The Next Energy Leg

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By SA Marketplace :

2018 seems to be ending on the wrong note in the markets. December is setting the wrong kind of records, and Q4 has been a bumpy one in general. This is what happens in the stock market sometimes, but it's been easy to forget over the decade-long bull market.

We're using the end of the year as a chance to lift our heads, survey the market, and see what might be coming ahead. To do so, we're inviting our Marketplace authors to do a series of roundtables. 2018 was another steady growth year for the platform, and we have a lot of great voices on the Marketplace, so we wanted to share their perspective with you.

Our Year End Marketplace Roundtable series will run through the first full market week in January. We'll feature ten different roundtable discussions, with expert panels chiming in on Tech, Energy, Dividends, Other Income strategies, Gold, Value Investing, Small-Caps, Alternative investing strategies, Biotech, and the Macro outlook.

This roundtable looks at energy, which has especially struggled in the back half of this year. Does the recent bear market in oil mean we're back to lower for longer, or is this a different era? Is Natural Gas back? We break it down with our energy-focused panel:

Seeking Alpha: Just when we thought oil had recovered, another bear market set in. What happened, and how are you positioning?

Kirk Spano: OPEC+ increased their production by nearly 2mbd heading into the Iran sanctions. Saudi Arabia was about a million barrels per day of that with over half going to the U.S. They did that at the request of President Trump, who then double-crossed Saudi Arabia by granting waivers to 8 nations from the Iran oil sanctions amounting to about a million barrels per day more than expected. In a thin market, traders were able to pound down oil, causing margin calls forcing hedge funds and others to sell and taking oil and oil stocks down further than warranted.

We are now in a snapback position with OPEC+ announcing cuts of 1.2mbd, Saudi Arabia stating they will dramatically cut exports to the U.S. and Canada piling on with their own export cuts to the U.S. The combined export cuts from Saudi Arabia and Canada will lead to reductions of U.S. oil inventory of 20-25 million barrels per month beginning in January. For context, American oil inventory stands at about 450 million barrels which is over half of global OECD inventory. I am buying the U.S. Oil Fund ( USO ), the SPDR S&P Oil & Gas E&P ETF ( XOP ) and calls on several oil stocks, mainly those that are Permian focused.

Fluidsdoc: The framework for the bull thesis on oil had been weakening over the summer, with inventory builds thanks to relentless shale production, and the Saudis increasing exports to the U.S. The strong dollar and fears of global growth slowing had also contributed to a 'sell the rally' mentality in traders. The market had priced in Iran's production leaving the market in what we were told would be a strict, 'no exceptions' ban. The reality of waivers for about 75-80% of their daily production, knocked the last support of an over-supplied market, and prices plummeted. The impact on key producers and particularly service companies has been so severe that buying on the way down, has become a case of 'catch the falling knife'. I have been making incremental buys focusing on quality recently. An example would be Schlumberger ( SLB ), currently at lows not seen in over 25 years.

Daniel Jones: This current downturn is really being caused by two things: fears of a slowdown caused by trade wars and by an overreaction of an overreaction by OPEC and non-OPEC nations regarding sanctions on Iran. The latter is being addressed now through a joint cut, but the former is tough to measure. This is especially true because in the countries most affected by the trade war (think China), demand is more elastic than it is in developed nations and information from those nations is also harder to come by. I believe the trade war concerns will be largely resolved, and I believe that OPEC and Russia are on the right path toward resolving the other problem, so I am all long right now.

Laura Starks: I think we know far less about China, and its demand situation, than we should. I think demand has dropped there more than anyone is admitting. I haven't changed the way I position - I look for companies with operations sturdy enough to weather the ups and downs, both of which have their challenges.

Long Player: I think if you review my answer to the last questionnaire that I stated the rally would end sooner than most think. Your latest question proves that answer correct. Oil production grew more than many thought possible while OPEC and other exporters also increased to more than offset demand. In the meantime, fears have set in for another recession. However, things are not way out of balance as they were in the 1980s when Saudi Arabia re-entered the market and pushed the price of oil down to $10 a barrel for a while. Anyone who invests in oil and gas should know that the commodities are volatile and the latest round proves that. Now some decent bluechips like SLB are entering bargain territory and can be picked up as a core position or to trade. Now is the time to buy good industry leaders for your portfolio.

Andrew Hecht: I am in wait and see mode. Increased U.S. production, growing inventories, exemptions from sanctions for some purchasers of Iranian crude, and Saudi capitulation to President Trump's request for increased output in the aftermath of the murder of the Washington Post journalist and Saudi national created a perfect bearish cocktail for the price of crude oil .

Robert Boslego: The market became over-inflated in expectation that the U.S. sanctions on Iran would remove more oil from the market than could be added by Saudi Arabia and friends. But Trump had a few policy tools to prevent that from happening, and he used waivers to reduce the impact of the sanctions. He could have also announced a drawdown of the Strategic Petroleum Reserve, but he did not need to do that.

I was clear that Trump would not cause oil prices to spike going into the mid-term elections, and it was clear that he wanted lower prices to keep the economy humming. So, I was short oil and increased short positions right before the sanctions went into effect. I again re-shorted when it became clear to me that theglobal marketwas going to be in a glut as a result of the OPEC meeting.

Laurentian Research: The new episode of oil crash is a classic case of unintended consequences resultant from interference with the operation of the oil market by politicians. On the one hand, the Trump administration coerced the OPEC+ bloc toward a production increase ahead of the Iran sanction, taking advantage of the weakness of the Saudi regime in the wake of the murder of Jamal Khashoggi. Such a production ramp-up in haste led to oil oversupply. Further exacerbating the oversupply, the Trump administration turned around giving the Saudis and the world a big surprise by granting waivers to main importers of Iranian crude oil. On the other hand, the U.S.-China trade war dimmed global economic growth prospect, causing widespread jitters about the outlook of oil demand. Putting salt on a wound, the damaged crude oil supply-demand was magnified by commodity traders, humans or algos, into extreme gyrations of oil prices. At The Natural Resources Hub (TNRH), our policy has been to pick stocks based on (1) the quality and growth prospect of assets and (2) the management's operational skill and interest alignment with that of the shareholders, and (3) to take advantage of deep-value opportunities presented to us by the market. So, we first switched to risk-off and then to quality-on during the course of the oil crash.

SA: How is the current environment echoing 2014, and how is it different?

Kirk Spano: There is no echo at all of 2014. That is a fake narrative. Oil supply and demand remain tight due to very little spare capacity in the global system for production. Consider that Saudi Arabia got tricked into using half of its 2mbd spare capacity to inadvertently drive oil prices down vs. 2014 when they did it on purpose. From June 2017 to June 2018, Saudi Arabia tapped the breaks on oil exports to the U.S., and we saw that huge rally in oil. Now, Saudi Arabia and Canada are cutting exports to the U.S. of oil vital to refining operations by a rate of double that we saw from mid-2017 to mid-2018. Oil prices will rebound relatively quickly, likely by June of 2019 to between $70 and $80 per barrel WTI.

Fluidsdoc: I think there are some parallels to 2014-2016 and have noted that in the Daily Drilling Report. Chief among them is the slope of the decline, combined with Saudi Arabia's determination to raise prices by restraining production. I would also say the key difference is the aggressive posture the U.S. government has taken with regard to the Saudis at present. We have sent them some mixed messages regarding our intentions on enforcing sanctions recently. Their decision to take some oil off the market in the recent OPEC meeting was an out-growth of them.

Daniel Jones: Other than prices falling, there's not much in common. Back in 2014, you had OPEC refusing to cut and, instead, deciding to boost output while US output (mostly in the Permian) was on the rise. OPEC has learned that it cannot wage a war against shale, so it has and will continue to make room for it in this market.

Laura Starks: Russia is more explicitly involved in decisions about oil supply, while Saudi Arabia and OPEC generally now know the U.S. shale guys won't bail out. At the same time, capital providers to the U.S. shale industry are less forgiving and less patient when producers outspend their cash flow than in 2014. In 2014, some bankers felt they'd missed out on the first shale run-up and were willing to help finance the next one by continuing to throw money at companies that in other circumstances might have gone bankrupt. Which is not to say we didn't have many oil sector bankruptcies in 2014-2015. We did.

Long Player: In 2014, no one had any idea how out of balance things were and how unconventional production had grown in influence. No one had any idea how much the unconventional costs had dropped. Instead, they were focusing on history. Nor did many analysts capture the effect of hedging that allowed production to grow in the face of an oil flood. This time, the market appears to be adjusting a lot faster. The economy is still relatively strong, so oil prices are unlikely to sustain a deep drop.

Andrew Hecht: No two bull or bear markets are alike. This time, OPEC have no illusions that they will push oil to a level where U.S. shale producers fold up and go out of business. The U.S. has established itself as the world's swing producer. The longer oil sits near the lows, the higher the chance of a new and lower low.

Robert Boslego: As in 2014/15, a global glut developed causing prices to collapse. But this was due to OPEC, led by Saudi Arabia, raising oil production in an attempt to bankrupt American shale oil producers. Now, OPEC has agreed, together with some non-OPEC producers, led by Russia, to cut 1.2 million barrels per day for the first six months of 2019. The problem is that that is not enough.

Laurentian Research: The current crude oil environment echoes 2014 in that it is also caused by an oversupply shock created by the bloc led by the Saudis. However, there are important differences. This time around, the oil companies are less leveraged and have ampler liquidity, so most of them can afford to reduce their capital plans rather moderately. After all, this is considered to be a correction within an oil bull market, rather than a recession heading for a long-term bottom. However, constrained by serious infrastructure bottleneck, the U.S. shale and Canadian producers may not be able to raise production as unfettered as in 2014. Another difference lies in that the market worries a great deal about near-future oil demand as the Chinese economy slows down amidst trade disputes with the U.S. The 4Q2018 oil crash appears to be driven by both supply and demand, while the 2008 flash crash resulted from demand decimation, and the 2014 recession was caused by an artificial oversupply.

SA: It feels like everything is political in 2018, but oil and gas is especially exposed to geopolitical risk. What story matters most to you in studying the energy markets, and what's your take from an investing standpoint?

Kirk Spano: The politics are overdone. The real story is the Fed. They are sucking $50 billion per month from the financial system and, by extension, the economy with so-called QT or Quantitative Tightening. We have seen markets thin out because of that. If they keep it up, we'll have a recession by 2020 because fiscal stimulus is largely unaffordable globally without expanding monetary policy. Watch the ECB to see if they really start to tighten in 2019. I doubt they can, but will they anyway like in the U.S. where Fed Chairman doesn't really understand the global "slow growth forever" economy. If the Fed does not back off, I'll be taking oil profits in 2019. If they do, we'll see how well these highly profitable shale plays do. The low debt shale plays with "good rock" have a run in them coming, the question is will the environment come summer be good enough for them to break to new highs or will they hit resistance near their old highs?

Fluidsdoc: I think the overarching story lies in the blossoming relationship between Saudi Arabia's Mohammad bin Salman and Russian President Putin. The two countries together account for about 25 mm BOPD of production, or about 25% of the world's daily supply. In my view, Russia made more of a political decision than an economic one to support Saudi in cutting daily production to raise prices. Russia's economic interests would actually be better served by defending their legacy markets in Europe that are now receiving tanker loads of crude, and LNG from the U.S. Instead they've thrown their lot in with the Saudis for political gain in an area where their influence has previously been limited. This outcome is bullish for oil prices, and I think we should see some floors being set for beleaguered oil service suppliers as a result. I am adding to positions in SLB and Halliburton ( HAL ), in particular.

Daniel Jones: To me, the fundamentals are the most important. Yes, political is a concern, especially the trade wars and the risk that that could spill over and negatively affect oil demand. That said, we haven't seen any real signs of that yet (not on a scale large enough to hurt demand) and forecasts from two of the three big oil groups suggests that there won't be an impact on demand. Ultimately, though, this is uncertain and while stories like Iran's sanctions are always important, the political story that will cause the bullish oil thesis to live or die is ultimately trade war based since economic factors are harder to estimate than things like supply. If the global economy tanks, oil tanks. If the global economy does fine, oil will very likely be fine.

Laura Starks: The back and forth on Iranian tariffs has rocked the market's stability mercilessly. The Saudi Arabian-Iranian hatefest will continue to impact the Middle Eastern suppliers and by extension the rest of the world's producers. I think it's great that Qatar finally dropped out of OPEC - Qatar is a gas producer, not an oil producer. The ongoing intellectual property theft and tariff tangle and general territoriality struggle with China will be interesting. For example, ConocoPhillips ( COP ) got a pittance from Venezuela for COP's assets appropriated there, but who is joint-venturing now with Venezuela? China.

Long Player: My take has always been to buy bargains when they appear and hang on through the volatility. Sanity always returns to the oil and gas market at some point. What matters the most right now is the relatively strong and growing economy. A close second has to be the erratic leadership signals from Washington that may cause business to become overly cautious and possibly bring on a recession. Next is the unbalanced budget that may cause an overheating of the economy through another asset bubble similar to 2008.

Andrew Hecht: Trade issues between the U.S. and China could impact global economic growth. The Middle East remains the most turbulent region and the potential for hostilities is always present in the oil market.

Robert Boslego: The relationship between Trump and the Saudis matters most right now in the oil market. Trump spent the first part of his term establishing a warm relationship with the king and deputy crown prince, Mohammad bin Salman. KSA has come to realize that it needs to transform its economy and needs U.S. help to do so. In addition, it remains dependent on the U.S. for its security, and Trump is fond of reminding them of that. Before Trump announced the re-imposition of sanctions on Iran, he obtained promises from KSA that it would offset any oil export losses from Iran. Of course, KSA was more than just pleased that its arch-nemesis was going to be hammered by the U.S. And so Trump gained enormous leverage over Saudi's oil policies. And KSA leads OPEC, and so OPEC was also weakened. OPEC cannot even use its once-powerful jawboning about cutting production further without a tweet from Trump undercutting them. I am much more comfortable going short oil as a result. But I am quick to exit to wait for the next catalyst to come along.

Laurentian Research: In investing, there are things we can do nothing about and there are things we can do something about. Investors are supposed to focus on the controllable factors and be prepared to take advantage of the opportunities presented by forces out of our control. I think Geopolitics is beyond the ken of those of us who are not George Soros. Short of being able to prophesy which direction the geopolitical wind is to blow, we'd better settle for taking advantage of the market dislocations created by geopolitical events. Of course, to be successful in investing, we should work toward making our investment portfolios resilient in face of geopolitical risks and full of quality companies that have multiple ex-geopolitical factors going for them.

SA: Natural Gas was like Frankenstein's monster in Q4 - suddenly 'IT'S ALIVE, IT'S ALIVE!' Is this just a Halloween costume for the commodity, or has something fundamental changed for the commodity, and what does that mean for the future?

Kirk Spano:

Fluidsdoc: Natty (natural gas) has indeed been the freakezoid of the energy market this year, shooting through $4/mmbtus in the 4th quarter. I think early cold in North America is helping this story, but for the first time, there is another leg to it. Exports of LNG. Much of the shale production we are feasting on is very gassy, and this has been part of the Permian takeaway bottleneck... too much gas. Now with the pipelines being completed and compression plants being built to export this incredibly abundant resource the investment thesis for LNG is overwhelming, and by extension for companies that produce, transport, and compress it. The amazing thing is the market is not acknowledging that the American gas story has nothing to do with the oil story, and shares of these companies remain depressed. At some point, the market is going to wake up and assign higher multiples to companies like Energy Transfer ( ET ), Cheniere Energy ( LNG ), Golar ( GLNG ), and even to the larger shale players like Shell ( RDS.A ) ( RDS.B ) who is the largest player globally in gas and BP .

Daniel Jones: Unlike oil, which seems to be in a sweet spot and may be in a state of a very slight glut or getting there, chronic underinvestment and high consumption of natural gas has created a massive shortage, so to speak, of natural gas. Inventories in the US are below their prior 5-year range, plus we just dealt with a massively-cold period during Thanksgiving with more cold, likely, on the way. So long as the cold continues, I think natural gas will remain attractive.

Laura Starks: It helps that more gas transportation capacity and export capacity is in place, but natural gas is super-easy to produce and we have years of it: wink in the direction of the Marcellus and we'll be oversupplied with natural gas again. The fact that we're a little light on gas in storage is a one-year anomaly. Plus, see the answer below.

Long Player: The unconventional revolution has also revolutionized gas production. Places like the Cotton Valley were experiencing a revival even at lower prices. Therefore right now, the rise in gas pricing appears to be seasonal. There are several basins that could supply a significant amount of gas if pricing remains high. The current oil boom almost assures an increase in the gas supplies even if we continue to lose a few rigs. The continuing well improvements should more than offset the lower rig count unless it accelerates.

Andrew Hecht: Inventories were too low compared to past years, and the rally was overdue. We have seen the supply and demand side of the fundamental equation for natural gas grow - Massive supplies in the Marcellus and Utica shale regions versus more gas demand for LNG and power generation. This year, stocks going into winter are at the lowest level in many years which supported the price, it was as simple as that. Going forward, remember that NG is historically one of the most volatile commodities of all.

Robert Boslego: After a string of warm winters, some cold weather caused the price spike. Nat gas is highly weather-influenced so it does not imply much about the future. If anything, rising shale production is likely to keep a lid on gas prices.

SA: What's an under the surface story from this year that you think is important for investors to understand?

Kirk Spano: There are five types of money not flowing into the markets right now that we saw flowing in from 2009 to 2015. The Boomers are retiring en masse so not investing anymore, the institutions - many of which are pensions - are now in net withdrawal, the Fed is pulling money out of the system rather than putting money in, the Chinese have cut their investing into the U.S. to next to nothing, and now, hedge funds are liquidating at a record pace (which is probably good long run, but hurts short run). That leaves for very thin markets with very few marginal buyers. In other words, the buy the dip crowd is gone for now. We need for the Chinese to come back to the American markets, along with some other foreign buyers, as well as, for the Fed to stop "normalizing" its balance sheet. The Fed balance sheet can be normalized in about 20 years after all the Boomers are well into retirement and the demographics curve starts to smooth.

Fluidsdoc: We hear endlessly about how more, and more oil is being fracked out of the ground in America. Currently, the EIA is estimating our daily production to be around 12 mm BOPD and is forecasting that production to grow another couple of million barrels increase for 2019. Something that doesn't get a lot of traction is the quality of the oil that is being produced in America. Much of our new-found wealth is relatively high gravity (>50 API), and that is a problem as most refineries run best on lower gravity crude, ~32, or so. That means you have to blend the lower gravity material to optimize refinery through-put. And, there-in lies the rub. Most of the higher gravity crude comes from conventional reservoirs in this country and from Mexico, and Venezuela, and Canada to mention a few. You don't have to read too many articles on SA to understand that this is an area that has lacked investment over the last few years, as the cost of extraction is very high. I am not going to connect the dots here, I'll leave that to the reader. Suffice it to say, this is not an imbalance that can go on forever.

Daniel Jones: I don't know how "under the surface" the story could be considered, but definitely what's going on in Venezuela. I believe average production next year will be lower than it is this year by around 0.50 million barrels per day. This will reduce the country's exports to practically zero and cause a true economic collapse if nothing changes. China recently injected $5 billion into Venezuela's economy to boost production, and Russia more recently did the same. We saw no impact from China's move, and I doubt we'll see any from Russia's either. All that money will either be taken through corruption or will be spent in other areas. This is critical because oil is the lifeblood of the country, and they can't even afford to keep output flat. I think people will be surprised this time next year how much of an impact Venezuela's collapse will have on oil prices.

Laura Starks: a) There is so much oil-associated gas, especially in the Permian, that its value has turned negative at times--essentially a waste product. As Permian oil production ramps back up, this associated gas could continue to impact all U.S. natural gas markets. b) I have felt for some time that people at large don't understand what a geopolitical and international security advantage the U.S. now has by being able to produce so much of its own energy, vs. relying on imports. There's a gigantic difference in our position, our swagger, when we can now produce 11 MMBPD of oil or more, vs. only 5 MMBPD in 2005.

Long Player: A few years back, the Murphy Oil ( MUR ) CEO was stating he wanted his company to be able to thrive with oil in the WTI $30s range. That still seems like good advice when considering an investment in oil companies. Low costs and clean balance sheets are the key. Depend upon operating leverage for above average profits. As both CRC and DNR are demonstrating, financial leverage rarely delivers long term (although short term trades can be very profitable). With declining well breakevens, lower for longer still appears to be a good long term strategy.

Andrew Hecht: OPEC is run by Russia...100%

Robert Boslego: It's not really under the surface but the markets may not fully appreciate the growth trend in U.S. oil production. It is likely that the U.S. will be technically oil by 2020; i.e., net oil imports are zero or negative. That does not mean the U.S. will stop importing oil. It just means exports will match imports. There will be a lot of trading. This implies a permanent shift down in oil prices. It also will improve the U.S. balance of trade, which will support the dollar. The U.S, is already the dominant oil producing country in the world. What is not broadly reported is that petroleum liquids added to crude production are over 18 million barrels per day, far ahead of Russia and Saudi Arabia.

Laurentian Research: As investors, our main task is to manage risks that threaten our investments. I think it is important for investors to understand all jurisdictions have their own flavor of risks; not to take any country as a permanent safe haven, nor to dismiss any country as forever un-investable. It is also important for investors to take an integrative approach in risk evaluation by combing all forms of uncertainties, including external ones (security, fiscal, commodity price, and financial, e.g., interest and exchange rates) and endogenous ones (strategic, operational, etc.); not to favor nor bias against any country for one single factor. For example, Canada, traditionally a favorite destination for energy investment, appears to be chasing away fossil fuel investments via regulatory burdens and carbon tax levied by the liberal Ottawa and by environmentalist activism on both coasts. The U.S. struggles with growth pain caused by old and insufficient infrastructure. Africa continues to be plagued by violence, rising resource nationalism, and local corruption. Asia's main challenge is subsurface in nature. Latin America stands out globally but there are security, regulatory, fiscal, or financial risks on the individual country level. It is ideal to find an investment target that offers outsized gains at limited risks, regardless of whether we are sentimentally biased toward the environment it operates in.

SA: What are you watching for in 2019 from the energy markets?

Kirk Spano: A very large rally in H1 and then we'll see if the economy really slows or not. If it is visibly slowing, due to a tightening Fed, or a brutal trade war with China, or for whatever reason, then we'll have to take profits on that trade. If the economy is growing and the Fed allows a slightly less strong dollar with some inflation, then we can hold oil and the oil stocks longer. We'll see which way it goes. We'll have a good idea by April.

Fluidsdoc: The main thing that I am watching for is something I am probably not going to see. That would be capex increases for deepwater exploration and development. To a great extent, the oil industry modeled itself to thrive on the deepwater, marine environment over the last twenty years. In fact, the oilfield's most prestigious exposition and conference is the Offshore Technology Conference-OTC, held every May in Houston. The pull back and under investment in this area has hobbled many of the of the oilfield's premier companies. Particularly hard hit are the offshore deepwater drillers. Companies like Transocean ( RIG ) and Ensco ( ESV ) are near all-time lows with fleet utilizations and day-rates that will ultimately lead to bankruptcy if things don't change. It's a bit of a conundrum that oil companies haven't responded better here. Rig rates are a third of what they were a few years ago. Scrapping has modernized the available fleet. We have learned to operate efficiently in deepwater. Years ago, a deepwater well might take several months to drill and complete. Now, I get stories from my students (I teach classes in several of the major drilling fluids service companies), that on projects they are working on, wells are being drilled and completed in a few weeks. Oil companies have also redesigned their projects to break even with oil prices in the low $30's... so what is the hold up? I really don't know, and it's a topic of interest for me.

Daniel Jones: We need to watch really three things that, collectively, will be significant contributors to the oil supply/demand balance: global demand growth, US production, and what happens from OPEC nations. If any one of these things surprises to the upside or downside, it will have a material impact on prices. In particular, this is true of OPEC, where uncertainty over sanctions, a question about how the group works together moving forward, and the collapse in Venezuela will all be material factors next year.

Laura Starks: Tangentially, this story about three offshore Massachusetts wind leases going for $135 million apiece to European companies like Equinor ( EQNR ) is interesting. On a broad basis, it's all just about oil supply from Saudi Arabia, Russia & the US and demand from China & India, with anecdotes about Tesla ( TSLA ), the Midland-Cushing oil price differential and IMO2020 (the rule reducing the sulfur content of marine fuel) thrown in.

Long Player: I watch for bargains and when they appear, I grab them. Right now, the Canadian market has a lot of outsized bargains. A basket of decent Canadian stocks should outperform the market without a lot of risk.

Andrew Hecht: Trade issues, the dollar, U.S. interest rates, and the political temperature in the Middle East.

Robert Boslego: I will be closely watching the global oil supply/demand balance to see if supplies outpace demand because this would pressure oil prices lower. If demand somehow outstrips supplies, prices would rebound, and I would want to be on the long side.

Laurentian Research: There are a number of trends I will be watching closely in 2019. Firstly, how OPEC+ will implement its production reduction plan in face of a surging U.S. shale production. It is not much easier to broker a consensus within the OPEC and with Russia than herding cats, let alone enforcing an agreed plan of production cut. Secondly, the GDP growth around the world, particularly China, India, Europe, and the U.S. amidst a trade war, due to its impact on global oil demand. Thirdly, the pace of the Fed's interest rate raising. To the energy companies with an enormous amount of debt maturing beginning 2020, a high interest rate is bad news. Fourthly, the pipelines from the Permian Basin are scheduled to come on stream in late 2019 and the fate of the Trans Mountain pipeline in western Canada is to be decided around that time. The year of 2019 is also right ahead of the implementation of IMO-2020, which requires ocean-going ships to consume low-sulfur fuels. Significant changes in the refining and shipping sectors as well as in crude oil differentials are expected to result beginning in mid-2019. Lastly, speaking of the energy markets, investors appear to be warming to uranium as a zero-carbon, efficient source of energy; henceforth, uranium producers may finally see the inflection point in 2019 after a decade-long bear market. So, in my opinion, the key words in the new year for energy market watchers are OPEC+, trade war, the Fed, pipelines, IMO-2020, and uranium.

SA: What is one of your best ideas for 2019, and what is the story?

Kirk Spano: Clearly, oil and oil stocks in H1 of 2019 are the play I am overweight in for the reasons discussed above. But another important story is the "smart everything world" I wrote about a few months ago. Folks need to buy the profitable beaten up tech names like Apple ( AAPL ), Amazon ( AMZN ), Alphabet/Google ( GOOG ) ( GOOGL ) and PayPal ( PYPL ), which are 4 of my top 10 holdings, and hold a long time. These companies are vastly undervalued now for their current and future cash flows. Apple is converting to a services company from a product company, and they could see a huge surge in revenues as the "smart everything world" takes hold with their access to 15% of global households from the iPhone penetration. Amazon is a juggernaut, don't discount the Whole Foods purchase, and they will eventually spin off Amazon Web Services creating two massive S&P 500 companies in the process. Googlebet, which I call them, is a cash flow machine that won't get hit the way Facebook ( FB ) will on the regulation narrative. Folks need to buy that stock because soon enough, there will be "baby Googles," probably six or seven within a decade, and most will be S&P 500 sized companies day one. PayPal is already worldwide and about to make huge forays into cash transfers, not only peer to peer, but bank to bank. Their blockchain technology makes them the perfect partner for the banking system to facilitate much faster, as in seconds, wire transfers. I can see PayPal being bigger than Visa ( V ) sometime in the 2020s.

Fluidsdoc: I think service companies have been punished far out of proportion by the market. Halliburton for example is selling for less than it did when oil was $25.00 a barrel. It makes no sense. So I think as oil prices stabilize and improve as the supply cuts work through the market, these companies will rebound to at least levels seen in late September of this year. For Halliburton that would be about a 30% pop. Other companies like Schlumberger, and Baker also have the same potential. One area of the service business that should really shine is anything associated with natural gas. Companies like Energy Transfer, Golar, and Cheniere should really do well as an example. They are being paid fees for services, and that business is forecast to grow. I like the LNG story and am invested in it.

Daniel Jones: I think my best idea for 2019 is Legacy Reserves ( LGCY ). Simply put, and as I have illustrated in prior articles, LGCY is cheap. Yes, they have leverage, but they are comfortably within their covenants, have a massive quasi-activist firm owning nearly a fifth of their stock, and even with oil at $50, the business generates significant operating cash flow and EBITDA. With oil prices near $50, markets have punished shareholders by pushing the stock south of $2, but I believe the chances of a permanent loss of value (so long as energy stays where it is or moves higher) is incredibly small. The true value of the firm will likely be known once management introduces 2019 guidance (probably during fourth quarter results). If it even comes close to what Baines Creek Capital has suggested, shares will probably climb to $10 or higher. Even a forecast that's lower but still suggests substantial operating cash flow and EBITDA growth will easily reward shareholders.

Laura Starks: While I keep my preferences on upstream companies mainly for discussion and review with my EBEI subscribers, over the last year, I've remained fond of refiners and become fonder of utilities, and that continues into 2019. NextEra ( NEE ) is a utility hit with investors for its focus on renewables, and I really like refiner Marathon Petroleum Corp ( MPC ) for its good operational ethic and now its new, larger position resulting from the Andeavor acquisition. Valero ( VLO ), too, continues to perform well in the refining space. Refining requires continuous adaptation to changes in supply, demand, and product, safety, and environmental specifications.

Long Player: Current outcast Cenovus Energy ( CVE ) has been hated since the day it bought the partnership interest in the thermal production from ConocoPhillips. Yet the company has produced decent cash flow ever since the acquisition and paid down more debt than management ever promised. Yet the market focuses on the thermal spot pricing that management has relatively well insulated the company from. There was a quarter of unusual volatility that did hurt company results (combined with the usual turnaround maintenance for a quarter). But the quarters before and after that had decent cash flow. The expiration of hedges almost assures an excellent cash flow year for 2019.

Andrew Hecht: VLO and OIH on a scale down basis leaving plenty of room to add on further is impossible to pick bottoms.

Robert Boslego: As implied by those answers, I will be trading oil, both long and short. However, I would be more comfortable looking for short trades since they seem to pay off more quickly and I believe supplies will be abundant. However, there will come a point where low prices will impact oil supplies and I would want to be on the long side then.

Laurentian Research: The 4Q2018 oil crash has created a lot of deep value companies in the energy sector, from which a truly contrarian investor would love to pick stocks. However, one may want to stick with quality now that he is inundated with cheap stocks. At The Natural Resources Hub, our in-depth research led us to a number of best ideas for 2019. Below is just one example of such ideas, specifically for an investor with a relatively low risk appetite. GeoPark Ltd. ( GPRK ), the king of Latin American independent oil companies, saw its share price was cut by half in the recent oil price downturn. The company boasts a highly visible runway of profitable production growth at around 20% per year, which is backed by low-cost conventional assets managed by one of the most talented management team who owns over 1/4 of the shares outstanding. Valuation suggests the stock has the prospect to be a double in 2019 yet the associated risk is rather low, considering that it has a stellar balance sheet and that 85% of its production is operational cash flow positive at a $25-30/bo oil price. In addition to a slew of near-term catalysts, the company just started a 10% stock buyback program.


Thanks to our guests for combing through these energy sector questions. If you'd like to check out our panelists' work, here are the links to their profiles and Marketplace services:

Stay tuned to this account for the continuation of the Year-end series. We will be focusing more on individual sectors this week, before moving to market approaches (dividend investing, value, etc.) next week.

See also Wall Street Breakfast: Final Chance For A Santa Rally on

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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