Natural Gas Pipelines

Supply… On the supply side there is an abundance of natural gas. New technologies are increasing the success rate of drilling, and the size of discoveries. Also, the technologies and an abundance of drilling equipment, supplies, and labor have substantially reduced drilling costs. The U.S. is now the world’s largest petroleum producer. Supply is obviously not a pipeline issue.

Demand… On the demand side there is a growing group of major users. Coal powered electrical utilities which make up 30% of all electric power sources are converting to natural gas due to cost and pollution advantages. Chemical companies from around the world that use natural gas as a fuel and/or a feedstock are moving to the U.S. World natural gas prices are from 100% to 700% higher than U.S. prices. The Panama Canal is expanding to allow larger ships through in 2016. For the first time, 300 U.S. Liquefied Natural Gas tankers will be able to transit to the Pacific. Solar and wind also depend on natural gas as a backup fuel. Demand is not an issue.

Regulation… Natural Gas Pipeline companies are regulated as utilities. As such, they are monopolies and have Morningstar’s highest quality rating which is based on their immunity from competition. These companies are allowed 13% returns on capital in order to encourage the building of the pipelines the country needs. In addition, new coal burning regulations will accelerate the use of natural gas. Favorable regulations which allowed the conversion of liquefied natural gas import facilities into export facilities will also substantially increase demand. Regulations have been favorable.

Performance… So why have our pipeline securities failed to perform? The issue starts with ignorance about the pipeline business model and the decline in petroleum prices. The bulk of pipeline income comes from leasing space in the pipelines. Generally, these leases are fixed and long term, and not subject to petroleum prices. This lack of understanding leads to selling when gas prices decline, which leads to additional fear-based selling. Historically this selling lasts less than a year and the recovery is strong leading to the pipeline companies providing excellent total returns. This will probably not be a normal recovery because there are so many positive factors in the supply, demand, and regulatory environments. These tail winds should create a positive investment experience for natural gas pipeline company stockholders.

Sincerely,

Katz Family Financial

In the case of a discrepancy between Fidelity Investments monthly statements and Katz Family Financial monthly portfolio statements, Fidelity Investment statements should be deemed as the correct and accurate reporting source.