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Hinds Howard

Principal, Associate Portfolio Manager, Infrastructure

Week Thoughts: Midstream Stocks Sustain September Surge

Midstream stocks traded up amid a strong backdrop for energy stocks and for income stocks.  Oil prices spiked, then settled down, finishing up more than 5% on the week.  Interest rates dropped 18 bps on the week, pushing utilities to new heights and providing a tailwind for midstream stocks.  The MLP Index (AMZ) was positive in back-to-back weeks for the first time since July 12.  The broader midstream index (AMNA) was positive for a 4th straight week.  

It was a good week to be long energy stocks, and probably a tough week to be short energy stocks (especially if one of those was Semgroup).  Monday’s oil price spike on the Saudi Arabia outage was the biggest single day % gain in decades.  While the rally was short lived, uncertainty remains on timing and ability to bring its facility back to full operating capacity, and uncertainty remains on whether the attack will lead to further military action.

Beyond oil prices, there was some big news in midstream on Monday.  We got a true third party corporate M&A transaction when Energy Transfer announced its acquisition of Semgroup at a massive premium (65%). 

Despite all those tailwinds, midstream stocks saw a muted response on Monday, with some of the smaller names moving 5-10% higher, but larger names trading with less enthusiasm.  Alerian MLP Index Equal Weight (which mitigates the impact of ET down 4%) was only up 2%, and the broader midstream index was up less than 1%. 

Midstream Universe to Lose Another Ticker

The SEMG deal may seem like a one-off, but it actually follows a 2019 M&A trend.  The takeout of BPL, the bid for TGE and the purchase of SEMG were all done at large premiums to the stock price at the time, but each transaction resulted in a takeout multiple of around 11-11.5x EBITDA, which is roughly where most U.S. midstream companies trade today (aside from outliers like OKE or MMP that trade better). 

The negative takeaway from the M&A trend, therefore, is that these big splashy premiums don’t argue for a full sector re-rate to some higher multiple.  Asset sales have been done at higher multiples, but corporate M&A is getting done at market multiples.  This may provide comfort on the downside, but it isn’t too compelling on the upside. 

But there is an actionable takeaway: the next corporate M&A situation is likely to be a midstream company with (1) beaten down stock price and (2) a strategic asset that would be valuable on its own.  There aren’t many such midstream companies left, but there are some.  Don’t ask me for specific recommendations.  Happy hunting!

Overreaction Monday

It was nice to get a positive overreaction in energy stocks for a change, even if it was short lived. 

A loyal reader pointed out that while the kids have come up a few times in weekly posts, my wife hasn’t.  Despite not talking about the wife here, I remain happily married, 15 years this November actually.  It feels like timing is right to work in an anecdote involving her and relate it to the energy market this week. 

My wife has a strong maternal instinct.  The beginning of the school year the instinct is on high alert.  She is ready to pounce on any real or perceived slight by anyone associated with school, from kids at the bus stop to the principal of the school.  This heightened level of awareness eventually cools off.  In fact, by the end of the school year, fatigue levels are much higher and her capacity to give a care about small things is much less.

Now, I would never use the word “overreaction” to describe anything my wife does, but something like an overreaction is not foreign to my household, especially in the early weeks of the school year.  I think this week alone, I had a 15 minute discussion with her about a kid at the bus stop talking trash to one of our kids, and another half hour chat about a teacher shutting down another of our kids in front of the class for some reason or another, I don’t really remember…

Anyway, I thought it an applicable metaphor for this week’s overreaction in the oil market and simultaneous under-reaction in midstream. The under-reaction is likely reflective of fatigue in the midstream space such that any single positive event is not enough to garner much enthusiasm, but the low grade enthusiasm is helping midstream grind higher.

Winners & Losers

ET was the biggest MLP to make the bottom 5 this week, dragged down by its Monday M&A announcement of SEMG.  USDP led all MLPs in performance.  USDP is very small, but it does provide direct exposure to crude by rail coming out of Canada, which was the likely driver of investor interest this week. 

EQM repeated in the top 5 and HEP repeated in the bottom 5 this week.  BPMP went from bottom 5 to top 5.  On the YTD leaderboard, CEQP made its return to the top 5 after a 4% return this week.  CEQP is now up 20% since August 15th

Midstream Corporations

SEMG led the group of midstream corporations this week on the big news Monday that ET will be acquiring it.  LNG had news and outperformed, but the entire group traded pretty well this week with 1.9% median return.

SEMG repeated in the top 5 in a big way this week.  ALTM and ETRN repeated as well.  In the bottom 5, PAGP, WMB and TGE repeated.  On the YTD leaderboard, SEMG went from among the biggest losers to among the biggest winners YTD.  TRGP’s recent performance has helped its YTD total return break above 20% again.

Canadian Midstream

TRP led the Canadian midstream corporations this week, but ENB was also near the top again. IPL was the worst performer in a week of U.S. midstream M&A, which is an indication the market is losing interest in the potential for IPL to be taken out, despite a confirmed approach over the summer.

IPL and GEI underperformed again this week.  On the YTD leaderboard, ENB made some more progress in catching up to the rest of the group after some marginally positive news on Line 3 this week.  On the YTD leaderboard, TRP and ENB crept towards 50% return and 20% return, respectively.

News of the (Midstream) World

Capital Markets

  • Plains All American (PAA) priced concurrent secondary public offerings by Oxy Holding Company of 14.98mm PAA common units at $21.46/unit and 15.00mm PAGP shares at $22.05/share, raising $652.2mm in gross proceeds for the seller (press release)
    • PAA and PAGP will not receive any proceeds from the offerings
    • PAA and PAGP offerings were priced at 1.83% and 1.87% discounts, respectively, to prior day close
  • Plains All American (PAA) priced public offering of $1bn of 3.550% senior unsecured notes due 2029 at 99.801% of par (press release)

Growth Projects / M&A

  • Energy Transfer (ET) announced the acquisition of SemGroup (SEMG) at $17/share, or a 65% premium to prior day’s closing price (press release)
    • SEMG stockholders will receive $6.80 in cash and 0.7272 of an ET common unit for each share of SEMG
    • The $5bn transaction is expected to close in late 2019 or early 2020 subject to the approval of SEMG stockholders
    • ET expects the acquisition to be credit neutral and immediately accretive to DCF/unit
    • ET also announced plans to construct the Ted Collins Pipeline, a 75-mile crude oil pipeline between the Houston Ship Channel and Nederland, TX with initial capacity of more than 500,000 bpd
  • Antero Midstream (AM) announced a strategic evaluation of its wastewater treatment facility, Clearwater Facility, and related landfill (filing)
    • While AM performs its evaluation, Clearwater will be idled, which is not expected to adversely impact AM’s operating cash flow
    • This news appears to stem from a dispute with Veolia, the company hired to build the facility
  • NextDecade (NEXT) and Enbridge (ENB-CA) announced a memorandum of understanding (MOU) to jointly pursue the development of the Rio Bravo Pipeline and other natural gas pipelines in South Texas (press release)
    • Rio Bravo is designed to transport 4.5 Bcf/d of natural gas from the Agua Dulce area to Rio Grande LNG
    • Pipeline FID would be dependent on FID of the Rio Grande LNG export facility
  • Cheniere Energy (LNG) and EOG Resources (EOG) announced long-term gas supply agreements in which EOG will sell natural gas to LNG for 15 years with the quantity starting at 140,000 MMBtu per day and increasing to 440,000 MMBtu (press release)
    • This follows a similar deal between LNG and Apache inked earlier this year
  • FERC approved the Cheyenne Connector gets FERC approval today, a 70-mile pipeline being constructed by Tallgrass Energy (TGE) to move gas from processing facilities in DJ Basin to Rockies Express Cheyenne hub (S&P Global)
    • Initial design capacity for the pipeline is 600 MMcf/d.
    • Expected 1Q20 service date will allow DCP’s O’Connor plant and Bypass to ramp to full capacity
  • Enterprise Products (EPD) announced plans to expand its Acadian natural gas system including constructing an 80-mile pipeline on its Acadian Haynesville Extension and adding horsepower at its Mansfield compressor station (press release)

Other

  • Minnesota Supreme Court rejects Line 3 Replacement FEIS appeals (press release)