Take It Or Leave It

7 Nov

Got a blast from the past recently when listening to a conference call in the frac sand sector, a sector plagued by overcapacity and sagging prices. The  sand company in question was discussing the requisite compensation for volumes not taken by the customer under its take or pay arrangement. It got me to thinking about how the very initiation of such arrangements probably were fairly good precursors of bad times to come. We have seen such contracts in a number of industries over the years (natural gas, copper,), ostensibly the contracts were undertaken in order to protect both supplier and customer against interruptions in normal business due to shortages.  The reality however is that environments which lend themselves to shortages also lend themselves to high rates of return to producers, which in turn lead to high levels of capital spend and ultimately excess levels of capacity and surpluses not shortages. So, look to where there is take or pay and that’s where you will ultimately see excess capacity and falling prices. One doesn’t have to look much further than  down the oilfield production chain to find such a situation: midstream shale pipelines. Today’s bottlenecks become tomorrows unused pipeline capacity.

Slippery Slope

31 Oct

With the price of crude oil up over 24% YTD, one might be tempted to believe that the energy sector has been the place to hide in a market seemingly devoid of “value”. If you are of that belief however,  think again because the energy sector (encompassing the range from downstream to upstream) has been one big disappointment with the best performing index notching a 5.10%return (E&P) and the worst -19.8% (service sector). What gives?. Not too long ago, the industry would have been swimming in profits and buoyant equity valuations with a $60/bbl crude price. In our view, the explosion in unconventional domestic production (shale) combined with a resumption of export barrels has led to a severe balkanization of prices across almost all global oil markets. Today’s energy investor must now contend with not only geo-politics, but also a myriad of spread differentials that can wreak havoc on the ability to forecast beyond the next several quarters, in spite of a high price environment. “A Barrel is a barrel is a barrel” is no longer the case, just ask any Western Canadian producer who is currently staring at a $20/bbl discount in the marketplace. Such severe spread differentials ultimately get resolved, but this takes time and time is something that the equity markets are currently not affording anyone in the energy sector.

Lock Them Up

26 Oct

The case against ExxonMobil | Financial Times

Years ago when managing a midwest farmland portfolio, I became intrigued by the concept of carbon sequestration. The accepted thinking at the time, and to some degree still today , was that if farmers could no-till farm, then they would be sequestering carbon in the ground and as such should be paid for said efforts by those that were emitting carbon into the atmosphere- Think of it as Environmental Karma. The price per acre for a no-till practice would be determined by what the carbon credits were trading for in the U.S., which at the time was an OTC market with hopes of developing into a mature, exchange traded market. As one would expect, the market failed to develop as the ability to effectively measure the amount of carbon sequestered was virtually impossible. This article in the FT made me think of this as the Attorney General of New York is attempting to sue Exxon Mobil for underestimating the “cost” of GHG emissions.  Implicit in this “cost” is the decline in the overall use of fossil fuels as well as the increased rent charged on these fuels such as emission credits, scrubbers, etc..  The point is that the AG is using the courts to ask Exxon to estimate the unknowable purely as part of an overt political attack.  This article did however make me thankful to see the Obama administration in the rear view mirror, as you can be sure that this lawsuit would not have taken place in Manhattan district court but rather at the Federal level with full backing of the Obama administration.

Jerry The Jerk

24 Oct

We all saw it coming, but like most things with The Donald, even though they are telegraphed somehow we still are surprised. Recent remarks by the President suggest that he is not happy with the dot plot and would prefer that the Federal Reserve sit on the sideline as these rate increases are costing taxpayers money in additional interest on the debt, money he stated which could be used to pay down principal. These comments come on the heels of a comment hinting that there is another middle class tax cut coming down the pike. The irony of these two diametrically opposed statements  is clearly lost on the current Oval Office occupant, and one has to believe that he has found the new scapegoat for the upcoming economic downturn. The Fed fits the bill perfectly as fodder for his paranoid, fact-challenged rallies; they are not well understood by the general public, they operate in private and are autonomous, and they are generally considered apolitical. We agree with some of the fights that this President has chosen to undertake, but if he chooses to continue this path of chastising the Federal Reserve, and if he presumptively removes a sitting Fed chairman before his tenure is up, you will see a sell off in dollar based assets on a scale that is unprecedented.


16 Oct

As you know we are constantly looking for sectors which are experiencing change, whether it be cyclical or secular. Secular change is difficult to pinpoint, as it often takes years to unfold and is seen only in hindsight. Having said that, the slight pivot taking place in the agribusiness community possibly reflects larger societal shifts with far reaching investment implications. Flexitarians, if you don’t know,  refers to those consumers who eat meat and fish only very rarely, and are rapidly becoming the sweet spot of protein providers such as Cargill, Perdue and others. Traditional protein delivery sources such as beef, chicken and fish are slowly being supplanted by new technologies involving synthetically engineered proteins.  Most interesting is that this movement is being driven by forces outside the vegan community, specifically institutional interests possessing either ethical or environmental concerns. The vast, highly resource- inefficient monolith that is global agribusiness has been put on notice, investors would be best served to take notice and begin to look for the potential winners and losers.

When They Go Lo

14 Oct

The bond ‘spread_ strikes fear and shrugs on Italian streets | Financial Times

A fascinating article in the FT discussing the average Italian citizens awareness of the German/Italian government spread (lo spread).  It is almost unbelievable that the man or woman on the typical Italian street is so cognizant of the state of Governmental finances. Granted, I’m sure that this knowledge probably doesn’t translate into more legal income declaration, but nonetheless one has to give them some credit for at least giving a passing thought to such things. This got us thinking about  how the U.S. is truly blessed in such affairs. As both the worlds largest creditor and the holder of the worlds most active currency of reserve, thoughts of relative borrowing rates, or even absolute borrowing rates, do not cross the mind of the average U.S. citizen. It wasn’t that long ago that the mis-informed, mis-aligned, and misanthropic Tea Partiers were calling for the heads of those spendthrift Democrats. Today, those same budgetary zealots have replaced their fiscal zealotry with concerns about illegal immigration and the deep state. Fiscal issues don’t seem to be a concern with either party as borrowing needs have risen 70% YOY,  so when The Donald talks about rising rates, he should take his usual self-induced bow there also.



5 Oct

The recent shortage of takeaway capacity in the Permian Basin has led to a surfeit of proposed new pipeline capacity coming onboard all throughout 2019. One industry insider has even suggested that the region will become “overpiped” after the most recent conversions and build-outs become reality. We suggest that this term could be best used to describe the entire global financial system as it stands today.  If you indulge our plumbing metaphor further, the problems in any given sector of the financial market are a direct result of the mis-pricing of risk, or too much capital flow given the existing needs. Think housing pre-crisis, a phenomenal amount of piping (credit and credit structures) were built  solely to feed liquidity to a market that was clearly not financially  able to support it. The clogging and backing up of  said dubious piping led to a backing up into the entire global financial system, and you know the rest. This overpiping is seen in the retail landscape as well. Liquidity continues to flow into traditional retailers and traditional retail real estate despite all evidence that the old paradigm of shopping has changed dramatically. That marginal strip mall probably doesn’t need to get built, but as long as credit is available, expect to continue to see new currency exchanges and vape shops. As with all plumbing however, the system breaks down when either clogs occur or a pipe bursts, such occurrences often the result of a sudden re-pricing of risk.