Most Investors Don't Know This Oil Secret

Most Investors Don’t Know This Oil Secret

by | published September 6th, 2014

Some of the most important energy companies these days don’t pump a drop of oil or a molecule of natural gas.

They don’t own pipelines, refineries, tanker ships or rigs.

Yet, without them, the great American oil boom would be nothing but a dream.

In fact, demand for their product in oil patches is so great, these companies can expect double-digit growth as far as the eye can see.

Unbelievably, what goes on in this portion of the business rarely gets reported on, even though their stocks have doubled and tripled.

So what is this veritable secret?…

Believe it or not, the hottest companies in the energy sector right now produce and transport sand.

This Isn’t Ordinary Beach Sand

You see, most investors don’t know this, but sand is a critical component in hydraulic fracturing, or fracking, the technique that completely revitalized the U.S. oil and gas industry.

Horizontal fracturing coaxes oil out of rock. But don’t think for a minute this process is as easy as sticking a straw in the ground and watching the crude come out.

To extract so-called “tight” oil, as well as natural gas, from oil-rich shale, energy companies drill horizontally through large shale beds, then pump water and various chemicals into the well at very high pressures.

That causes the fissures in the rock to shatter, sort of like a broken windshield. That not only releases the oil and gas; but it also gives it a path to the production well.

To keep the cracks from slamming shut, they then pump a solid material called a “proppant” into those new splits and cracks to prop them open and allow the oil and gas to seep out.

Those proppants can be man-made – ceramic and aluminum beads are widely used – but 80-90% of the time energy companies prefer to use sand.

This isn’t ordinary beach sand…far from it.

Drillers need a material that can stand up to the heat and pressure of extreme depth and is uniformly sized to allow for the maximum flow of oil and natural gas. Silica sand, which is primarily produced in Wisconsin and the upper Midwest and was once of interest only to glass manufacturers, fits the bill perfectly.

But supplies have become tight as this once sleepy industry works to keep up with the unprecedented demand brought on by the shale oil and gas boom.

According to industry sources, one well alone can require up to 3,000 tons of sand, and there are over a thousand horizontal rigs drilling every single day. And that number has nowhere to go but up.

Demand for frac sand is so great, the U.S. Geological Survey (USGS) reports that U.S. silica sand production jumped by more than 62% between 2008 and 2012, from 30.4 million tons to 49.5 million tons, even as its price skyrocketed 45% from $30.82 to $44.78 per ton.

Now, analysts at Morgan Stanley expect that demand to rise by 96% by 2016. There only one problem: Capacity is expected to increase by only 76% during that same time period.

That spells higher prices, creating even more opportunity for investors.

The Best Way to Invest in the Proppant Boom

Although several large energy and industrial companies include sand or synthetic proppants as part of their operations, only a handful of companies focus primarily on the market.

The top three all offer strong opportunities for investors.

The biggest silica sand miner is U.S. Silica Holdings, Inc. (NYSE: SLCA), with a market cap of just under $4 billion.

A century ago, the company began as a supplier to industrial clients, most of whom manufactured glass or building materials. But the shale oil and natural gas boom opened up new markets, and the company began selling to giants such as Schlumberger (NYSE: SLB) and Halliburton (NYSE: HAL), as well as many smaller energy companies.

Demand has grown so quickly that the company bought its own fleet of railcars to deliver its products to major oil and gas fields, and its fleet is expected to grow from the current 4,200 to 5,100 cars by the end of the year.

The company recently announced plans to build a new 20,000 ton storage facility in Texas and upgrade its Illinois processing plant. More than 60% of its revenue comes from energy clients, and it expects its adjusted earnings before interest, taxes, depreciation and amortization (EBITDA) to double to over $300 million by 2016.

Its stock has exploded, gaining 207.2% over the past year and 118.6% since January 1.

Emerge Energy Services LP (NYSE: EMES) is almost U.S. Silica’s equal in terms of market cap.

Although the company also does some oil processing and distribution, its sand production facilities and mines in Wisconsin and Texas have the capacity to produce 3.6 million tons of high quality sand annually, and compose the bulk of the company’s operations.

At present, the company can barely keep up with market demand: its production is currently sold out, and new mines and plants are expected to open by the end of this year to raise its annual production to 5 million tons.
Existing long-term contracts of 7.4 million tons, as well as robust spot sales, are expected to take most of the additional production as soon as it’s available.

The stock has skyrocketed by 212.4% so far this year, and is up an eye-popping 729% since its IPO in May 2013. It also pays a healthy dividend of 4.2%.

Hi-Crush Partners LP (NYSE: HCLP) is a bit smaller than the two industry heavyweights with a $2.13 billion market cap, but it gives nothing away in terms of production.

Virtually all of its sand is committed in long-term, take-or-pay contracts. With those contracts, customers must pay the company whether they actually take delivery of the sand or not.

Like its two larger competitors, it uses an integrated rail infrastructure to transport sand to major oil and gas fields. It currently produces 1.6 million tons of frac sand a year from its main 561-acre facility.

Quarterly revenue year-over year has exploded by 119.9%, and its stock has followed suit, skyrocketing by 77.63% in 2014 and by 185% over the past year. It also yields 3.7%, a nice cushion against price swings.

With demand for frac sand and manufactured proppants outpacing supply, and no end in sight to the U.S. shale oil and gas boom, the “fracking revolution” is proving to be a huge source of wealth for many Americans. Here’s how you can join them.

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