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Jim Simons' Picks in the Midstream Segment

October 28, 2013 | About:
Once in a while a guru registers transactions for more than one company in the same segment. In this case, Jim Simons seems to have a difficult choice, or truly consider both MarkWest Energy (MWE) and Kinder Morgan Energy (KMP) as worthy investments. Let me take a look at the prospects for these companies to see whether both remain suitable long-term investments, and whether this time is right for taking a position.

Great Prospects, Greater Debt

Kinder Morgan Energy is engaged in the transportation and storage of energy commodities in the USA and Canada. The last quarter report showed the natural gas pipelines segment dominated quarterly results. The oil, products pipeline, and terminals segments saw improvements as well, although modest when compared directly. Additionally, the company has important projects underway valued at $14 billion total expected to feed future growth. Overall, the firm continues to attract the admiration of analysts due to its impressive growth and financial discipline.

In the near term, Kinder Morgan Energy is expected to grow through opportunities at the Eagle Ford and Haynesville shale. In line, the firm acquired the Tennessee Gas Pipeline and a stake in the El Paso Natural Gas to support the operations. Management has hinted that future projects may see the transformation from gas to crude oil of its stake on the El Paso Natural Gas pipeline. Additional projects are looking at neighboring Mexico as the end of a possible expansion for the same pipeline.

Good news for Kinder Morgan Energy shareholders is the raising of quarterly dividend payments for the 49th since February of 1997. The evidence points to the company’s credentials for a secure long-term investment supported by a continuous emergence of the natural gas shale, increase in carbon dioxide demand in the Permian Basin, and rising demand for export coal. The downside is the oil & gas industry’s price volatility, supply-demand imbalance, and rising interests.

Financially, Kinder Morgan Energy is moderate due to a high debt. Trading at 10.8 times its trailing earnings, the stock packs an important discount to the industry average. Jim Simmons, the largest guru holding a position, increased his stake throughout 2013. However, he has been the only one making a strong bid on the firm. I appreciate all future projects but see a great financial risk, and prefer to remain on the sidelines.

Great Prospects, Greater Premium

Unlike Kinder Morgan Energy, MarkWest Energy’s activities are concentrated in the gas segment. The firm gathers, processes, fractionates, and transports natural gas, natural gas liquids, and crude oil in the Southwest, Gulf Coast, and Northeast. Most notably, the firm is one of the largest processors of natural gas in the Appalachian region. Another strong point for the company is its wide portfolio of midstream assets, and reliable track supporting gas producers. An important characteristic for MarkWest Energy is the no payment of incentives to a general partner.

Great prospects for MarkWest Energy are associated with supporting activities at the Marcellus Shale as producers continue to invest on infrastructure expansion. Prospects are further fueled by the development of a partnership with Sunoco Logistics for the construction of an ethane distribution and transportation system. The project is expected to connect the Marcellus Shale with the Gulf Coast. In line with the project, the company acquired Keystone Midstream Services to increase the partnership’s processing capacities.

On the downside, MarWest Energy a higher degree of exposure to commodity price than the competition limits unexpected earnings surprises. Even more, the high exposure can have terrible effects over performance should gas prices experience a sudden drop. Looking forward, acquisitions are expected to continue playing an important role in the growth strategy. But growth impact will probably be limited and considerably smaller than previous acquisitions.

Financially, MarkWest Energy is strong thanks to growing revenues and net income. Currently trading at 131.6, the stock carries a huge premium to the industry average. Jim Simmons has been the only one registering a transaction during the current year. He is also the largest guru holding a position in the firm. I share his optimism but the premium is too big at this time.

Debt vs Premium

I honestly like both companies and feel that they are well positioned to take advantage of current and future market synergies. However, the stock price premium carried by MarkWest Energy is too big. It is big on its own, but even larger when compared to the small risks associated with Kinder Morgan Energy´s debt levels. For the same reason, I think this the right time to take advantage of the discount offered by Kinder Morgan Energy, and add its stock to your long-term portfolio.

Disclosure: Vanina Egea holds no position in any of the mentioned stocks.

About the author:

Vanin Aegea
A fundamental analyst at Lone Tree Analytics

Visit Vanin Aegea's Website


Rating: 4.5/5 (2 votes)

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