Price Action Discounts Everything: A Look at Enbridge

Jason Ayres
October 24, 2013
5 minutes read

I typically have CNBC running in the background as I go about my daily business. While it provides a certain amount of entertainment throughout the day, I am cautious of ever acting on the observations and recommendations shared by the anchors and guests with out the price action supporting the bias. Yesterday, they were doing a story that caught my attention purely from a Canadian perspective. The focus was on Williston, a small town in North Dakota experiencing exponential growth in midst of an oil and natural gas production boom. They are producing so much natural gas in fact that they actually have to burn it off in a process known as ‘flaring”. The Canadian component of the story was a mention of Enbridge (ENB-TC) as the largest transporter and distributor of across Canada and the United States. Enbridge has been operating pipelines for over 60yrs and currently has approximately 24,750 kilometers spanning North America.

So how does Enbridge benefit?

According to the International Energy Agency, the United States is set to outpace Russia in the production of liquid fuels in the third quarter of 2013. While the excess of oil and natural gas supply continues drive commodity prices down, someone has to transport it. Enbridge has a number of new projects on the go and continues to dominate in this space.

Bad Press

The company has not been without its share of negative press. On October 11th, Zacks Investment Research downgraded Enbridge to a strong sell and cited fundamental considerations such as a negative earnings surprise, increasing inventories, fines and the cost of the companies ambitious plans for growth. In addition, there is no shortage of media coverage on the environmental impact of pipeline installations.

Price action discounts everything

Despite the downgrade and aforementioned concerns, this information appears to be priced in as Enbridge (ENB-TC) continues to break higher. While fundamental analysis has it place, it is the action of the investor that determines direction, and at this point the action appears to be BUY. Below is a break down of some of my technical observations

enb-tc oct 24

The strategy

Because of the costs associated with the projects Enbridge has underway, the pay will likely come further down the road. When also observing the apparent volatility of the stocks price action, one may consider owning shares. Looking at this as a longer term holding, the investor can benefit from the 3% dividend and sell calls against the stock to further increase yield. To review this strategy, watch this video Selling Call Options

For example, with the shares trading at $44.00 a January 2014 46 strike call is trading at $0.33. At first glance, this does not look overly attractive. However, a consistent covered call writing approach with this kind of cash flow should yield approximately 3% to the investors’ bottom line over the course of a year. Add to that the 3% dividend and the cash flow hits approximately 6%. Even if the investor was assigned to deliver the shares at $46.00 on January 18th, a return (not including commissions) of 5% would be realized. While there is always the risk of the stock dropping in value, a plan for generating cash flow through covered call writing and collecting dividends will enhance returns for the passive investor over the long run.

The investor looking for more of a leveraged play with unlimited upside can buy a January 2015, 44 strike call at $3.20. The long term call holder participates in the share value appreciation with a limited risk exposure and reduced capital outlay. The trade off is that no dividends will be collected and if the shares do not perform as anticipated the entire premium may be lost if not managed properly. There is no room for buy and hold for this approach.

Jason Ayres
Jason Ayres http://www.croftgroup.com/

CEO and Director of Business Development

R.N. Croft Financial Group

Jason is CEO and Director of Business Development at R N Croft Financial Group, a member of the Croft Investment Review Committee and a Derivative Market Specialist by designation. In addition, he is an educational consultant for Learn-To-Trade.com and an instructor for the TMX Montreal Exchange.

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