Fund Manager
Norm Lamarche
While investors and traders were happily looking forward to the end of 2007’s volatility, the beginning of 2008 has reminded them of a popular favorite: “Be careful what you wish for!”. The extreme volatility to capital markets in January saw most Western based markets down 15-20% at their throughs in mid January, as the credit crisis continued to take more prisoners.
The actions of a rogue trader at Society Generale of France also played a role in sending markets in Europe crashing down to their single biggest one-day falls in many years.
Fearing a more broader based financial problem along with the dreaded potential R word (recession), the U.S. Federal Reserve cavalry came to the rescue with emergency interest rate cuts.
As a result of the inherent volatility, the month of January continued to be large-capitalization dominated as investors maintained a shorter term view of the world. Most pundits are revising their economic outlooks lower, impacting the pure cyclicals more directly.
In Canada, the S&P/TSX Energy sub index declined 7.0%, while the XOI and OSX indices fell 12.1% & 16.2% respectively. The Front Street Energy Venture Fund rose 2.37%. The Fund benefitted by having no exposure to the Uraniums. The E&P segment added 66 beeps, while the Energy Services group added 27. The Energy alternatives (wind, ethanol, run-of-river) added 47 basis points while the OTHER segments generated 97 beeps for the month.
Year end window dressing and tax-loss selling was very evident this year. As many investors began walking, post the new Alberta Royalty package. Industry reacted both quickly and swiftly to the new taxes. The major producers dramatically curtailed their planned 2008 capex to Alberta’s conventional assets, reallocating to other basins. Faced with no fresh capital from Capital markets, the juniors and intermediates ratcheted their spending plans as well. Recent corporate and asset transaction valuations in Canada reflect institutional sentiment. For example, in December, the average M&A (or asset transaction) traded at Canadian $51,604/BOE/d, with a large number of the transactions taking place in the $30K/producing barrel! Valuations, particularly for the Gassie deals, would have fetched $80K to $100K levels less than two years ago!
We think it’s overdone! Notwithstanding the broader concerns of the capital markets, the Canadian group should improve for the following reasons:
- Natural gas prices are recovering as the fundamentals continue to lead to lower inventory levels. Given the relative prices in Europe and Asia for Natural Gas, we would expect to see lower y/y LNG shipments into the U.S. this year.
- The Canadian dollar has given back much of its gains. After having touched a high of 1.1 to 1 against the U.S. greenback late last year, logic is seemingly prevailing as the Canadian currency has drifted back towards the mid 90’s. Its impact on Canadian Natural gas prices has been very evident. Canadian producers are now starring at gas prices in the $7.50 - $8.00/mcf range for 2008 (compared to $5.50 - $6.00 recently!).
- Costs continue to ramp downwards reflecting the inactivity, post tax ruling! Drilling & servicing costs are off 40% from 18 month highs! Trucking costs have been cut in half! Rigs are available and their crews are experienced. Wells that would normally take 8 days to drill and complete are now taking 6 (as they should) with the better rig/crew productive combinations. Land and people costs are either lower and/or available.
- Current industry valuations will either attract new investors or M&A will ramp-up, as many are worth more “dead than alive!”.
- The Alberta government will likely (once elected) introduce some tax relief, having now recognized the extent of the pain that they inflicted last year.
The producers are getting a better bang for the buck, which should translate into stronger recycle rates (higher growth rates) we are adding to the group.
While we don’t expect the volatility to subside anytime soon, we are sticking with our themes.
Norm Lamarche
Portfolio Manager
Front Street Capital
Front Street Energy Venture Fund Ltd.
Date Published
Fund Manager
While investors and traders were happily looking forward to the end of 2007’s volatility, the beginning of 2008 has reminded them of a popular favorite: “Be careful what you wish for!”. The extreme volatility to capital markets in January saw most Western based markets down 15-20% at their throughs in mid January, as the credit crisis continued to take more prisoners.
The actions of a rogue trader at Society Generale of France also played a role in sending markets in Europe crashing down to their single biggest one-day falls in many years.
Fearing a more broader based financial problem along with the dreaded potential R word (recession), the U.S. Federal Reserve cavalry came to the rescue with emergency interest rate cuts.
As a result of the inherent volatility, the month of January continued to be large-capitalization dominated as investors maintained a shorter term view of the world. Most pundits are revising their economic outlooks lower, impacting the pure cyclicals more directly.
In Canada, the S&P/TSX Energy sub index declined 7.0%, while the XOI and OSX indices fell 12.1% & 16.2% respectively. The Front Street Energy Venture Fund rose 2.37%. The Fund benefitted by having no exposure to the Uraniums. The E&P segment added 66 beeps, while the Energy Services group added 27. The Energy alternatives (wind, ethanol, run-of-river) added 47 basis points while the OTHER segments generated 97 beeps for the month.
Year end window dressing and tax-loss selling was very evident this year. As many investors began walking, post the new Alberta Royalty package. Industry reacted both quickly and swiftly to the new taxes. The major producers dramatically curtailed their planned 2008 capex to Alberta’s conventional assets, reallocating to other basins. Faced with no fresh capital from Capital markets, the juniors and intermediates ratcheted their spending plans as well. Recent corporate and asset transaction valuations in Canada reflect institutional sentiment. For example, in December, the average M&A (or asset transaction) traded at Canadian $51,604/BOE/d, with a large number of the transactions taking place in the $30K/producing barrel! Valuations, particularly for the Gassie deals, would have fetched $80K to $100K levels less than two years ago!
We think it’s overdone! Notwithstanding the broader concerns of the capital markets, the Canadian group should improve for the following reasons:
The producers are getting a better bang for the buck, which should translate into stronger recycle rates (higher growth rates) we are adding to the group.
While we don’t expect the volatility to subside anytime soon, we are sticking with our themes.
Norm Lamarche
Portfolio Manager
Front Street Capital