SET Portfolio Update January 2017

Sector Spotlight: 

Where Is Natural Gas Heading?

Natural gas futures plunged 21% between December 28 and January 9.

The futures hit a two-year high in late December, and then the gains were melted away by an unsettling series of weather forecasts calling for a warmer winter.

Since then, a few rugged storms and the return of chilly, wintry temperatures has nudged futures prices back up.

Back in June, we recommended the First Trust ISE-Revere Natural Gas Index Fund (FCG).  We typically shy away from commodity investments, which require nerves of steel and uncanny timing skills.

We don’t claim to possess either one, but we are always attracted to value, which is what prompted us to recommend an investment in natural gas.

Today, the ETF closed at $26.54.  It has deliver a 7% return over the past six months.

Is this a good time to take profits?  We don’t think so, and here’s why.

The late December slump came after natural gas prices hit a two-year high.  We view this fallback as a hiccup and not a major trend reversal.  But behind the scenes of the daily price moves, which are typically driven by weather forecasts, an interesting collection of economic factors are locking in.

One is the simple, but significant, impact of supply and demand.  Because coal-fired energy plants are being shuttered, ongoing, base demand for natural gas from major electric utilities is continuing to grow.

For years, we’ve had massive amounts of natural gas in storage.  There has not been a significant drop – not yet – but we have seen an increase in prices, and we could see even more.

Phil Flynn is a senior analyst with the US-based Price Futures Group.  He is one of the market watchers who believes prices will continue to climb, and he points to supply and demand as the reason why.

“I think that this decline in production is really a sign that this market is going to get very tight,” he said.

When it comes to existing supplies, it’s like the bank account that still has a big balance, but where the pace of withdrawals is growing.

And… natural gas exports continue to grow.  So, when we size up the long-term prospects against short term profit taking opportunities, we’re content to ride out the inevitable ups and downs of the market.

Natural gas investors know that every time the temperature goes up higher than forecast, speculators sell.  Prices are volatile, and not always for reasons as rational as forecast demand based on the weather.

When all is said and done, we believe that a year from now, natural gas prices will be higher than they are today, so we’ll hold on.

A Special Note On Dividend Stocks

 This past fall, we recommended two different dividend ETFs.  Our thinking was driven by uncertainties about corporate profits and the strength of the dollar.

We wanted to make sure your ETFs would withstand market turbulence.

What happened instead was a post-election market rally.  We’re not embarrassed to admit we did not see this rally coming.  But we’re glad that we staked out positions in dividend stocks, which are doing well.

Talk of more interest rate hikes ahead do not concern us.  The anticipation of higher rates later this year does not prompt us to rethink our position on the Vanguard High Dividend Yield ETF (VYM) and the PowerShares Dividend Achievers (PFM) ETFs.

We expect corporate profits to continue to grow, to keep dividend payout ratios healthy, to provide modest dividend growth, and to reward investors who depend on income.

Portfolio Update

. . . .  SPDR S&P Pharmaceuticals ETF (XPH) – BUY

President-elect Trump has set his sights on drug manufacturers, and over the past few weeks, the ETF has lost ground. We have no idea how the economics of changes to the Affordable Health Care Act will play out, but we do know that this ETF remains attractively priced.  Fear of the unknown has historically been the market’s most powerful enemy, and as the dust settles, we see the SPDR S&P Pharmaceuticals ETF doing well.  We do not see a long-term downturn at play, but things could easily get worse with this ETF before they get better. 

. . . . Vanguard REIT ETF (VNQ) – HOLD 

We continue to expect strong performance.  The diversification across different real sectors of real estate provides a degree of safety.  Current yield is 4.82%. 

. . . . PowerShares Dividend Achievers (PFM) – HOLD 

See our special note on dividend ETFs.

The yield has now edged up to 2.56%. 

. . . . First Trust ISE Global Engineering & Construction $FLM – HOLD 

As we anticipated, this ETF is a major beneficiary of the Trump election.  If there are legislative bottlenecks, expect slight dips.  Our long-term outlook remains positive.

. . . . Vanguard High Dividend Yield ETF $VYM – HOLD

See our special note on dividend ETFs.

This remains a long-term hold, and a solid source of income.  Current yield is 2.91%.

. . . . First Trust ISE-Revere Natural Gas Index Fund $FCG – HOLD

See our report on natural gas prices.

. . . . PowerShares S&P SmallCap Energy ETF $PSCE – HOLD

After a post-election surge, energy stocks have given up some gains.  The outlook for smaller firms remains favorable.  We recommended the ETF at $15.66 in May.  Today, it closed at $21.17, and we are content to let this winner run.

. . . . Utilities Select Sector SPDR $XLU – HOLD

As we’ve pointed out previously, the expectation of rising interest rates puts pressure on utility stocks.  Even with more rate hikes widely expected, the ETF has regained lost ground over the past few weeks and continues to perform well.  Current yield is 3.41%.

Action to Take

• None at this time.

Category: SET Portfolio Updates