A year ago, oil and gas production in the United States was well into its bloom, thanks to the twin technologies of fracking and horizontal drilling.
Shale regions across the country were giving up more oil and gas than ever before. The Bakken Shale of North Dakota, for instance, had recently produced more oil in a single 12-month period than in the prior 55 years combined. Nearly 200 new drilling permits were issued over the prior year -- in Ohio's Utica Shale alone. And natural gas from previously inaccessible shale reservoirs was accounting for a third of the nation's overall gas production -- a 30-fold increase in a little more than a decade.
Fast forward to 2013.
The harvesting of hydrocarbons beneath the Earth's surface in the United States continues to bloom -- and boom.
Just this week the U.S. Energy Information Administration said natural-gas output will rise to a record high for the sixth consecutive year as new wells come online at shale formations such as the Marcellus in the Northeast. Oil production in the U.S. is up 30% since the beginning of 2011, according to a report in the Christian Science Monitor.
If you're an investor, look for disconnects.
A disconnect can reflect a disparity in prices between two related commodities, such as gold and silver or oil and gasoline. When one of the pair rises or falls inordinately, savvy investors can sometimes take advantage of the discrepancy by buying the laggard or selling the leader, or doing both.
Disconnects can also occur on a broader level, especially in quickly changing situations -- creating opportunities for investors that are no less compelling.
For example, in 2010 prices for lumber, a key component of new housing construction, began to outpace home construction stocks, as reflected in the Dow Jones US Home Construction Index (NYSE: ITB). As the accompanying chart shows, this decoupling foreshadowed a buying opportunity in shares of housing companies.
A decoupling of lumber prices from shares of homebuilders in late 2010 foreshadowed a rise in homebuilder shares.
In northwest Louisiana where Nathan Slaughter lives, it took just three years for natural gas production in the Haynesville Shale to ramp up from nothing to 5 billion cubic feet per day -- a development that was simultaneously playing out in numerous shale regions across the country, again thanks to fracking and horizontal drilling.
All of which prompted Nathan to turn his attention to the nation's energy infrastructure. And what he saw in 2012 was a logistical system that wasn't keeping pace with production. There simply wasn't enough capacity and coverage to handle the load.
If "plastic" was the industry buzzword of the late 1960s, courtesy of the 1968 movie "The Graduate," "pipelines" is the mantra of the current decade.
In fact, as Nathan reported, one industry trade group said the United States would need to install another 35,600 miles of long-haul gas transmission pipeline and 414,000 miles of local gathering lines to meet increased production over the next 25 years. That's enough pipeline to stretch around the Earth 18 times.
At the time, pipeline owners such as EV Energy Partners (Nasdaq: EVEP) and MarkWest Energy Partners (NYSE: MWE) had already enjoyed sizable run-ups in their share prices, so Nathan turned instead to the source: MasTec (NYSE: MTZ), one of the nation's top specialty contractors with particular expertise in pipelines.
If the pipeline owners that operate this infrastructure are busy, Nathan reasoned, the companies that build this burgeoning capacity must be even busier.
Nathan recommended MasTec to readers of his former 100% Letter advisory last May 31 at a price of $16.35 a share. On Thursday, MTZ closed at $30.11, up 84.2%, nearly quadruple the gain in the S&P 500 during the same period.
Get ready for Round Two...
Bob: Before we talk about your current pick in Scarcity & Real Wealth, tell us a little more about MasTec.
Nathan: MasTec is a specialty contractor that installs and maintains infrastructure in the critical energy, utility and communication fields.
You hear a lot of talk about the overburdened power grid and the hundreds of thousands of miles of transmission lines being installed to carry electricity around the country. Guess who's installing those power lines? MasTec has reeled in one bid after another.
The firm's electrical transmission revenues tripled to $200 million in 2011 and topped $300 million in 2012.
MasTec is also perfectly positioned to cash in on the massive investments needed to facilitate exploding data usage over wireless networks. Thanks to a lucrative contract with AT&T (NYSE: T) to install high-bandwidth fiber optic lines in 10 states, the firm's wireless revenues have been climbing at an astronomical rate.
From Dallas to Boston, MasTec is also the exclusive home installer for DirecTV (Nasdaq: DTV) in a dozen states.
And thanks in part to continued government incentives, there is still a strong drive toward alternative sources of energy. Keep in mind, wind towers and solar farms are typically stranded in remote sites like the Mojave Desert, essentially useless until they're connected to transmission lines. This work, too, is falling right in MasTec's lap.
But I think the oil and gas segment holds the most promise.
With thousands of new wells being sunk in prolific shale formations each year, these resources are being pulled out of the ground faster than they can be carried away. There's a severe shortage of available takeaway capacity, so midstream players like El Paso (NYSE: EPB), Spectra Energy (NYSE: SE) and Energy Transfer Equity (NYSE: ETE) are all calling on MasTec to build new pipelines.
When I first invested in MasTec, the firm's pipeline-related revenues had already skyrocketed to $774 million in 2011 from $43 million in 2007. That 18-fold increase represents a torrid compound annual growth rate (CAGR) of 106%. Last year, pipeline work brought in $959 million.
And it's not ending anytime soon.
Just on the natural gas side, it's estimated that the U.S. will need to spend $8 billion on average annually over the next 25 years to add tens of thousands of miles of local gathering lines and long-haul interstate pipelines to accommodate rising production.
MasTec will be cashing many of those checks.
As you mentioned, the market has finally awakened to what is going on. MasTec shares have surged over the past year.
Bob: Do you recommend MasTec for new buyers?
Nathan: I don't think it's too late for new investors. MasTec has been divesting non-core businesses, adding new services, diversifying its customer base and branching out into new foreign markets. The company is starting 2013 with record project backlog of $3.4 billion and is being flooded with orders from multiple sources.
In fact, cash flow visibility in the capital-intensive oil/gas and power transmission segments is so bright that the company is boosting its capital expenditures to take advantage of the opportunities. So far, so good. First-quarter results exceeded expectations for revenues, EBITDA (earnings before interest, taxes, depreciation and amortization) and net income, with adjusted earnings nearly doubling to 27 cents a share from 14 cents.
Nathan: There's a remarkable resemblance between MasTec and my latest recommendation in Scarcity & Real Wealth. Both have the same growth catalyst in place: booming energy production from newly tapped shale formations.
About 350,000 barrels of oil daily are gushing out of the Eagle Ford in South Texas, double that in North Dakota's Bakken. Somebody has to get paid to move it.
But there's more than one way to ship petroleum. Pipelines simply can't carry all of the petroleum that's flowing out of the nation's shales to regional processing and refining hubs -- not by a long shot. So railroads are answering the call.
Union Pacific (NYSE: UNP) carried 140,000 carloads of oil last year, up from 2,400 in 2010. That's a jaw-dropping 58-fold increase in just two years. Not surprisingly, the stock has responded with a nice 31% gain over the past year.
But just as the pipeline builders delivered better results than the pipeline operators, I believe there is an even better opportunity at the bottom of this trend -- instead of the railroad owners, I'm looking at the tank-car builders.
Manufacturers are swamped with unprecedented demand. Most facilities are running around the clock at full capacity and still can't keep up. The industry delivered around 4,400 new tank cars last quarter, but it was flooded with orders for 8,800 more. In other words, incoming orders are outpacing deliveries 2 to 1 -- causing industry backlog to balloon to 46,700.
Believe it or not, there is already more crude oil being transported out of the Bakken Shale by rail than by pipeline. And leaders like BNSF are bracing for much more. The company is forecasting its own crude shipments to soar to 700,000 barrels per day in 2013, up from 500,000 daily at the end of 2012.
So you've got buyers anxious to get new cars to serve customers in places such as the Bakken Shale, but they just aren't being made fast enough. Inevitably, that capacity shortage leads to premium prices.
You just can't ship 200,000 additional barrels per day without adding new tank cars. Will production catch up? Yes, at some point. But probably not for a few years. Until then, business will be booming.
Bob: What is the company you like in this space?
Nathan: I'm a big fan of Trinity Industries (NYSE: TRN).
Trinity is the nation's largest railcar producer, accounting for a dominant 33% share of the market. The Dallas-based company manufactures a variety of rail and tank cars equipped to move oil, chemicals, propane, liquefied natural gas (LNG), and all types of dry cargo. It's also a leading supplier of axles and coupling devices.
Trinity was responsible for 1 out of every 3 railcars delivered in 2012. If that percentage were to stay level, the company would be facing a huge influx of business thanks to simple growth in the market. But the firm's market share isn't level -- it's expanding.
Trinity shipped 19,630 cars last year but received orders for 22,250 new cars, or 41% of the industry total. And its backlog has swelled to 31,990 rail and tank cars, which represent 53% of the industry total.
The value of those 32,000 cars in backlog waiting to be delivered is $3.7 billion. For context, that's triple the $1.2 billion in railcar revenues Trinity generated in all of 2011.
Aside from product sales, Trinity also retains many of the tank cars it manufactures and then leases them out to customers. The company's fleet has quadrupled in size over the past 10 years. Today, it operates a lease fleet of 71,455 railcars that generate over half a billion dollars in steady, recurring annual revenues.
Thanks to internal part sourcing and other manufacturing efficiencies, earnings raced 93% to $3.19 per share last year on revenues approaching $4 billion.
Simply put, North America is in the early innings of an energy renaissance that will require billions in supporting infrastructure. And Trinity is right in the middle of it, from tank cars brimming with crude oil to barges that transport fracking sand to storage tanks that hold natural gas liquids (NGLs).
And the price tag of these tank cars doesn't really change whether the oil that fills them fetches $80 or $120 per barrel, which makes Trinity an ideal way to benefit from surging energy production without being subject to volatile commodity prices.
Action to Take --> I think the stock is a compelling buy right now.