Energy stocks hold upside potential, says analyst

The bullish US economy is beginning to slow, but at the Banc of America Securities (BAS) energy conference Wednesday in Houston, an official touted the upside potential for energy company stocks.


Karen Broyles
OGJ Online

HOUSTON�The bullish US economy is beginning to slow, but at the Banc of America Securities (BAS) energy conference in Houston, an official touted the upside potential for energy company stocks.

Besides the recent correction of the NASDAQ and anticipated wave of downward corrections in many stocks, telltale signs of a slowing economy such as lower spending in the housing, automotive, and retail sectors are beginning to emerge, says John K. Skeen, director of portfolio strategy for BAS.

But accelerating electricity demand due to rising use of the internet, coupled with aging power generation facilities and lack of enough new plants coming online, make companies with more access to power generation or supply attractive buys, he says.

The surging demand for oil and gas, the latter in particularly strong demand in the US domestic market, is giving some stocks a boost. Skeen also notes that more power plant projects are needed, as many utilities stopped building new generating capacity once they saw that deregulation of the gas markets was approaching.

The new, much-needed generating capacity isn't being added quickly either. One obstacle slowing down new plant construction is the "not-in-my-backyard" mentality of local residents and businesses in areas where new plants are being proposed.

Skeen cites one example of California-based Calpine Corp., which tried to build a new power plant near San Jose. Skeen says that Cisco Systems Inc. nixed that idea because the plant would have been built adjacent to property owned by Cisco. Cisco was planning to construct a new office campus on that property and didn't want the plant next door.

Ironically, technology companies that are heavily involved in internet use are the main drivers behind surging power demand, says Skeen.

When new projects are given the green light, the process of picking a site and constructing a facility generally takes 18-30 months. Currently, growth in new power generation is coming on line at a rate of 1.6%/year, while demand is forecast to increase 3.5-4.0%/year over the next few years, notes Skeen.

If the current trend continues, California will likely begin rationing power usage just as it has rationed gas consumption during recent heat waves in that state, he said.

He's advising investors to steer clear of most retail sector stocks but notes that consumer confidence hasn't fallen enough to drive down industrial and cyclical stocks such as energy. Stocks of cyclical industry companies generally fall as consumer confidence does but tend to rise with surging consumer optimism.

Because so many energy sector stocks are trading below the company's fiscal performance, plenty of upside remains in these stocks for profit-seeking investors, says Skeen.

The stocks of many traditional E&P companies also have potential upside of 30-50%, he says. And surging demand for oil and gas is spilling over into the drilling and oil service sectors as well, bolstering some stocks in those areas. The underlying fundamentals of the technology market also have helped service companies, many of whom are emphasizing technology as a means of reducing costs and improving efficiency.

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