For investors willing to take a long-term view on their resource portfolios, this could be the best of times, says U.S. Global Investors CEO and Chief Investment Officer Frank Holmes. If you add patience to your portfolio management strategy, holding discounted oil and gas and metals mining stocks is one way to leverage the price equilibrium that will come when China’s growth hits the market. In this interview with The Energy Report, Fund Manager Brian Hicks shares the names of the juniors farther up the food chain that he is adding to the fund.
The Energy Report: Brian, in your last interview with The Energy Report in May, you were watching the price of West Texas Intermediate crude as compared to the average of the past six major bottoms. What is the chart telling you now?
Brian Hicks: It appeared in April and May that we might see a recovery in crude oil prices. A lot of folks were excited about the rapid decline in the rig count. However, U.S. production remained quite resilient, trending north of 9 million barrels per day (9 MMbbl/d). That caught a lot of people by surprise—the fact that production had not rolled over—and led to a dip in crude oil prices over the summer; they dropped below $40 a barrel ($40/bbl) briefly.
Approaching the end of the year, we see some signs of production slowing. There is a lot of carnage in the energy patch right now. A number of operators are going through their bank redeterminations, are seeing their credit lines cut and are no longer able to issue any high-yield debt, so that’s started to crimp drilling budgets. You are going to see even more of a drop-off in drilling activity, which could lay the groundwork for a strong rebound in 2016.
TER: What indicators do you watch to determine where the larger economy, and energy prices in particular, are going?
Frank Holmes: I focus on the global Purchasing Managers Index (PMI), which is an alternative to gross domestic product and indicates commodity demand. And I am watching China. Second-tier city real estate is still going up, which bodes well for energy prices.
BH: We need emerging market currencies to stabilize. That would be supportive for crude oil demand. Encouragingly, we have seen some stabilization in the emerging market space recently. China is increasing stimulative economic packages that could help revive demand, both in China and around the world.
TER: The last time we chatted, you were moving to mid- and larger-cap names, as you were seeing value in stocks that paid a dividend and offered low volatility. Is that still the direction you’re going?
BH: We have moved up the food chain. Given that companies are finding it very difficult to get access to capital and the cost of capital has gone up, we felt like it was better to invest in larger companies. We are gravitating toward companies with strong balance sheets that can continue to grow through the drill bit even in this low commodity price environment. That would imply that they have very high-quality, low-cost acreage. We feel like we’ve been able to identify some strong candidates in that regard.
BNK Petroleum Inc. (BKX:TSX) (BNKPF) is still a legacy holding. It’s obviously a long-term position with some of the projects it’s undertaken in Europe. Those will be slowed quite a bit given this price environment, but we like the acreage BNK has in Oklahoma, and the crude oil growth we’ve seen. We feel like the company is undervalued if you look at the reserves in the ground. At some point, that value will be realized.
TER: You also mentioned Royal Dutch Shell Plc’s (RDS-A:NYSE; RDS-B:NYSE) acquisition of BG Group Plc (BRGYY:OTCQX; BG:LSE) as one of the reasons you owned the stock. How has that worked out?
BH: Royal Dutch is moving into the execution phase on that deal. Shell will to have to bring the two companies together, optimize the organization, and look for synergies—areas where costs can be cut back. That will be a developing story. The high dividend yield is the biggest reason to own a company of Shell’s size. That is what makes them attractive. This company has been able to grow the dividends, in some cases, at very high, double-digit rates over the last decade. I think a lot of folks who require income look to those names.
