Part Two: How to Profit as the Energy Balance Shifts
On Tuesday, I told you how “energy rebalancing” is going to hand us some profitable new opportunities this year.
Several of the examples I used were global in nature and provide a great segue into the final two dimensions of energy rebalancing: The changing geographic considerations and financial arrangements.
Of course, “geographic considerations” refers to location.
And the three I mentioned on Tuesday – the Russian ESPO pipeline, European imports of liquefied natural gas (LNG), and China’s rapidly expanding presence in the South American energy picture – are perfect examples of the evolving geographic picture.
Yet, the geographic also introduces two other main elements.
That includes a dramatic shift in the balancing point in global energy markets, which means that where the demand is will drive the energy markets.
In this case, demand has moved significantly from North America and Western Europe to the developing world in general… and Asia in particular.
This trend will become even more pronounced in 2014…
Profit Points in the Shifting Balance of Power
We have talked about the massive transition of demand to the Asian continent on several occasions. This will become even more pronounced over the next decade.
In addition, increasing demands in other regions are contributing to this rebalancing. As areas that used to be dependent upon agriculture and human labor for the bulk of their economic production move into an industrial phase, the expectations of the global energy market will change.
Basic to these changes are increasing strains on energy cycles.
A market that has been used to looking at the upstream-midstream-downstream sequence as a one-directional linear process is now recognizing it as a much more complicated situation. Once again, developing nations are setting the agenda.
The best example here remains West Africa. The issue was driven home again in late 2013 during meetings I had with execs from the Nigerian National Petroleum Co. The country is a major producer of light sweet crude, the low weight and low sulfur content oil most desired internationally.
However, Nigeria has a miserable refinery sector. That means most of its production is exported as raw material.
In addition, Nigeria on average produces 15% of the electricity it needs daily, leaving about 85% of its power needs from private generators. Those generators run on oil products (mostly diesel).
Because of the mess on the refinery side, that fuel must come from someplace else. Nigeria has the largest population in Africa and remains a major oil producer. But it has to import most of what is required for its power sector.
These cycles of export and import are becoming more pronounced as energy producing nations struggle to create higher living standards, but become more dependent on others for necessary energy ingredients.
As these become an even bigger factor in the international landscape, multiple money-making opportunities will emerge for the average individual investor.
Geopolitical Wildcards Add to the Volatility
The geographic also includes the geopolitical. Regional tensions are not going away.
In fact, they are the wildcards in ongoing international energy volatility. As North America moves toward effective energy independence, thanks to huge reserves of unconventional oil and gas, other continents are under the increasing pressure of geopolitical events.
This is the case in Europe, where the past week provided another dramatic reminder. A renewed wave of sectarian violence in Iraq spiked crude oil futures in London (where the Brent benchmark rate is set each day) and even exacerbated prices in New York (where West Texas Intermediate, or WTI, is the benchmark standard).
The simple fact remains that instability in countries or regions that are either major oil producers or comprise primary positions in the oil trade have an immediate unsettling impact on supply-demand considerations.
As populations and unemployment increase, religious and cultural differences magnify, and national ambitions weigh in the balance, the geopolitical factor will increase in uncertainty.
Uncertainty increases volatility. However, given the universal need for energy, it also increases the number of profitable plays.
This remains, occasionally in a very real sense, a mine field. Nonetheless, this global element will be providing us with some very promising moves in 2014.
The Driving Force Behind My International Meetings
Finally, how energy projects and systems are financed is the driving force of the sector. It is also the subject matter for more of my international meetings than any other single factor.
We will be exploring a number of aspects surrounding this topic during the coming year. These changes are having a fundamental impact on investment prospects in all energy classes.
For now, I’ll talk about two of the many considerations that are now a regular component of my meetings. The first involves how assets are being used in generating project working capital. The second is an approach we have created ourselves.
Traditionally, oil and gas in the ground, or the anticipated production from wind, solar and biofuel have largely been the funding mechanisms for upstream projects.
Put simply, an operator conservatively estimates anticipated production volume while a source of finance (usually a lead bank in advance of a syndicated loan offering) lowballs the expected revenue from its sale.
The process has moved into midstream considerations and even some downstream refinery and distribution applications. Central here has been the rise of Master Limited Partnerships (MLPs) and similar partnership structures.
An MLP does not pay corporate taxes, moving all of its profits directly to the tax returns of the partners. When an MLP or its equivalent decides to issue equity for general trade, those shares comprise a fixed percentage of the overall partnership profits. That almost always results in dividend payments well above market averages.
We will witness an expansion of this “asset collateralization” approach from its current base (midstream assets in general, pipelines in particular) into field control upstream and refining downstream.
These “clones” of the established model will make use of advantages coming from transfer pricing among various stages in the process to improve profitability and the return to both partners and shareholders.
A Whole New World of Oil and Gas Finance
The second development is our newly introduced Money Map Project #1.
As you already know if you have been following the developments, changes in regulations now allow direct investment in production projects by small individual investors. For instance, Money Map Project #1 was developed to finance $45 million in Texas drilling.
But the Money Map Project model can be applied to much bigger ventures – including MLPs, transport, refining, and distribution.
Currently, we are the only approach providing this kind of access to retail investors who used to be regularly left out of these profitable moves.
Doing so, we are lowering the basic ceiling to the point where the average guy can participate. This is a tidal shift or rebalance that takes place very rarely.
In all, these rebalances are going to make 2014 a very interesting and profitable year.