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I think it's fair to say that Chinese oil consumption is only going to continue it's upward trend in the coming few years. China has already surpassed the United States in car sales as more people relocate from rural farming communities into the cities. Many industries are expanding, bringing in more workers willing to commute longer distances. All of which points to increasing oil consumption in China. The question is, what is the best way to play this ongoing trend? Many Chinese energy plays remain undervalued at this time despite recent gains, giving many options to play the trend. While not to everyone's taste, I personally like to focus on smallcap stocks that I believe are undervalued.
One company that has caught my eye in recent months is China Integrated Energy, Inc. (CBEH), formerly known as China Bio-Energy Holding Group. The company is engaged in three business segments, the development, production, and distribution of bio-diesel, the wholesale distribution and processing of heavy oil and finished oil products, and the sale of gasoline and diesel at retail gas stations. Actually, the bio-diesel segment really doesn't excite me especially. The main reason I like this company as an investment is the growing network of retail gas stations.
The company recently announced the purchase of 2 additional gas stations in Shaanxi province, bringing the total to twelve at this time. CBEH also plans to acquire a further 5-7 gas stations in the coming 12 months. The company has the ability to provide stable supply to all of the gas stations in its network. Being a vertically integrated energy company allows the company to achieve higher profit margins, and the simplicity of the company business model is something I find attractive as an investment. As of September 2009, the company reported average gross margins of 13.3% for its retail gas stations, a figure which I would anticipate growing significantly in 2010 with increased sales.
So how do the fundamentals stack up? The company has a market cap of $276M, with very little debt and a current ratio of almost 9. CBEH boasts a return on equity of almost 25% and a price to sales ratio of just 1.08. The company has demonstrated a trend of increasing sales and revenues over several years and has established a strong cash position in order to undertake further acquisitions. The shares currently trade at $8.49 and I would anticipate a 12-month target of $11-13.
Disclosure: At the time of writing the author held shares in China Integrated Energy, Inc. (CBEH).
I have been watching with interest from the sidelines as alternative energy stocks have skyrocketed in recent months, partly wishing that I was riding the wave and partly quite content in the knowledge that there will be plenty of opportunity to make money in alternative energy in the future. My biggest concern at this point is that not all alternative energy stocks are created equally, a good number of them will fail, and ultimately which ones succeed may come down to politics. I don't yet feel confident enough to separate the wheat from the chaff, particularly as many alternative energy companies are not yet profitable, so I will continue to watch with interest and research companies that I feel stand out from the crowd.
So if I'm not yet investing in alternative energy, what am I focusing on? While I fully expect renewable and green technologies to play an increasing role in energy production in the future, I am still a firm believer that coal, oil and natural gas will remain the major sources of energy in the intermediate term. I also expect nuclear power to feature strongly, but that is a topic for another day.
You see, the problem with alternative energy, while highly desirable, is that it is expensive. In comparison, coal is cheap - very cheap. Yes, it is dirty, yes, the environmentalists don't like it, and yes, there is pressure to reduce its use in the US, but I don't feel that any of those issues are going to matter until alternative energy can begin to compete on price.
The other huge issue is that China is the world's largest coal producer and consumer, and they are not going to stop burning coal any time soon. In fact, China plans to build stockpiles of the fuel in the eastern province of Shandong to ensure supplies and help stabilize prices. At this point China is self-sufficient in coal, but there may come a time soon when it is a net importer of coal.
If you are looking for a coal play that bets directly on China, then Yanzhou Coal (YZC) fits the bill. Yanzhou is one of China’s largest coal suppliers producing high-grade, low-sulfur coal, which burns cleaner and therefore fetches a premium price. Yanzhou Coal (YZC) is principally engaged in underground coal mining, preparation and processing, sales, and railway transportation of coal. The company is organized into three operating divisions: coal mining, coal railway transportation and methanol and electricity power. The company operates six coal mines: Xinglongzhuang coal mine, Baodian coal mine, Nantun coal mine, Dongtan coal mine, Jining II coal mine (Jining II) and Jining III coal mine (Jining III), as well as a regional rail network that links these mines with the national rail network.
So Yanzhou Coal (YZC) is in a great position to benefit from China's growing demand for coal, and also from any additional infrastucture investment, but what are the fundamentals like? Despite the recent upward movement in the share price, I believe that Yanzhou Coal remains a value stock with plenty of potential upside.
The company has low debt, has shown excellent growth in recent years, and pays a 4.2% dividend. Yanzhou Coal (YZC) currently trades at a P/E of 7.4 and a price/book of 1.8 with a current ratio of 2.83. The company boasts a return on equity of 26.9% and a gross margin of 50%. The company currently trades at $14.85 and I would be looking for a 12-month price target of $25-27.
Disclosure: At the time of writing the author held shares in Yanzhou Coal (YZC).
Friedman Industries, Inc. (FRD) is a microcap value stock engaged in steel and pipe processing and distribution. The company divides its products into two main groups: coil and tubular products. Friedman Industries, Inc (FRD) sells coil products primarily to steel distributors and customers fabricating steel products, such as storage tanks, steel buildings, farm machinery and equipment, construction equipment or transportation equipment, located primarily in the midwestern, southwestern and southeastern sections of the United States. The company's principal customers for tubular products are steel and pipe distributors, piling contractors and U.S. Steel Tubular Products, Inc. (USS).
The company comes with a great set of fundamentals, trading at a P/E of 2.5 and a price/book of 0.7 with a current ratio of 3.9 and very little debt. The company has been steadily growing earnings and sales over the past few years, and has paid a dividend for the past 10 years (currently 3.5% yield).
Despite the current economic slow down, I am confident that a company of the strength of Friedman Industries will be among the survivors, particularly as the manufacturing and construction industries begin to pick up in the coming quarters. Friedman Industries boasts a return on equity of close to 30% and a 5-year historical EPS growth rate of 31.7%. These are the kind of numbers that small cap value investors love to see. The stock price has already made a significant move upwards from its 52 week low of $3.82 in March, and has in fact just broken through its 200 day moving average, but I believe that plenty of upside still remains to be seen. I would be looking for a 12-month price target of around $12-13 as the economic outlook begins to improve.
Disclosure: At the time of writing the author held shares in Friedman Industries, Inc. (FRD).
Quicksilver Gas Services (KGS) is in the business of gathering and transporting natural gas and liquid natural gas through its pipeline assets and processing facilities in Texas.
These services are provided under fee-based contracts, whereby the Company receives fixed fees for performing the gathering and processing services. Quicksilver Gas Services (KGS) does not take title to the natural gas or associated natural gas liquids that it gathers and processes and thus avoids direct commodity price exposure. This is what sets Quicksilver Gas Services (KGS) apart from similar pipeline companies.Quicksilver Gas Services (KGS) currently trades at a trailing P/E of 13.81, and pays a dividend of 11%. The company has demonstrated good levels of earnings and revenue growth, depsite the economic slowdown, and I anticipate a 12-month price target of $18-20 as the economic outlook improves in the second half of the year. My major concern about the company is the increasing level of debt that the company is taking on.Disclosure: At the time of writing the author did not hold shares in Quicksilver Gas Services (KGS).
A term which you are going to hear a lot in the coming weeks is "quantitative easing" which, put very simply, refers to the practice of central banks creating money. On March 6th, The Bank of England announced £150bn of quantitative easing, increasing the risk of inflation in the UK and now the US is following suit. The FOMC announced this week that it would purchase $300 billion worth of longer term US treasuries over the next six months. Unsurprisingly, this announcement caused the US dollar (USD) to fall, particularly against the euro (EUR), and the price of gold to jump.The Chinese government has the world's largest holding of US treasuries and has recently openly expressed their discontent over the devaluing nature of the US government's activities toward their investment. If they were to fear that the value of their holdings was going to decline, they would most likely be obliged to sell them off and salvage whatever value they can before the market for US treasuries crashes. Which leads me to an interesting supposition, that the Federal Reserve is not going to be buying freshly created treasuries, which would have a strong inflationary effect, but in actual fact is going to buying existing treasuries from China! This in turn carries with it the implication that the Chinese will not be purchasing any more new treasuries from the US in the near future, increasing speculation that the Federal Reserve is set on devaluing the US dollar (USD), thus inflating asset values. Of course, there are deeper implications to this as this effectively gives China the chance to increase its share of the global market and continue with its incredible economic growth. The credibility and influence of the US government over China is weakening, and attempts to coerce China into allowing the yuan (CNY) to appreciate will likely fall on deaf ears. There is even the scary possibility that China may decide to devalue the yuan (CNY) as the US dollar (USD) begins to slide. This will effectively bolster the Chinese economy and increase global market share. Of course, in practice it cannot be that simple, as the US government can always retaliate by increasing import taxes on Chinese goods and before you know it, the global depression is worse than it was to start with!I believe that the discussion of the Chinese yuan's (CNY) valuation is going to be high on everyone's agendas in the coming weeks, particularly following the FOMC's move to devalue the US dollar (USD). Added to which we are likely to see some real fireworks in the treasury market. The outrage following the AIG bonus scandal will soon pale into insignificance in the light of more important events with much more dire consequences. I don't for one second buy into the heavily touted deflation banter and think that we're in for steady paced inflation in the upcoming months.
I expect continuing increases in the price of oil, gold and other commodities, and I ultimately fear a collapse in the treasury market. The collapse when it comes leaves me with the fear in the back of my mind that there is a strong probability that the US will have to default on its debts, as they cannot keep on printing money indefinitely. I do anticipate that the eurozone will crash first, which may somehow enable the US to crawl from the wreckage intact, but either way I don't believe the ride is close to being over.
Disclosure: At the time of writing the author held shares in ProShares Ultrashort 20+ Year Treasury ETF (TBT).
Dorchester Minerals LP (DMLP) is the owner of natural gas and oil royalty properties. The company has practically no debt, high insider ownership, proven reserves and additional mineral interests.The price of DMLP stock is mostly influenced by long-term oil and natural gas prices, and as such has suffered in recent months falling to a 52 week low of $14.80. DMLP currently trades at $17.74, well below the 52 week high of $36.49, which I believe presents real value as energy prices will resume their upward trend over the long term. While you are waiting for the stock price to recover, Dorchester Minerals LP (DMLP) boasts a generous 12.2% dividend yield.
While I fully expect renewable and green technologies to play an increasing role in energy production in the future, oil and natural gas will remain a major source of energy in the intermediate term. Dorchester Minerals LP (DMLP) currently trades at a trailing P/E of 7.4 and I anticipate a 12-month price target of $25 as the economic outlook improves in the second half of the year.
Disclosure: At the time of writing the author did not hold shares in Dorchester Minerals LP (DMLP). As a Limited Partnership, capital gains are factored differently, so please consult with a tax adviser prior to investing.
Yanzhou Coal Mining Co. (YZC) is China's second largest coal mining company, with over 2 billion tonnes in reserves, and has recently expanded into Australia. The stock price of Yanzhou Coal Mining Co. (YZC) has been hit particularly hard over the past 6 months or so, and will in all likelihood continue to fall in the short term. However, I believe that the company has excellent longer term prospects.
China consumes more coal than the United States, Europe and Japan combined and continues to build new coal-fired power stations. While coal is considered to be the dirtiest of all energy sources, the environmental impact is less critical in the immediate future as greener technologies are just not economically viable in China at this time. Obviously this will change in the future, but for now China will continue to burn coal and lots of it.
The company has low debt, has shown excellent growth in recent years, and pays a 3.5% dividend.
Yanzhou Coal Mining Co. (YZC) currently trades at a trailing P/E of 4.2, below book value, and a price of $7.05. I anticipate a 12-month price target of $13 as the economic outlook improves in the second half of the year.
Disclosure: At the time of writing the author did not hold shares in Yanzhou Coal Mining Co. (YZC).
With an 80% net profit interest in XTO Energy (XTO) projects that span three states, including the prolific Anadarko basin, Hugoton Royalty Trust (HGT) provides good exposure to the natural gas sector, while at the same time giving the investor significant royalty income.
The price of HGT stock is mostly influenced by the long-term natural gas price, and as such has suffered in recent months falling to a 52 week low of $14. HGT currently trades at $16.98, a far cry from the 52 week high of $37.86, which I believe presents real value once natural gas prices resume an upward trend.
While I fully expect renewable and green technologies to play an increasing role in energy production in the future, natural gas will remain a major source of energy in the intermediate term. Hugoton Royalty Trust (HGT) currently trades at a trailing P/E of 5.98 and I anticipate a 12-month price target of $20 as the economic outlook improves in the second half of the year.
Disclosure: At the time of writing the author held shares in Hugoton Royalty Trust (HGT).
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