conrad

2:18

Q. I hear rumblings of scandal at Southern Company. These allegations are so specific that it is hard to accept they are just made up as the site. It would be shut down after Southern Company filed suit for slander. Are you aware of these charges/events?—James C.

A. Hi James. I think you should view these charges regarding a former Southern executive within the context of the company’s attempt to start up two new nuclear reactors at the Vogtle site in Georgia. The project remains highly controversial and earlier this year there was yet another costly delay, caused by vibration in pipes. But Unit 3 reached “initial criticality” earlier this month and Unit 4 about a week ago started hot functional testing—so the utility is nearing the finish line. And unlike with the first two Vogtle units in the 1980s, it’s been recovering investment along the way—so no make or break final rate case. Once the units are running, Southern’s fuel costs will drop as nuclear replaces fossil fuels and it will be able to slash

2:19

leverage and accelerate dividend growth. Bottom line: This is the story for Southern to focus on.

Jack A.

2:23

I'm trying to better understand the tremendous fall in natural gas prices. To what degree is this speculation, vs. a decrease in usage; and what can we expect going forward?

Thanks

Elliott Gue

2:23

It's entirely a function of short-term supply and demand conditions. We had a warm winter in the US relative to the 10-year average and so did Europe, which reduces heating demand (still the most important source of gas demand). Also, the fire at Freepont LNG "cost" the US about 400 billion cubic feet of gas demand as it was offline from mid-June up through early March. Indeed, as of last week, US gas storage is 342 bcf above the 5-year seasonal average, which means that Freeport alone accounts for basically all of the oversupply. Probability suggests that we'll have a warmer-than-average summer or colder-than-average winter at some point over the next year or two and that's why longer-dated futures prices are so much higher than the current quote -- i.e. the average price of gas over the next year is about $3/MMBtu and for delivery in January 2024 is $3.86 compared to front month at $2.

Elliott Gue

2:23

The financial media focuses on front-month gas, but that number is largely irrelevant. After all, the current front month is April 2023 which will stop trading tomorrow. All that matters to April prices is what happens today and tomorrow. What matters to producers like CHK is average gas prices over the next 12 and 24 months, which are much higher than the current quote. My view remains that you'll see swings to both sides due to short-term weather conditions but, over the next 5 years, you're likely to see gas average upwards of $4/.MMBtu.

Eric D.

2:29

what is the difference between owning lng and cqp. Given that cqp has a 6.76% tax def dividend ,everything else being equal ,wouldn’t it be prudent to own cqp in a taxable account.These chats are great! Thanx

Roger Conrad

2:29

Hi Eric. Cheniere Energy (NYSE: LNG) is the general partner and owns 49.56% of Cheniere Energy Partners (NYSE: CQP). CQP is essentially LNG's entire business, so they're really just two different ways to hold the same assets, which are liquefied natural gas terminals. Personally, CQP is a far more attractive way to hold these assets than LNG, since its current yield is 9 times higher. But the answer to your question of whether to own MLPs in an IRA or taxable account I think really depends on the investor. The rule is, if UBTI (unrelated business taxable income) is less than $1,000 across your IRA, there are no tax consequence. Investors who own many MLPs for this reason may want to own some in a taxable account. But the advantage of holding CQP, EPD or other MLPs in an IRA is capital gains are shielded--and as we believe we're early innings in a long-term energy rally, protecting future gains from taxes is worth considering.

Mike C.

2:32

Good morning, folks –

A couple of questions for today. First, I’m intrigued with the buy order on GLD at just below all time highs. This suggests that you expect a breakout…curious about your current thoughts regarding timing and catalysts.

Elliott’s “Oil Bears Everywhere” anticipates the direction of the other question. Do you see the Chinese-brokered Iran/Saudi peace process as having a material impact on oil prices? And on the other side of the bull/bear discussion, what do you think of reports that various reporting suggesting Hubbert-Peak like declines in several key US shale fields?

Thanks to all of you (including Sherry!) for the great work! The guidance and insights into this odd market we’re in are very much appreciated –

Best

Elliott Gue

2:32

Thanks for the kind words about our work. I am working on a piece that I'll probably send out later this week on gold. Simply put, two key variables for determining gold prices are 1. Real Interest Rates and 2. The US Dollar. Simply out, gold is negatively correlated to both of these variables -- falling real rates or a weakening dollar are bullish for gold. My view is that, generally, inflation is going to remain stubbornly high over the next several years. Yes, a recession will bring about a cyclical decline in inflation, but the Fed is likely to panic sooner or later as the economy weakens; once the economy eventually recovers underlying inflation will remain elevated. Essentially, what this means is that real rates are going to remain low (too low relative to economic conditions) for years to come, which supports gold prices. This scenario is basically the 1970s all over again. At the same time, the dollar has been pretty strong of late with the US dollar index reaching the highest level in more than 20

Elliott Gue

2:32

years in September of last year. That was due, in large part, to the view that the Fed was being tougher on inflation and boosting rates faster than other major central banks like the ECB (and, of course, the Bank of Japan). Now that the Fed has adopted a more dovish rhetoric, that support for the dollar is beginning to crumble; under a new head and facing galloping wage inflation, the Bank of Japan is also likely to end yield curve control at some point soon. SO, I do expect gold prices to rally generally. Last time gold broke meaningful higher from a base was 2019 and it shot up 50% in just over a year. I wouldn't be shocked to see a repeat of that in the next 12 to 24 months.

2:40

As for oil, in my view the Saudi/Iran peace process reflects the Saudi view that the world needs more oil supply over the next 3 to 5 years. They want to control as much of that supply as possible via OPEC. As we've been saying for some time now, the western oil companies have totally failed this cycle on the whole -- they've cut CAPEX so much, that it will be tough for production to rise sustainably for the next few years outside OPEC. This sets up a 70's like scenario for oil. Prices will come down once investment ramps and supply increases ex-OPEC, but that's likelky a 5 to 10 year story, not an issue for the next 1 to 3 years. The underlying rationale for Hubbert's peak really has to do with the nature of primary production from a conventional oilfield, that's driven by oilfield geologic pressures. So, in the strictest sense, that's not applicable to shale fields. However, I do think you could see a somewhat analogous scenario in that as producers tap their best drilling locations, they'll need to shift..

Robert N.

2:41

Hello Roger, in your interview with Chuck Jaffe you mentioned that you expected a market event this year similar to last year. Could you clarify if that means a new market bottom and if we should be adding dry powder to prepare? Thank you for your expertise to help us navigate this unique market condition.

Regards

Roger Conrad

2:41

Hi Robert. Our view, really since last summer, has been that the US economy was headed for recession--and historically, whenever that's been the case, the market has headed lower. The Federal Reserve's squeezing to bring down inflation has already caused big cracks to appear in the banking sector and now commercial real estate. At this point, we've already raised quite a bit of cash in our model portfolios--the income-focused CUI Plus/CT Income, for example is now over 28%. That's a healthy amount to take advantage of good prices when the market does eventually bottom. As for what we own, our stocks' underlying businesses have strong balance sheets and a history of resisting recessions, which should limit downside as well as ensure they're among the first to fully recover.

Elliott Gue

2:41

...to tier II acreage. This will ahve the impact of boosting production costs and making US shale production growth more difficult and expensive.

Lee

2:48

Using the baseball metaphor, what inning do you believe us to be in of the commodity cycle…..specifically energy.

Elliott Gue

2:48

Thankfully, Roger had outstanding season tickets to the Nationals when I still lived in the DC area, so I actually know enough about baseball to answer this. I'd say we're stuck in the 3rd inning or so. The reason is that in a normal cycle, when oil prices rise off their lows, you'll see an uptick in capital spending aimed at boosting supply -- the resulting rise in supply eventually caps rallies in oil. We haven't seen much of an increse at all in CAPEX, so we're not even getting to mid-cycle characteristics yet in my view. I'd posit that maybe this is going to be a game with extra innings much like the cycle from the late 90's through 2014 or back in the 70s. this happens when the commodity market's supply response has been dented. In my view, there are a number of factors denting the supply response including poor/naive government policy and "malinvestment" caused by years of ultra-low rates.

David O

2:52

Gentlemen,

I’m financial education challenged. This I do know… indebtedness for our companies can be a big problem. Suspect it will be ever more in the future.

Might you impart to me one or two metrics that best give a snapshot of the debt status of a company. Debt / EBITDA? ( I think I get that one) What number raises flags? Debt / equity? What is equity…total assets-liabilities? What number raises flags? Debt/capital? What the heck is capital in cowboy English.

Thanks

Roger Conrad

2:52

HI David. I actually wrote a pretty lengthy Substack.com article on debt metrics that all CT members are, of course, welcome to check out. it's currently a free subscription and the name of my column is "Dividends with Roger Conrad." The article actually came from my answer to a reader's question similar to yours.

The most important point is there is no one metric that sizes up all companies. A company with exceptionally reliable revenue like a regulated utility, for example, can afford to carry a much higher debt/assets or debt/EBITDA ratio than a technology company with product cycles of less than a year. On the other hand, carrying heavy variable rate debt as well as a high level of debt maturing in 18-24 months relative to company size does raise a red flag for me now--as it means higher interest expense undermining earnings and balance sheets. And this is what we're focusing on for all companies we recommend now.

Guest

2:58

Hi guys. I know you prefer Chk & Bkr as natural gas plays but would also like your assessment of Eqt. Thanks Dudley

Elliott Gue

2:58

EQT is the largest gas producer in the US and a pure-play on Appalachia/Marcellus. I show their breakeven gas cost in that $2.30 range, meaning that they can producer free cash flow with prices over that level. While short-term gas prices are below that level, EQT has about 62% of its 2023 production hedged, mainly using collars that provide a floor under the company's realized gas prices. In this case, EQT would receive $575 million in proceeds from hedges if the average price of gas this year is at $3.00 (well below that now, though this summer's prices are higher). Bottom line, they're a high quality producer, which at average gas prices we're expecting over the next few years should be able to generate copious free cash flow toi support shareholder returns via a regular dividend and share buybacks.

Guest

3:02

Hi Roger: Any thoughts about the stability and eventual recovery of BXP? I have been buying while it is way below your Dream Price of $70. It is now about $50. Will the market ever be able to distinguish its life science difference from the rest of the office sector? Thanks. Barry

Roger Conrad

3:02

Hi Barry. The problem with buying even a quality company following a long decline is that it can always go lower--particularly when its a member of 147 indexes and all their associated ETFs with institutions holding the vast majority of shares as Boston Properties is. And though my Dream Buy entry price for the REIT Sheet was less than half BXP's all-time high, with retrospect I was early. I do think this REIT will eventually be able to differentiate itself from rivals in the office property space that own much lower quality properties. And Insiders are apparently believers ahead of Q1 earnings expected in early May. But with investors this negative on office properties in general, shares are going to be fighting a pretty severe headwind in the near-term. If you'd asked me during the chat a month ago with shares around 70, I would have said downside was limited so long as the REIT was solid as a business. Well since then the company news has been pretty much all good--including for the already mostly leased $

Roger Conrad

3:06

continuing with Barry's question on BXP, the $3.3 bil project pipeline is expected to lift net operating income 4% a year through 2026 just on its own. I still believe this REIT will be able to raise its distribution this year. In this environment, management may choose to be more conservative, which makes sense as the cost of equity capital has risen as the share price has dropped and there is $500 mil in maturing debt to refinance this year. I don't recommend anyone double down on any one stock ever, no matter how attractive it looks. But to me BXP still looks like a REIT we want to own--and should be in line for a big recovery when the macro headwinds subside a bit. Premium properties and life sciences do have a promising long-term future, even if conventional office faces a rough road as companies try to cut space and rents with more employees working from home.

Alan R.

3:11

Please compare and contrast EOG and PXD.

Elliott Gue

3:11

The biggest difference is that PXD is a pure-play on the Permian Basin (the Midland Basin) and produces primarily crude oil. EOG has operations more idel dispersed around the US including the Eagleford Shale of South Texas, the Rockies, and the Delaware Basin of the Permian. So, EOG has a bit more exposure to gas production (about 1.32 bcf/day last year). I'd say they're both high quality-low cost producers that re focused on returning capital to shareholders via dividends and buybacks.

Andy Z

3:13

Hi Roger and Elliott,

Thank you again for the chance to ask questions every month. As part of the Income Portfolio, have you considered adding/following BDCs? I've owned a couple of them for a few years and done well with them, but I would prefer to hear your thoughts on the sector and specific stocks you find good investments.

Roger Conrad

3:13

Hi Andy. My big challenge with BDCs--business development companies--is they're pretty much a black box most of the time. You pretty much have to trust to management to be making the right investments. And many of them tend to use quite a bit of variable rate debt, which is usually cheap finance but has recently seen rapidly rising costs. I have recommended Hannon Armstrong Sustainable Infrastructure (NYSE: HASI)--which is a BDC organized as a REIT that specializes in loans and equity investments in energy efficiency and renewable energy projects. It has a very strong position in this niche, demonstrated by consistent investment growth--and management has been able to secure low enough cost financing to maintain margins even in this environment. Guidance is 10-13% annual earnings and 5-8% dividend growth off a yield that's now nearly 6%. And I expect all guidance to be affirmed with Q1 results in early May as they were in late March. There's also no material exposure to bank failures.

Roger Conrad

3:14

I like Hannon at 35 or less for those who don't already own it. Any particular BDCs you're interested in Andy?

Andy Z

3:23

Hi Roger and Elliott,

I know in the past you've said KYN is a decent alternative for investors in a tax-deferred account (with the caveat you always prefer picking the strongest/best players over a fund.) Yesterday Kayne Anderson announced they were merging one of their CEFs (KMF) into another CEF (KYN). They also announced a 5% increase in the quarterly distribution and a plan to add another 5% increase (based on today's distribution) once the merger is complete. This seems a better deal for KMF holders as they will see a roughly 20% increase in their distribution as a result of the merger, but from what I could tell, KYN will end up reducing their fees for the new KYN along with the 10% increase. I'd appreciate your thoughts on the merger.

Thank you so much again for having these chats.

Roger Conrad

3:23

I've been an independent director for a closed end fund for almost a decade now--Miller Howard High Income Equity (NYSE: HIE). So I can tell you scale is always a challenge for CEFs. By merging two of its funds, Kayne Anderson will be able to spread out costs over more shares, which should drive down its expense ratio or at lease offset rising costs elsewhere. That includes leverage, as rising interest rates have pushed up the price of borrowing on margin and KYN currently has leverage of 32.12% of assets. It will also offset the cost of rising legal fees and regulatory compliance--which have mushroomed under the Biden Administration. I think you're right that KMF appears to get a slightly better deal--the fund has also done a bit worse than KYN over the past year. But I think the important point for KYN holders is there's more than enough benefit from the lowered expenses and higher yield. And of course this is still a triple play of rising net asset value, higher dividends and someday a narrower discount.

Phil B.

3:31

Thanks, as always, for hosting these sessions. Two questions. A couple of months ago you recommended selling OKE and, since then, it has declined significantly. So, a good call. But with the dividend being maintained, I wonder whether you would advise getting back into OKE now? Also, MPW has dropped significantly in recent months but maintained its dividend. Despite its current woes, should we stick with it?

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