Investor Insights

November 2018 Investor Report

Published: November 25, 2018Updated: April 25, 2019

Following the trend that began in October, November saw continued selling across all markets and asset classes. The Dow Jones Industrial Average and the S&P 500 are both negative for the year, which is remarkable in view of the large fiscal stimulus package from December of 2017. Overall for the month, the S&P 500 was lower, the DJIA was lower and the NASDAQ decreased 5 percent. Overall for the year, the S&P 500 and DJIA are now in the red, down 1.5 percent and two percent respectively. There are several reasons for this weakness which are in intertwined and we will cover here: weak business earnings guidance, weak housing data and, recently, a shock to energy markets as West Texas Intermediate crude oil prices fell 25 percent in less than a month.

Third quarter earnings season has come and gone and revealing several pronounced trends. Earnings were strong, with most of the companies in the S&P 500 reporting revenues exceeding expectations. Yet most of the S&P 500 company stock prices traded lower on the day of or after reported earnings. This was due in part to weaker than expected guidances. Equity markets are always forward-looking and if a business indicates its future forecast is cloudy, its stock price will suffer. Undoubtedly the ongoing tariff dispute between China and the United States is affecting guidances from companies that trade or produce goods and raw materials in China (which is nearly every company listed on the S&P 500). Rising interest rates are also driving up borrowing costs, with profit margins narrowing commensurately.

Rising interest rates are also driving down first-time home buying.  Lawrence Hu, Chief Economist of the National Association of Realtors has notable drawn attention to this trend. This negative outlook is also reflected in the weak performance of home-builder stock prices. Over the last six months, Lennar, Pulte Group, and William Lyons decreased more than 20%.

Lastly, energy markets were put under immense pressure this month as crude oil prices fell precipitously from $72.50 per barrel to $55 per barrel. We have seen immediate reaction in the Permian Basin as energy and production companies have already issued announcements putting holds on drilling new wells. Lower energy prices are not necessarily bad; consumers and transportation companies often benefit. However, sudden shifts in energy prices put pressure on the entire energy sector with shocks that could result in layoffs and supply issues. The drop in crude oil prices is still too new to assess its long-range impact, but the share prices of several major energy companies have already responded negatively.

Please review the following updates from some of the existing positions that we manage:

GasLog Partners Preferred Stock (GLOP-B) – Gaslog reported strong quarterly earnings in late October. EBITDA ticked up to $59 million from $53-55 million in previous quarters and the preceding year. Gaslog successfully raised $58 million of equity, which supports the preferred stock. It plans to add another vessel later this year for $207 million, adding $22 million in EBITDA. Most importantly, the outlook for liquefied natural gas remains strong as demand is rising everywhere from China to the Northeastern United States. Gaslog made a new preferred stock offering, driving our Series B preferred holdings down slightly. We believe this will bounce back once the new offering is fully absorbed by the market; the company’s fundamentals are strong and growing. In the meantime, we will collect our 8.5 percent annualized dividend yield.

Unit Corporation (CUSIP: 909218AB5) – On November 11 Unit Corporation reported quarterly earnings with EBITDA of $91 million (after a major pipeline sale), up from $78 million in 2017. Annualized EBITDA is now in the $350-$360 million range. With $552 million in net debt, Unit Corporation is leverages at a low 1.57x range. The company did face some high capital expenditures, however, management indicated moving to fewer rigs will keep spending in line with cash flow. As with all asset prices in the energy sector, the asset was lower by about 1.5 percent this month, but we remain confident in our position with Unit Corporation.

Oxford Square Capital Bonds (OXSQL)– Third quarter earnings for Oxford Square were reported on October 30. The balance sheet reflects very high asset coverage with $523 million of assets over $155 million in liabilities, or coverage of 3.4x. While the duration of this bond is longer than most of our other similar positions, maturing in March 2023, we feel very confident given the low credit risk. If the price of the bond moves lower due to interest rate risk, then we could possibly look to increase our holding from the current 3 percent allocation. We will gladly hold for our 6.4 percent annual yield until maturity.