The natural-gas sector has plenty of potential, says Croft Value Fund (CLVFX) manager Kent Croft. He tells MoneyShow.com about three companies from that industry that he likes, and explains why investors should not dismiss equities as an asset class, despite the recent volatility.

Kate Stalter: Today our guest on the Daily Guru is Kent Croft of the Croft Value Fund.

Kent, that falls under the large-blend category. So in addition to a focus on value, I know you also have a longer time horizon, and even get into some growth names. So I want to let you describe the fund’s objectives, and tell us a bit about your investing philosophy.

Kent Croft: Yes, we do fall in the blended category—but it’s important to note for us, we do call it the Croft Value Fund for a reason.

I guess a lot of it just depends on how you look at value. We look at it in three different ways:

  • First, from sort of a purely contrarian standpoint. When everybody gives up on something, or Wall Street does, and vote with their feet, we tend to try to go against the herd mentality and look and see why, and a lot of the time a good opportunity is there.
  • Also, we look for catalysts down the road, whether it be assets, discounted net asset values, assets in the ground—what have you—or restructuring.
  • Also, like you mentioned, growth at a discounted price, and that’s where we see valuations short of where they should be, given long-term growth rates.

Kate Stalter: Taking a closer look at some of that philosophy: Obviously the markets had some big rallies in October, but there were, as we all know, some very rough months over the summer. Did that offer you some opportunities to identify some value names?

Kent Croft: Absolutely. You know it’s times like that where, especially if you have long-term perspective like we do, we are long-term, low turnover. We work for tax efficiency as well.

I would mention we also own millions of dollars in our own fund. So we’re motivated to find those new ideas all the time. When you’re long-term oriented, when you have disruptions like that, that’s where more of your opportunities do come.

So one area we like is natural gas. The energy area…in August and September, things fell pretty hard, especially in that area, and we were able to pick up some new positions and add positions in the natural-gas area.

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Kate Stalter: Can you talk about some of these particular stocks today, Kent?

Kent Croft: As far as natural gas goes, it’s an area I think probably falls in the contrarian camp right now, given that it’s the one commodity that hasn’t moved up over the last couple of years. It’s actually moved in the opposite way. So from a contrarian standpoint, that’s something you sort of look for.

You’re reading a lot in the paper now, there’s a Natural Gas Act that’s just being introduced again, but we have lots of this here in North America. From a standpoint of energy independence, a standpoint of safety and security, that means a lot.

We’ve been finding a lot more of it, and so private businesses—actually outside the public sector—have been investing in natural-gas infrastructure, whether it be through natural-gas filling stations for truck fleets and that type of thing.

Like I said, take a long-term view of this unfolding. Natural gas trades at a significant—like 60% or 70%—discount to oil on a heating-equivalent basis, whereas it’s sort of 1:1 around the world.

So right now, we’re actually building here in North America facilities to export a lot of this natural gas, because ours is the cheapest. Going forward and looking out over the next few years, we think it’s a real exciting area.

Three companies that we do own there…we look for low-cost producers with good reserves in the ground, like Southwestern Energy (SWN), Ultra Petroleum (UPL)—a bit of a misnomer; all their assets are really in gas—and Williams Companies (WMB), which has gas in the ground and also pipelines to transport it.

Kate Stalter: Are you looking for dividends on any of these plays? How does that particularly work? Are you looking for mainly price appreciation? How do you identify these names?

Kent Croft: Right, we’re looking to make money first and foremost. Our shop, we do one thing and one thing only, is look at companies from the bottom up. We manage money. We don’t have any outside influences—a broker-dealer, a trust company, that type of thing.

So for us, it’s all about idea generation and making money for our shareholders and ourselves. So what we do, we look for what we can get over the long term and a total return for a company.

That can be a combination of things. It can be purely price appreciation.

A lot of those, say, if you’ve got some higher-growth companies, they’re selling it at discount, they might not pay as much as a dividend. So that’s purely appreciation.

Let’s say a company that we do own, like Johnson & Johnson (JNJ), that yields about 3.6%, add a market multiple and best-in-class balance sheet, so you’re getting a dividend yield way in excess of a good bond, and certainly in excess of Treasury bonds by multiples. So we think that has a place in the portfolio, too.

Kate Stalter: Well, these are some great ideas for people to go take a look at. Can you wrap up today, Kent, by giving us your advice for individual investors who are trying to manage their money? Obviously the markets have been very challenging lately. What would you suggest to them?

Kent Croft: Well, it’s difficult. You know, right now it’s in vogue to dismiss stocks as an investment because it has been a real tough and volatile investing environment for a long period of time. Sort of, 2008 and 2009 is still very fresh in people’s minds.

If you look back in history, these are the times when it’s most advantageous to initiate positions, and especially if you have a longer-term time horizon.

So I think you can get caught up in all the negatives today, but you look at the low valuations and some really exciting long-term investing prospects of some companies, I think you can make some good money going forward, some high dividend stocks—you’re not getting yields out of bonds and so I think there is some substitution there that you can do.

So it’s a very difficult time, but the main thing is not to dismiss equities as an asset class, because buy low, sell high is still a good strategy.