ENFR - Exploring ENFR: A Resilient Contender Amidst Market Uncertainty

2023-07-28 15:40:21 ET

Summary

• I think the Alerian Energy Infrastructure ETF provides a promising investment opportunity in the uncertain economic climate, offering a measure of certainty.
• ENFR stands out from other funds in the energy infrastructure sector due to its diversified portfolio composition, including both energy infrastructure corporations and MLPs.
• The energy infrastructure sector is attractive due to its ability to weather economic volatility, steady cash flows, and high-quality assets, making ENFR an appealing ETF for investors.

Introduction

Navigating the investing landscape amid an uncertain economic climate can feel like stepping into the unknown. With the Federal Reserve hiking interest rates to a point unseen in over two decades, the path ahead for the economy is anything but clear. Is a soft landing on the horizon, or are we teetering on the edge of a recession? Amid these swirling questions, one certainty shines through for me - the steady flow of oil and gas through the veins of energy infrastructure companies. They stand firm, a testament to resilience in the face of uncertainty. These stalwarts are held by the Alerian Energy Infrastructure ETF ( ENFR ). In my opinion, ENFR represents a promising investment opportunity, providing a measure of certainty in our currently unpredictable economic climate.

ENFR: What Sets It Apart

Alerian Energy Infrastructure ETF offers investors access to 30 of the largest energy infrastructure companies, including those involved in oil and gas pipeline, gas gathering, processing, storage, as well as LNG liquefaction and exporting businesses based in the US and Canada.

One major factor that I think sets ENFR apart from other funds focusing on energy infrastructure companies, such as Alerian MLP ETF ( AMLP ) and Global X MLP ETF ( MLPA ), is its diversified portfolio composition. ENFR includes both energy infrastructure corporations and Master Limited Partnerships (MLPs), while funds like AMLP and MLPA primarily focus on MLPs.

This distinction allows ENFR to provide a more representative picture of the energy infrastructure sector as it incorporates leading corporations such as Enbridge Inc ( ENB ), Targa Resources ( TRGP ), and Cheniere Energy ( LNG ). These corporations, being structured differently, often get overlooked by MLP-centered funds but have found their way into ENFR's portfolio. Indeed, they account for some of ENFR's most substantial holdings. Additionally, ENFR's portfolio is broader, encompassing more companies compared to AMLP (16 holdings) and MLPA (21 holdings).

Global X MLP & Energy Infrastructure ETF ( MLPX ) is another ETF that encapsulates both energy infrastructure MLPs and corporations. The top three holdings for ENFR include Enbridge, Enterprise Products Partners ( EPD ), and Energy Transfer LP ( ET ). In contrast, MLPX's leading holdings comprise Williams Companies ( WMB ), Enbridge, and Cheniere Energy. But overall, ENFR and MLPX have largely similar top holdings, barring two exceptions. However, the positions of individual stocks vary.

Despite these similarities, ENFR does offer a marginally higher yield of 5.33%, compared to MLPX's 5.19%, and maintains a lower expense ratio of 0.35% relative to MLPX's 0.45%. ENFR's competitive expense ratio doesn't just fare well against MLPX, but also stands out among its other counterparts. From what I gather, ENFR is the most cost-effective ETF in this segment, levying just $35 annually for every $10,000 invested. This compares favorably to the annual charges levied by other funds, which range from $40 ( TPYP ) to $164 ( AMZA ).

The Case for Energy Infrastructure

The current economic climate presents a mix of signals, demonstrating a striking level of resilience in the US economy, even as the central bank grapples with controlling inflation, which threatens to dampen economic growth. Recently, the Federal Reserve hiked its funds rate to a range of 5.25%-5.5%, pushing interest rates to their highest point in over two decades in an attempt to curb inflation that exceeds its 2% target. In my view, the rate hike cycle might persist until the Fed observes a substantial improvement in inflation, a slowdown in job creation, and signs of an economic cooldown. Despite the economy's historical resilience, the future remains fraught with uncertainty, particularly due to the potential economic deceleration brought on by successive rate hikes. Even though the Fed is not anticipating a recession, a slowdown in GDP growth is still highly probable.

Yet amidst this uncertainty, a stable commodity price environment, continued growth in US oil and gas production, and escalating energy demand paint a promising picture for the energy infrastructure sector in my view. According to estimates from the US Energy Information Administration, dry gas production in the US could rise from 98.13 bcfd in the previous year to 102.35 bcfd in 2023, while crude oil production is projected to grow from 11.89 million bpd in 2022 to 12.56 million bpd in 2023. The US is also predicted to increase its LNG exports from 10.59 bcfd in 2022 to 12.04 bcfd in 2023. This robust demand for energy products is largely driven by the resilience of the US economy as well as thriving economies of emerging nations (like China and India), which the IMF predicts will witness a 4% GDP growth this year.

One of the key advantages I see of the energy infrastructure sector is its ability to weather economic volatility, largely due to their business models. Energy infrastructure companies own vital physical assets that are integral to the country's energy supply chain, operating a fee-based business that generates consistent cash flows. These steady cash flows fuel shareholder dividends and distributions, which generally surpass those offered by utilities and REITs. In contrast to upstream energy companies, midstream corporations and MLPs lack direct exposure to commodity prices, shielding them from the volatility of short-term price fluctuations. I believe this strategic positioning makes the energy infrastructure industry a compelling prospect in the face of economic uncertainties.

ENFR: A Favorable Standpoint

I think what's particularly attractive about ENFR is that it's a top-heavy fund, offering investors substantial exposure to some of the most prominent players in the midstream industry. Its top-10 holdings comprise well-established corporations, boasting a high-quality asset base, and recognized as the titans of the energy infrastructure sector.

ENFR is skewed towards large caps, with the portfolio's weighted average market cap clocking in at nearly $28 billion. This attribute could potentially play to ENFR's advantage, particularly in the existing economic climate, given that large cap corporations are typically better equipped to navigate economic fluctuations compared to their smaller peers. In fact, ENFR's top three holdings - Enbridge, Enterprise Products, and Energy Transfer - can be regarded as the crème de la crème of energy infrastructure entities with premium-quality assets.

Take Enbridge, for instance, the company owns and manages the world's most extensive network of liquid pipelines, spanning over 17,800 miles, and handling about 30% of North America's crude oil. It also operates one of the largest networks of natural gas pipelines that transports roughly a fifth of all the natural gas consumed in the US. Besides, it oversees one of North America's largest natural gas utility companies in terms of volume and customers, and is progressively extending its reach into the renewables sector in North America and Europe.

Enbridge has been working to enhance its existing assets (as evidenced by the new tolling agreement for the Mainline pipeline system), develop new ones (Woodfibre LNG export plant), and make accretive acquisitions (Tres Palacios gas storage facility) - all of which contribute to its earnings and cash flow growth. These strategies should enable Enbridge to meet its targets of expanding EPS and DCF by an average of approximately 5% and 3%, respectively, through 2025, with DCF growth anticipated to accelerate to around 5% post-2025.

More importantly, leading large cap energy infrastructure entities like Enbridge, characterized by a robust business model, are better poised to weather economic cycles compared to other companies. Nearly all (98%, to be exact) of its cash flows stem from contracted or cost of service volumes. Enbridge generates around 80% of its EBITDA from energy assets that have safeguards against rising costs. Moreover, it is relatively insulated from counterparty risk, given that 95% of its clients maintain an investment-grade credit rating.

Similarly, other top-tier energy infrastructure corporations represented in ENFR's holdings also seem to have high-quality assets, robust financial foundations, and resilient operations. This combination has enabled them to reward shareholders with high levels of distribution yields. For example, Enbridge and Enterprise Products Partners, two of ENFR's most substantial holdings, have demonstrated consistent growth in distributions for over two decades. In an unstable economic landscape, these companies, constituting ENFR's portfolio, I think can expect a steady flow of oil and gas through their pipelines. The underlying energy infrastructure corporations and MLPs are likely to sustain healthy levels of earnings and cash flows, thereby ensuring continued distributions to shareholders while financing their growth projects.

Final Thoughts

I think ENFR can be deemed an appealing ETF for investors keen on channeling their investments towards entities capable of navigating economic cycles, while offering superior dividend yields.

However, it's important to note that currently, ENFR's valuation does not present an enticing picture. All of the ETF's top-10 holdings trade at an EV/EBITDA (fwd) multiple ranging from 7.7x to 11.5x, considerably exceeding the sector's median multiple of 5.6x. Moreover, the ETF's existing yield of 5.33% is below the more than 6% average it delivered in the preceding three years. In light of these factors, it would be prudent for investors to keep ENFR on their watch list, considering a buy-in when weakness presents itself.

That said, investors need to account for potential risks associated with investing in ENFR. As previously indicated, although large cap energy infrastructure entities are more resilient against market downturns, they are not entirely immune to adverse conditions, particularly in scenarios where the US economy underperforms expectations. Despite the current resilience exhibited by the US economy reducing the probability of a recession, the possibility cannot be entirely dismissed. A recession could adversely affect energy demand, consequently lowering US oil and gas production and negatively impacting the earnings of energy infrastructure corporations and MLPs.

Furthermore, in the current climate of escalating interest rates, with the federal funds rate ranging from 5.25% to 5.5%, I urge investors to evaluate the potential opportunity cost of investing in a corporation or ETF that offers a similar yield to the current US government offerings. While bonds may not present the potential for capital appreciation or dividend growth like equities, they do represent the lowest-risk profile in terms of investments. Given the present unusually high interest rates, this opportunity cost poses a critical consideration for investors.

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