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Natural Gas for Income

06/20/2003 12:00 am EST


Neil George

Editor, Profitable Investing

In the article above, Tobin Smith selects natural gas exploration companies as part of his growth portfolio. Here we stay with the same sector, but turn to energy trusts for income. Says Neil George, editor of the bygeorge! e-mail service and the Web site, "Our energy trusts pay double-digit dividends--on a monthly basis." Here are his top energy trust income picks.

"We caution that high yield comes with some caveats. In the case of the Canadian gas and oil trusts and funds, the risks are pretty straightforward. Each month, management tallies up the receipts from royalty sales and ongoing pumping operations, subtracts the cost of financing and pays out the balance to investors. If times are good and the prices of natural gas and oil are high, then the dividends are really good. But if prices go south, the dividends are thinner. To invest in these trusts, you have to make some assumptions. First, that the general market for growth stocks will remain less than spectacular so as not to create too much competition for investment capital. And second, that ideally, natural gas prices remain above $3 and crude remains above $15 a barrel. And third, each trust is based in Canada, so while revenues are primarily US dollar-denominated, if the dollar gets renewed strength it can cut into your returns. If all these conditions are maintained or bettered during the next several months and quarters, each of the best trusts should make good on their pledge to pay--and pay well.

"First on the list of the funds to be trusted is Enerplus Resources Fund (ERF NYSE), which holds natural gas and oil interests primarily in central and western Canada. This trust has returned an annual performance in principal and dividends in excess of 24% on average during the past five years. And along the way, its dividend yield even for the dark times of cheaper petrol remained nicely in the double digits. While the shares have been getting more and more expensive, the fund is still paying a yield just shy of 15%. And you won't have to pay too high a premium for the underlying assets, as it's valued at less than 1.5 times book. Buy up to $27.

"In the same neighborhood is another of the trusts, Bonterra Energy (BNEUF NASDAQ). It's a bit more expensive at nearly double the value of Enerplus, but it's been more impressive in its performance--the shares have climbed by nearly 300% during the past five years, on top of the dividend flows, which combined have provided double the total return for investors of Enerplus. The dividend yield is nearly 18%, but it's a bit more erratic. Buy Bonterra below $6 but pay no more than $8 a share.

"Another of the more expensive but consistent performers in the business is Advantage Energy Income Fund (AVNNF). This fund holds interests in properties similar to Bonterra in Alberta and Saskatchewan, but it also has interests in British Columbia. It has kept performing for its investors both through the darker days of cheaper petroleum and stronger stock markets as well as recent boom times. The price for the performance is that new investors have to pay up a bit more, as the book value is at a similar premium as Bonterra. While it's getting more pricey, investors keep getting paid high dividends that should remain in the double digits even if petrol prices ease further. Buy Advantage Energy Income Fund below $10.50 but pay no more than $13.

"Last up is a company that expanded beyond just pumping known fields. It got a little adventurous and funded some exploration at peril to its shareholders. But after its current restructuring and disposition of the riskier wildcatting in the oil and natural gas patches, Vermillion Energy (VETMF NASDAQ) should return to its core roots of just pumping and collecting cash. Due to its reformation, the company is cheaper than Bonterra and Advantage, at about a third less of a premium to book. Dividends should remain on course, encouraging investors to be patient with the reformation with nice monthly checks. Buy Vermillion up to $10.50."

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