The Energy Report: In your "End-of-America Update" during the Casey Research Summit at the end of this month, you'll be talking about a crisis you foresee that will be worse than the Great Depression. What makes this coming crisis worse?
Porter Stansberry: Let's look at some numbers. During the Great Depression, there was a 3–4-year period of nominal Gross Domestic Product (GDP) decline that the government countered with a combination of fiscal and monetary annual stimulus of roughly 8% of GDP, a relatively mild monetary response to a very significant economic downturn. I think the problem with the current downturn is not its severity. It's actually not severe at all; since 2008 we've had less than one full year of economic decline on a nominal GDP basis. However, the stimulus has been overwhelming, closer to 20% of GDP annually. So what I see being worse than the Great Depression is that our monetary foundation has been completely severed. In this case, the medicine is to be feared, not the disease. The recession has been relatively mild, but the fiscal and monetary stimulus to attack it has been more massive than ever before in the history of the United States.
TER: What would you say to those who would argue that the recession has been mild as a result of the large stimulus?
PS: That's nonsensical. You cannot tax yourself to prosperity. You cannot redistribute your way to wealth. The worst aspects of the Great Depression didn't occur due to the stock market crash in 1929. They occurred because of the confluence of the Smoot-Hawley Tariff Act and enormous tax increases that accompanied Franklin D. Roosevelt's election, in addition to a huge increase in regulation and the confiscation of private property. None of those things helped anything. The low point came at the end of the fall of 1937, a full four years after these supposedly stimulative measures had been put into effect.
TER: Juxtaposing this doesn't seem to jibe with your being more bullish on stocks than you've been since 2008, as you recently wrote. Why would you be more bullish on stocks in the scenario you've just laid out?
PS: When the government prints money, sooner or later it will end up in the stock market. You can't print yourself to wealth or prosperity, but you sure as heck can print yourself to higher stock prices. That's what the government has decided to do. In particular, I think it has rigged the stock market and the banking system to recapitalize the banks. And that represents an opportunity for investors. When you can buy banks for very big discounts to book value in this kind of environment, you probably should.
TER: Speaking of investment opportunities, in a 2010 interview you also recommended blue chips. At that time, you said they were cheap. Can you still find blue chips in 2012 at prices that create no-risk or low-risk situations?
PS: You can. I would point to Johnson & Johnson (JNJ:NYSE) as a great example. If you had enough money, you could buy the entire stock and finance it with its cash flows, which is the definition of no-risk investing in equities. I'm not saying that there's actually no risk. That's not what I mean. By no-risk investing, I mean there's no greater risk—no additional risk—in buying the equity than in buying the debt. Importantly, since I originally recommended Johnson & Johnson stock, the company has increased the dividend by 79%. That's the key. Such dividend increases protect you from inflation.
TER: Could you elaborate on your point about no-risk investing in the context of stocks versus bonds?
PS: It relates to the margin of safety. In Security Analysis: The Classic 1934 Edition, Benjamin Graham's great insight into investing was this concept of a margin of safety. He indicated that one finds the most significant margin of safety in a company that could afford to pay for itself, obtain the whole enterprise value, buy all of its outstanding stock and pay all of its outstanding debt. Some large-cap blue chip stocks offer particularly good margins of safety.
TER: In the context of growth and investment strategies, let's turn to natural gas. In one of your recent newsletters, you referred to the natural gas market as perhaps the single biggest anomaly you've seen in your entire career.
PS: There's an enormous amount of money to be made in natural gas over the next five or six years, and it's so simple to understand. There are many places where natural gas can and will supplant coal and oil. It just has to be cheap enough to make it worth the capital investment of switching. There's no doubt in my mind that we're at that point. I don't think natural gas has ever been as cheap relative to oil as it is currently, with the ratio of the price per barrel of crude oil to the price per 1,000 cubic feet (1 mcf) of gas now above 50:1. I can't find a period in history where the ratio was ever more than about 24:1 or 25:1—and the 25:1 was an historical high as recently as August 2009. So, compared to oil, natural gas has gone from being abnormally cheap to being stupendously cheap.
Those low prices are driving a lot of natural gas companies and a lot of exploration and production (E&P) companies out of business. I anticipate a half dozen to a dozen natural gas and E&P companies failing over the next 12–18-months. When their assets are auctioned in bankruptcy, they're going to be great buys. If you know what you're doing, you're going to be able to buy natural gas in the ground for a very low price.
I'll give one example of a publicly traded company where you can do this right now, which is Chesapeake Energy Corp. (CHK:NYSE). It is currently trading at about $20/share, and that includes all of Chesapeake's proven undeveloped resources (PUDs)—resources that neither the Securities & Exchange Commission nor the stock market acknowledges. Earlier this month, Chesapeake did a $2.6 billion (B) deal—monetizing three oil and gas assets—and the company plans to sell off some $10B worth of assets before year-end. Chesapeake's market cap is about $13B, and I'll bet selling those assets won't change its market cap at all, because the market doesn't currently value what it is selling anyway. The market gives it credit only for its current production. So no matter how much natural gas these companies have in the ground, it isn't being valued at all. It's as if the stock market believes that natural gas will never have a value in the future.
But guess what? In 2015, three or four liquid natural gas (LNG) export plants will be coming online in the United States. And overseas, gas doesn't trade for $2/mcf. In Europe, it trades for $7–8/mcf, and for about $12/mcf in Asia. What happens to the value of all those reserves when the prices finally get arbitraged thanks to LNG? Once the U.S. starts exporting gas at international rates, U.S. prices will rebound significantly. So I see a great opportunity. If you're smart and know what you're doing, you can buy up all these resources in the ground, either in bankruptcy auctions or in equities of companies that aren't forced into bankruptcy because they aren't getting any credit for those assets. You can buy them up for literally pennies on the dollar right now. I think those pennies are going to be worth a lot of money in four or five years.
Natural gas will soar, one way or another. Opening up U.S. natural gas to international demand will change the entire marketplace dynamic. Those resources that are now considered worthless will be worth maybe $5–6/mcf. Suppose you pick up 1 billion cubic feet of gas that you pay next-to-nothing for—maybe a dime on the dollar, so $100 million gets you $1B worth of gas. In three years, you'll be able to sell that gas for more than $1B. As we speak, people out there are organizing the funds to buy the gas to make that trade. Some of them are my subscribers and when some of your readers see this interview, they'll pick up on the same idea. The idea is to make a lot of money in natural gas by buying it smart with equity, not with debt, and holding it until the LNG markets come online.
TER: So what does all of this mean for investing in oil?
PS: It's the right time to be investing in natural gas because no one else is doing it. The E&P companies are divesting natural gas as fast as they can. I mean, Chesapeake's selling every PUD it can and getting a lot of money for it. Unfortunately, they're selling at the bottom, but it beats going bankrupt.
As for oil, I'm very concerned about oil prices because all the technologies that have been used to bring us this glut of gas also are being used to bring up a glut of oil. So much oil is coming out of the Bakken in North Dakota that they've run out of pipeline space to carry it to Cushing, Oklahoma. The same thing will happen in Eagle Ford in south Texas, Marcellus in Pennsylvania and Niobrara in Wyoming. We've tapped into a sea of oil larger than anyone can imagine. I really do believe that oil prices will collapse over the next few years, down to below the marginal cost of production. According to FCC filings I've read, the marginal cost of production with gas is around $2.60/mcf. The price of gas today is $2.10/mcf. The marginal cost of shale oil in liquids is probably around $50 per barrel ($50/bbl), so that would imply maybe a price in the $40s—in today's dollars. The nominal price in the future may be higher than that due to inflation, but it could still be a lower real price.
If you're long on oil, you've got to have your head examined because a tidal wave of oil is about to hit the market. People had a hard time believing that about gas four years ago, and they're going to have the same problem accepting it about oil today.
TER: Does the negative public reaction to fracking and the potential for regulatory bans create a potential black swan for the Bakken, Marcellus and Eagle Ford?
PS: Whoever bans fracking may get thrown out of office. Americans may hate oil companies if you ask them in an opinion poll, but they hate high gasoline prices more.
TER: Do you think people outside the industry understand the relationship between the risks of fracking and high oil prices?
PS: I do. It's funny that you used the term black swan in terms of the risks in the oil fields. I've actually written about black swans in the other context. A few months ago, Anadarko Petroleum Corp. (APC:NYSE) was drilling in the Wattenberg field in the Rockies. Although this field—heavily explored and heavily drilled—has been in continuous production since 1903, Anadarko discovered a new billion-barrel resource that nobody knew about before. The more drilling we do in these shales, the more likely the discovery of more expansive deposits than anything anyone ever imagined.
Current estimates indicate the presence of 20B barrels of oil each in Eagle Ford, Bakken and Marcellus shales. I believe those estimates will grow by leaps and bounds to a point that they're talking more like 100B barrels in those shales. No one knows what's down there because no one has done very much drilling yet. The more they drill, the more oil they're going to find.
TER: So, in terms of investing, are you shorting the oil companies?
PS: No, but I'm being very cautious about which ones I buy. You have to be careful. There's a big shale field out there next to Abilene, Texas, that so far has been a secret in the industry. I became aware of it a couple of months ago. It's called the Three-Fingered Shale. I'm allowed to talk about it now because Chesapeake finally disclosed its interest in the field. The other leading company with leases in the Three-Fingered Shale is EOG Resources Inc. (EOG:NYSE). We bought Chesapeake primarily because of its natural gas reserves but also because I knew it had a leading position in this field, which I think will end up being another 20B barrel resource.
Investors who buy oil companies with access to these huge reserves at the right price may do fine, but they must realize that oil prices will be crushed and companies that paid too much for their reserves will be hurt. Actually, I think there are safer ways to invest in the boom, and right now I'm favoring LNG shipping companies. That niche will experience a huge growth trend that will last for decades. Similarly, I think it would be wise to buy into service companies engaged in drilling and pipelines. There are lots of ways to make money in this situation.
However, I wouldn't count on making money buying up reservoirs of oil on the assumption of oil prices running between $80 and $100/bbl out into the future because those prices won't last.
TER: Are you looking at other opportunities in energy?
PS: No; if I can get natural gas for free I'm going to do pretty well. The same goes for LNG tankers, because demand for them is soaring. Leasing and rental rates are sky high and will be for years to come.
TER: Do you have recommendations in the tanker investment arena?
PS: I recommended Teekay LNG Partners L.P. (TGP:NYSE) in my newsletter in December. I haven't found the right pipeline company to buy yet, because their prices are so high and yields so low. As far as oil and gas companies go, in addition to Chesapeake and EOG, we also still own ConocoPhillips (COP:NYSE). We own those for various reasons, but as I suggested earlier, the bottom-line is that they have very cheap resources.
TER: Very good. Any other advice for our readers?
PS: Buy some gold. Buy some silver. Be prepared for your real wages to fall. And be prepared for some real fireworks out of Washington, D.C., where they're going to do some incredibly stupid things over the next couple of years and bring on a whole new level of absurdity.
TER: Strong words. Thank you for sharing your thoughts with us today.
PS: My pleasure.
After serving a stint as the first American editor of the Fleet Street Letter, the oldest English-language financial newsletter, Porter Stansberry founded Stansberry & Associates Investment Research, a private publishing company, 14 years ago. Stansberry & Associates has subscribers in more than 120 countries and employs some 60 research analysts, investment experts and assistants at its headquarters in Baltimore, Maryland, as well as satellite offices in Florida, Oregon and California. They've come to Stansberry & Associates from positions as stockbrokers, professional traders, mutual fund executives, hedge fund managers and equity analysts at some of the most influential money-management and financial firms in the world. Stansberry and his team do exhaustive amounts of real world, independent research and cover the gamut from value investing to insider trading to short selling. His monthly Stansberry's Investment Advisory newsletter deals with safe value investments poised to give subscribers years of exceptional return. Click here to learn more about Stansberry, his outlook and ideas.
Want to read more exclusive Energy Report interviews like this? Sign up for our free e-newsletter, and you'll learn when new articles have been published. To see a list of recent interviews with industry analysts and commentators, visit our Exclusive Interviews page.
DISCLOSURE:
1) Karen Roche of The Energy Report conducted this interview. She personally and/or her family own shares of the following companies mentioned in this interview: None.
2) The following companies mentioned in the interview are sponsors of The Energy Report: None. Streetwise Reports does not accept stock in exchange for services.
3) Porter Stansberry: I personally and/or my family own shares of the following companies mentioned in this interview: None. I personally and/or my family am paid by the following companies mentioned in this interview: None. I was not paid by Streetwise Reports for participating in this story.
Porter Stansberry: Let's look at some numbers. During the Great Depression, there was a 3–4-year period of nominal Gross Domestic Product (GDP) decline that the government countered with a combination of fiscal and monetary annual stimulus of roughly 8% of GDP, a relatively mild monetary response to a very significant economic downturn. I think the problem with the current downturn is not its severity. It's actually not severe at all; since 2008 we've had less than one full year of economic decline on a nominal GDP basis. However, the stimulus has been overwhelming, closer to 20% of GDP annually. So what I see being worse than the Great Depression is that our monetary foundation has been completely severed. In this case, the medicine is to be feared, not the disease. The recession has been relatively mild, but the fiscal and monetary stimulus to attack it has been more massive than ever before in the history of the United States.
TER: What would you say to those who would argue that the recession has been mild as a result of the large stimulus?
PS: That's nonsensical. You cannot tax yourself to prosperity. You cannot redistribute your way to wealth. The worst aspects of the Great Depression didn't occur due to the stock market crash in 1929. They occurred because of the confluence of the Smoot-Hawley Tariff Act and enormous tax increases that accompanied Franklin D. Roosevelt's election, in addition to a huge increase in regulation and the confiscation of private property. None of those things helped anything. The low point came at the end of the fall of 1937, a full four years after these supposedly stimulative measures had been put into effect.
TER: Juxtaposing this doesn't seem to jibe with your being more bullish on stocks than you've been since 2008, as you recently wrote. Why would you be more bullish on stocks in the scenario you've just laid out?
PS: When the government prints money, sooner or later it will end up in the stock market. You can't print yourself to wealth or prosperity, but you sure as heck can print yourself to higher stock prices. That's what the government has decided to do. In particular, I think it has rigged the stock market and the banking system to recapitalize the banks. And that represents an opportunity for investors. When you can buy banks for very big discounts to book value in this kind of environment, you probably should.
TER: Speaking of investment opportunities, in a 2010 interview you also recommended blue chips. At that time, you said they were cheap. Can you still find blue chips in 2012 at prices that create no-risk or low-risk situations?
PS: You can. I would point to Johnson & Johnson (JNJ:NYSE) as a great example. If you had enough money, you could buy the entire stock and finance it with its cash flows, which is the definition of no-risk investing in equities. I'm not saying that there's actually no risk. That's not what I mean. By no-risk investing, I mean there's no greater risk—no additional risk—in buying the equity than in buying the debt. Importantly, since I originally recommended Johnson & Johnson stock, the company has increased the dividend by 79%. That's the key. Such dividend increases protect you from inflation.
TER: Could you elaborate on your point about no-risk investing in the context of stocks versus bonds?
PS: It relates to the margin of safety. In Security Analysis: The Classic 1934 Edition, Benjamin Graham's great insight into investing was this concept of a margin of safety. He indicated that one finds the most significant margin of safety in a company that could afford to pay for itself, obtain the whole enterprise value, buy all of its outstanding stock and pay all of its outstanding debt. Some large-cap blue chip stocks offer particularly good margins of safety.
TER: In the context of growth and investment strategies, let's turn to natural gas. In one of your recent newsletters, you referred to the natural gas market as perhaps the single biggest anomaly you've seen in your entire career.
PS: There's an enormous amount of money to be made in natural gas over the next five or six years, and it's so simple to understand. There are many places where natural gas can and will supplant coal and oil. It just has to be cheap enough to make it worth the capital investment of switching. There's no doubt in my mind that we're at that point. I don't think natural gas has ever been as cheap relative to oil as it is currently, with the ratio of the price per barrel of crude oil to the price per 1,000 cubic feet (1 mcf) of gas now above 50:1. I can't find a period in history where the ratio was ever more than about 24:1 or 25:1—and the 25:1 was an historical high as recently as August 2009. So, compared to oil, natural gas has gone from being abnormally cheap to being stupendously cheap.
Those low prices are driving a lot of natural gas companies and a lot of exploration and production (E&P) companies out of business. I anticipate a half dozen to a dozen natural gas and E&P companies failing over the next 12–18-months. When their assets are auctioned in bankruptcy, they're going to be great buys. If you know what you're doing, you're going to be able to buy natural gas in the ground for a very low price.
I'll give one example of a publicly traded company where you can do this right now, which is Chesapeake Energy Corp. (CHK:NYSE). It is currently trading at about $20/share, and that includes all of Chesapeake's proven undeveloped resources (PUDs)—resources that neither the Securities & Exchange Commission nor the stock market acknowledges. Earlier this month, Chesapeake did a $2.6 billion (B) deal—monetizing three oil and gas assets—and the company plans to sell off some $10B worth of assets before year-end. Chesapeake's market cap is about $13B, and I'll bet selling those assets won't change its market cap at all, because the market doesn't currently value what it is selling anyway. The market gives it credit only for its current production. So no matter how much natural gas these companies have in the ground, it isn't being valued at all. It's as if the stock market believes that natural gas will never have a value in the future.
But guess what? In 2015, three or four liquid natural gas (LNG) export plants will be coming online in the United States. And overseas, gas doesn't trade for $2/mcf. In Europe, it trades for $7–8/mcf, and for about $12/mcf in Asia. What happens to the value of all those reserves when the prices finally get arbitraged thanks to LNG? Once the U.S. starts exporting gas at international rates, U.S. prices will rebound significantly. So I see a great opportunity. If you're smart and know what you're doing, you can buy up all these resources in the ground, either in bankruptcy auctions or in equities of companies that aren't forced into bankruptcy because they aren't getting any credit for those assets. You can buy them up for literally pennies on the dollar right now. I think those pennies are going to be worth a lot of money in four or five years.
Natural gas will soar, one way or another. Opening up U.S. natural gas to international demand will change the entire marketplace dynamic. Those resources that are now considered worthless will be worth maybe $5–6/mcf. Suppose you pick up 1 billion cubic feet of gas that you pay next-to-nothing for—maybe a dime on the dollar, so $100 million gets you $1B worth of gas. In three years, you'll be able to sell that gas for more than $1B. As we speak, people out there are organizing the funds to buy the gas to make that trade. Some of them are my subscribers and when some of your readers see this interview, they'll pick up on the same idea. The idea is to make a lot of money in natural gas by buying it smart with equity, not with debt, and holding it until the LNG markets come online.
TER: So what does all of this mean for investing in oil?
PS: It's the right time to be investing in natural gas because no one else is doing it. The E&P companies are divesting natural gas as fast as they can. I mean, Chesapeake's selling every PUD it can and getting a lot of money for it. Unfortunately, they're selling at the bottom, but it beats going bankrupt.
As for oil, I'm very concerned about oil prices because all the technologies that have been used to bring us this glut of gas also are being used to bring up a glut of oil. So much oil is coming out of the Bakken in North Dakota that they've run out of pipeline space to carry it to Cushing, Oklahoma. The same thing will happen in Eagle Ford in south Texas, Marcellus in Pennsylvania and Niobrara in Wyoming. We've tapped into a sea of oil larger than anyone can imagine. I really do believe that oil prices will collapse over the next few years, down to below the marginal cost of production. According to FCC filings I've read, the marginal cost of production with gas is around $2.60/mcf. The price of gas today is $2.10/mcf. The marginal cost of shale oil in liquids is probably around $50 per barrel ($50/bbl), so that would imply maybe a price in the $40s—in today's dollars. The nominal price in the future may be higher than that due to inflation, but it could still be a lower real price.
If you're long on oil, you've got to have your head examined because a tidal wave of oil is about to hit the market. People had a hard time believing that about gas four years ago, and they're going to have the same problem accepting it about oil today.
TER: Does the negative public reaction to fracking and the potential for regulatory bans create a potential black swan for the Bakken, Marcellus and Eagle Ford?
PS: Whoever bans fracking may get thrown out of office. Americans may hate oil companies if you ask them in an opinion poll, but they hate high gasoline prices more.
TER: Do you think people outside the industry understand the relationship between the risks of fracking and high oil prices?
PS: I do. It's funny that you used the term black swan in terms of the risks in the oil fields. I've actually written about black swans in the other context. A few months ago, Anadarko Petroleum Corp. (APC:NYSE) was drilling in the Wattenberg field in the Rockies. Although this field—heavily explored and heavily drilled—has been in continuous production since 1903, Anadarko discovered a new billion-barrel resource that nobody knew about before. The more drilling we do in these shales, the more likely the discovery of more expansive deposits than anything anyone ever imagined.
Current estimates indicate the presence of 20B barrels of oil each in Eagle Ford, Bakken and Marcellus shales. I believe those estimates will grow by leaps and bounds to a point that they're talking more like 100B barrels in those shales. No one knows what's down there because no one has done very much drilling yet. The more they drill, the more oil they're going to find.
TER: So, in terms of investing, are you shorting the oil companies?
PS: No, but I'm being very cautious about which ones I buy. You have to be careful. There's a big shale field out there next to Abilene, Texas, that so far has been a secret in the industry. I became aware of it a couple of months ago. It's called the Three-Fingered Shale. I'm allowed to talk about it now because Chesapeake finally disclosed its interest in the field. The other leading company with leases in the Three-Fingered Shale is EOG Resources Inc. (EOG:NYSE). We bought Chesapeake primarily because of its natural gas reserves but also because I knew it had a leading position in this field, which I think will end up being another 20B barrel resource.
Investors who buy oil companies with access to these huge reserves at the right price may do fine, but they must realize that oil prices will be crushed and companies that paid too much for their reserves will be hurt. Actually, I think there are safer ways to invest in the boom, and right now I'm favoring LNG shipping companies. That niche will experience a huge growth trend that will last for decades. Similarly, I think it would be wise to buy into service companies engaged in drilling and pipelines. There are lots of ways to make money in this situation.
However, I wouldn't count on making money buying up reservoirs of oil on the assumption of oil prices running between $80 and $100/bbl out into the future because those prices won't last.
TER: Are you looking at other opportunities in energy?
PS: No; if I can get natural gas for free I'm going to do pretty well. The same goes for LNG tankers, because demand for them is soaring. Leasing and rental rates are sky high and will be for years to come.
TER: Do you have recommendations in the tanker investment arena?
PS: I recommended Teekay LNG Partners L.P. (TGP:NYSE) in my newsletter in December. I haven't found the right pipeline company to buy yet, because their prices are so high and yields so low. As far as oil and gas companies go, in addition to Chesapeake and EOG, we also still own ConocoPhillips (COP:NYSE). We own those for various reasons, but as I suggested earlier, the bottom-line is that they have very cheap resources.
TER: Very good. Any other advice for our readers?
PS: Buy some gold. Buy some silver. Be prepared for your real wages to fall. And be prepared for some real fireworks out of Washington, D.C., where they're going to do some incredibly stupid things over the next couple of years and bring on a whole new level of absurdity.
TER: Strong words. Thank you for sharing your thoughts with us today.
PS: My pleasure.
After serving a stint as the first American editor of the Fleet Street Letter, the oldest English-language financial newsletter, Porter Stansberry founded Stansberry & Associates Investment Research, a private publishing company, 14 years ago. Stansberry & Associates has subscribers in more than 120 countries and employs some 60 research analysts, investment experts and assistants at its headquarters in Baltimore, Maryland, as well as satellite offices in Florida, Oregon and California. They've come to Stansberry & Associates from positions as stockbrokers, professional traders, mutual fund executives, hedge fund managers and equity analysts at some of the most influential money-management and financial firms in the world. Stansberry and his team do exhaustive amounts of real world, independent research and cover the gamut from value investing to insider trading to short selling. His monthly Stansberry's Investment Advisory newsletter deals with safe value investments poised to give subscribers years of exceptional return. Click here to learn more about Stansberry, his outlook and ideas.
Want to read more exclusive Energy Report interviews like this? Sign up for our free e-newsletter, and you'll learn when new articles have been published. To see a list of recent interviews with industry analysts and commentators, visit our Exclusive Interviews page.
DISCLOSURE:
1) Karen Roche of The Energy Report conducted this interview. She personally and/or her family own shares of the following companies mentioned in this interview: None.
2) The following companies mentioned in the interview are sponsors of The Energy Report: None. Streetwise Reports does not accept stock in exchange for services.
3) Porter Stansberry: I personally and/or my family own shares of the following companies mentioned in this interview: None. I personally and/or my family am paid by the following companies mentioned in this interview: None. I was not paid by Streetwise Reports for participating in this story.
