Daniel Lacalle On Energy, Markets And Money

March 31, 2013 by  
Filed under Solar Energy Tips

GT: If your longs were a single stock, what stats would it have in terms of valuation, profitability, and growth? And I have the same question for your shorts.

DL: For longs: Companies with EV/IC/ROIC/WACC , return on invested capital, weighted average cost of capital – all less than 1; high earnings growth; superior return on capital employed (ROCE) at mid-cycle levels; single business; and high ownership of stock from management.

For shorts: Badly or politically run companies, diversified “black box” conglomerate stories, semi-state owned companies, poor ROCE companies, and companies with lack of alignment of management and shareholder interests.

GT: Moving on to utilities. Last week, when I read the latest letter from Warren Buffett to the shareholders of Berkshire Hathaway, I was really surprised to see that MidAmerican Energy has 6% of the United States’ wind-generation capacity and 14% of the nation’s solar-generation capacity. In the letter, Buffett says that they are putting a large amount of trust in future regulation. What differences do you see in renewables in the eurozone and in the United States? Are investors in renewables in the United States bound to suffer fiscal consolidation, as has been the case in some places in Europe?

DL: Investors in renewable energy in the United States do not have to bet on direct government subsidies but on tax credits. That is a huge difference. The second difference is that renewable energy companies in the United States are not as leveraged and politically exposed as those in Europe. They do compete, but they are not position rent seekers and subsidy junkies, as the European companies tend to be. In any case, I would bet Buffett that in the end this particular investment will underperform his initial assumptions. The estimates MidAmerican runs of growth and profitability of those wind and solar businesses will disappoint him immensely in the future. I have the feeling that Buffett suspects it too, which is why he only owns one utility with small renewable content relative to MidAmerican’s other divisions and low debt (inevitably making Europe uninvestable for him). He is undoubtedly smart.

GT: Given that utilities are a heavily regulated industry, do you think it is harder to pick winners and losers than in the oil and gas industry?

DL: It’s relatively easy to pick losers. The utilities industry is a minefield of profit warnings and value-destroying managers who buy at peak levels and sell low, run massive debts, and end cutting dividends and raising capital. But there are many great winners and focused companies. Look at the performance of British utilities relative to Continental European ones in the same currency base. It is shocking that in the same business there can be a strong focus on shareholder return on one side (United Kingdom) and total disregard for it in many of the big power giants on the other side (Germany, France, Italy, or Spain). I warned about this and the collapse of subsidy models in 2008 on my blog. Finding losers is not any not different in oil and gas. I also warned of the value-destroying nature of many of these stocks in 2009. Beware of stocks that are “cheap for a reason.” Value traps are widow makers. And these two sectors have many.

GT: Do you expect the EU to move toward a cheaper, more sustainable energy model? What, in your opinion, are the major obstacles to change?

DL: The EU doesn’t care about cheap and sustainable. If it did, it would not promote energies through monstrously expensive subsidies. Remember that this is the first time since the Industrial Revolution that governments have made a conscious decision to promote expensive and uncompetitive sources of energy versus cheaper alternatives. In energy, substitution has always happened through competitiveness, availability, and affordability… except in the Eurozone in the last 10 years. The EU cares about central planning, subsidies, and cronyism – thus the massive de-industrialization of the Continent because of unaffordable energy costs. If the EU cared about cheap and sustainable, it would not have implemented subsidies and taxes everywhere. The major obstacle is intervention and Soviet-like planning that creates overcapacity and inefficiency, which ends up being paid by consumers.

GT: Finally, I guess you came here also to speak about your book, Nosotros, los Mercados. How would you summarize what you try to convey with your book?

DL: It’s a very personal book that uses my experience and professional journey to explain how markets work, life in Wall Street and the City, the main events of the past decade, the main issues in this money-printing environment led by central banks, how and why we ended up in this monster debt crisis, and the market solutions to reduce imbalances and to avoid creating bubbles. The book also gives personal tips on how to invest, how hedge funds work, and what the different tools are that small investors can use.

GT: Do you expect to publish an English version of it in the foreseeable future?

DL: It would be an honor. I hope my publishers see that task as feasible and that we could make it happen.

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