Saturday, December 17, 2011

Encana - when timing is just plain wrong

When it comes to blowing it with stocks, Encana (ECA) is certainly one of those rookie learning experiences I've acquired.  At times, I've held this stock for a gain in 2010 as this stock see-sawed between $27 and $35, but since 2011 this thing has been nothing but a dog.  Why did I purchase it?  Well, to start with, I wanted international exposure in my portfolio.  Sure, Canada isn't one of the superior emerging markets, but if you follow stocks and understand the emerging markets at all, you'd realize that there are few examples of companies from other countries that are doing really well right now.  Canada was a strong economy - especially compared to the US, energy was a sector I wanted in my portfolio because, historically, there have been few other areas with the kind of returns as energy stocks.  This particular company was also a play into Natural gas - a fossil fuel that seemed to make sense as a source for future energy as oil has been precariously expensive and government debts are preventing funding to help get other green energy sources off the ground.  Encana has large quantities of acreage in huge shale plays in both Canada and North America and has been able to maintain one of the best margin rates possible to be able to make money even when Nat gas prices have been down, so this seemed like a pretty safe bet.  Couple all of this with what was a 2% yield at the time - which was around the highest ever for the company (albeit a short-lived company as a pure nat gas play) and I felt even safer.  How wrong could I be?  VERY wrong.  Like I've said, this company is a dog.  Why?  Well, there are a number of reasons behind this, and almost none of them have anything to do with the company's execution.  The real problems are that I didn't see enough risks in this company for where it was at and what was in store for the future. 

Here's just a few of the improper assessments I made while I filled my position.  First, I didn't properly assess what it would take for Nat gas to become more of a fuel of choice to reduce the need for foreign oil - government.  It seems really clear-cut to the average Joe.  We have enough Nat gas to fuel our needs for decades - greatly reducing the need for oil, so we should just jump on it, right?  Not so fast.  There are numerous environmental groups more than happy to block that path and there have been a couple proven areas where water has been contaminated somehow.  So pushing fracking all across our country is going to find the same, if not stiffer road block as the option would get raised in congress.  And then there's Congress itself.  If there were a group of people paid more to do absolutely nothing for any of us, I haven't seen them - but that's all for political debate on some other blog.  Bottom line is that Congress has stalled and blocked the Nat gas bill to help build out the infrastructure needed a number of times now.

Not only is America rich in Nat gas, but we're finding that we're rich in oil too.  If we have oil, we have the infrastructure for oil, and we're using it already, why switch?  Not only that, but we don't have the infrastructure in place for Nat gas right now.  It could take awhile to build it while we burn off Nat gas into the air just to get to oil.  Sounds dumb, yes, but in business sense, it's a matter of working smarter, not harder - even if it is at the cost of other things we'd all like.

Finally, there's the point of the price of Nat gas.  I thought it couldn't go lower.  Boy howdy could I make a worse call.  Here's the reality I didn't realize:  We have GOBS of Nat gas.  On top of that, Nat Gas companies have bee increasing production so they can lay claim to their land contracts and so on.  Meanwhile, because we don't have the vehicles, the winters have been warmer lately, and we have very limited means to export Nat gas, we've all but sopped up the demand.  This is no different than a clothing store that has way too much inventory - the prices just get slashed, and have they ever!  Nat gas has spent the last few months, especially, slipping into the low $3 range and the Nat gas companies are taking a serious hit due to that and anticipated lower demand with macro worries.

So now what?  Do I admit defeat and sell at a large loss?  In a word, no.  You see, if I was going to sell this, I should've done it awhile ago.  I should've recognized these risks and gotten out then.  Now ECA yields higher than major competitors such as Conoco Phillips (COP) and is still a well managed company.  I really wish everyone would cut back on production so prices could climb again until we can do something more about this, but there are obviously reasons why they're still going at it that I don't fully understand yet.  Either way, when a company that is meeting or beating expectations, shows a strong 5 year growth plan, and now has a stock that yields over 4% in a unstable market as we have now, I am going to hold onto this and let it pay me to wait.  Having a 4% yield with strong cash flow makes me feel the dividend is safe and it will help me for when they can actually start exporting Nat gas.  It might be longer than I had expected before I really start seeing returns from this company, but I still believe I will see solid returns from here.