Advanced Energy TrendWatch – Q1 2017

The New World of Trumponomics

“Trumponomics.” If I uttered this word two years ago, I would’ve most likely received puzzled looks from my subscribers. Now I’m sure every one of you has not only heard of Trumponomics, but knows exactly what it is.

If not – as the name suggests – Trumponomics is the economic policies of President-elect Donald Trump.

Like him or not, he’s going to be the next president of the United States. And his economic policies are going to drive government spending and investor sentiment for at least the next four years.

I’m not going to waste any time debating whether or not I think he’s going to be a good president. Time will ultimately be the judge of that.

Instead, I’ve been spending my time researching the sectors and companies that are poised to prosper under the next four years of Trumponomics. There are two sectors in particular that will do well over the next four years.

Technology: One of 2017’s Top Sectors

Because I’m an engineer, technology is perhaps my favorite sector. My first law of technology, “Technology marches on,” has proven itself over and over.

Think about anything in your life that involves technology. Chances are, whatever it is, technology has significantly improved it in your lifetime.

Examples are all over the place. When I was young, there were no CAT scan or MRI machines. Now they are routine diagnostic tools for the healthcare industry.

Automobiles never had computer chips in them. Now the average car has more than 500, and there are self-driving cars.

We never had cellphones either. Now it’s hard to find someone who isn’t glued to their smartphone.

This technological revolution is by no means over. It’s a continually expanding and improving process.

Integrated circuits (ICs) are at the heart of this revolutionary trend. ICs are computer chips that contain large numbers of tiny transistors.

Since their beginnings in the 1960s, ICs have seen their number of transistors and speeds increase dramatically. Their ability to be mass-produced has reduced their price and made them available for hundreds of thousands of uses.

ICs are important to every aspect of our daily lives and every sector in business today. In a sense, ICs have become part of the very fabric of our existence.

That brings me to the first company in this quarter’s report…

A 50-Year Heritage of Excellence

The first company I’m adding to the Advanced Energy Strategistportfolio is an infrastructure play. No, it has nothing to do with roads, bridges, airports or shipping, at least not in the direct sense.

The infrastructure it’s involved with is communications infrastructure. This includes wired and wireless communications infrastructure, cloud storage and computing, and industrial factory automation.

It has a rich 50-year history of building out communications infrastructure. And more importantly, it has a similar 50-year history of manufacturing the semiconductors and complex ICs that are part of this infrastructure.

The company’s roots stem from rich, technical heritage found in technology powerhouses like Lucent, AT&T/Bell Laboratories and Hewlett-Packard/Agilent. Having worked for Western Electric, the AT&T manufacturing arm, many years ago, I can tell you that Bell Labs engineers are some of the smartest people on the planet.

The first company I’m adding is Broadcom Limited (Nasdaq: AVGO). Broadcom, formerly known as Avago Technologies, manufactures and focuses its products on technologies that connect the world.

It all started back in the 1960s when Broadcom introduced its first product. It was a family of light-emitting diode (LED) dot matrix displays.

These were used in calculators, instrumentation and other applications requiring information displays. Broadcom also developed LEDs using gallium-arsenide-phosphide technology. After they were introduced, these LEDs were used in alphanumeric displays for calculators and other handheld devices, signage, and stoplights.

The 1970s saw the introduction of the first fiber optic transceivers. These would ultimately revolutionize the world of data communications, improving upon the speed of conventional data transmission by orders of magnitude.

The 1980s and 1990s saw the formation of Broadcom’s Semiconductor Products Group (SPG). During those two decades, the SPG used its core IC technologies to manufacture products covering a wide range of emerging standards and technologies.

These included but were not limited to the following:

• Optical mouse sensors that eliminated the need for mouse pads and roller balls, enabling the creation of longer-lasting and more precise mouse products.
• What was at the time the world’s brightest LED. It combined low power consumption, reliability and super brightness, enabling the replacement of incandescent bulbs in certain applications.
• The very first high-speed, low-cost infrared transceiver. This invention enabled wireless data exchanges in a wide range of applications.
• The first single-chip IC cable modem. This allowed TV cable operators to offer internet access along with TV channels to subscribers.

The year 2000 marked the shipment of more than 4 million fiber optic transceivers.

In 2001, Broadcom shipped its 30 millionth optical mouse sensor, its 2.5 millionth miniaturized fiber optic transceiver and its 100 millionth system-on-a-chip (SOC). These SOCs are custom-designed ICs that reduce entire electronic systems to one single chip.

In 2002, the company shipped its 100 millionth optical mouse sensor. Broadcom also introduced the industry’s first 10-gigabits-per-second transceiver.

In 2003, Broadcom shipped its 200 millionth optical mouse sensor.

In 2004, it shipped its 300 millionth optical mouse sensor, 25 millionth camera module for mobile phones and 400 millionth imaging chip.

In 2006, Broadcom shipped its 600 millionth optical mouse sensor. It also designed and delivered the very first high-speed digital optocouplers expressly targeted at the hybrid and electric vehicle (EV) markets.

In 2007, Broadcom launched the industry’s first Wi-Fi, Bluetooth and FM combination chip for mobile phone applications. It demonstrated the first 100-gigabits-per-second Ethernet technology in chip form.

In 2009, the company announced the development of touch-screen interface technology for smartphone and other portable electronic device applications. It shipped more than 1 billion optical mouse units.

On August 6, 2009, it IPO’d on the Nasdaq with the stock symbol AVGO.

In 2010, fiscal revenues topped $2.1 billion. The company demonstrated an industry-first 28-gigabits-per-second technology.

That same year, it announced the very first 4G LTE (long-term evolution) communications chip for future mobile handsets and data terminals. Working with IBM, it developed embedded fiber optic transceivers to meet the high-speed data rate requirements of IBM’s supercomputers.

By 2013, Broadcom had introduced the world’s first 100-gigabits-per-second optical transceiver. In 2014, the company acquired LSI Corp. and PLX Technology Inc., both manufacturers of semiconductor ICs.

In 2016, Avago Technologies acquired Broadcom Corporation, and Broadcom Limited was formed. The company continues to develop and deliver a number of industry-first communication ICs.

The slide below shows Broadcom’s rich heritage of technology and the many companies that today form Broadcom Limited.

Broadcom is a global giant. It has company headquarters in both San Jose, California, and Singapore. It currently has 21 design sites located around the world, each with more than 100 employees.

Its three IC fabrication facilities are in Fort Collins, Colorado; Breinigsville, Pennsylvania; and Singapore.

Broadcom’s focus is on four end markets. They are shown below by percentage of overall company revenue.

Let’s look at each one individually. We’ll start with wired infrastructure, Broadcom’s largest market (50%) by revenue.

Wired Infrastructure: The Connected Home

Broadcom’s wired infrastructure focuses on connectivity that starts with residential cable modems and other interfaces. These are facilitating the rapid evolution and adoption of the connected home.

Our wired infrastructure is under constant upgrade to provide more bandwidth. As video streaming takes up an increasingly larger portion of data, our wired infrastructure must grow to accommodate it.

Broadcom’s solutions for the wireline market include chips enabling broadband internet access, enterprise and data center networking, chips for high-speed network switches and routers, and fiber-optic telecommunications applications.

Even though the 5G cellular wireless standard won’t be implemented until 2020, Broadcom has developed a 5G-HD (high-density) enterprise Wi-Fi platform. This is in widespread use at stadiums, university campuses and shopping malls.

That infrastructure is increasingly optical fiber-based, and Broadcom’s optic transceivers are widely used in optical switching applications. Social media and cloud computing also rely heavily on our wired infrastructure, as do big data and data analytics. All are target markets for Broadcom’s wired infrastructure end market.

Wireless Communications: Beefing Up the Wireless Network

Broadcom’s second-largest market by revenue (32%) is wireless communications. Phone manufacturers and wireless carriers are big customers for Broadcom’s wireless communications parts.

Currently, the worldwide wireless standard is 4G LTE. Every continent has 4G LTE service in at least some regions.

Different countries use different frequency bands, requiring phones that support those bands for international travelers. Broadcom’s wireless products address those multiband requirements for both mobile phones and the carriers’ wireless base stations that they interface to.

In addition, Broadcom is already developing prototype circuits to support the next-generation 5G wireless. This next-generation mobile standard, set to roll out sometime after 2020, will support even faster mobile data speeds and a higher concentration of mobile users in a given area.

Broadcom also manufactures circuitry for high-speed Wi-Fi routers. These are used in both home and business router products.

Enterprise Storage: Growing Like a Weed

Broadcom’s third market, enterprise storage, makes up 14% of the company’s overall revenue. However, it’s one of the company’s fastest-growing segments.

Many large companies have huge data centers. These are massive centralized computing and storage locations connected to company locations via high-speed, high-bandwidth optical fiber.

Other companies have opted to use the data center services (cloud storage and applications) of companies like Amazon and Oracle. Broadcom’s enterprise storage products are supporting the explosive growth in cloud storage and the exponential growth in the Internet of Things.

Companies’ information technology systems are growing at a rapid pace, trying to keep up with the amount of storage required for customer data, billing systems and employee communication needs. Broadcom’s enterprise storage products address IT managers’ requirements.

The idea is to maximize speed and security and keep costs manageable. It’s a delicate balancing act that Broadcom effectively manages for its IT customers.

Finally, Broadcom’s smallest segment addresses the needs of industrial factory automation, alternative energy, motor inverter systems, test equipment, medical systems, energy efficiency and other emerging data-centric markets. This segment comprises 4% of overall company revenues.

Speaking of revenues, the graph below depicts Broadcom’s annual revenues from fiscal year 2012 through fiscal year 2016. Broadcom’s fiscal year ends on October 31.

Note that FY 2012 to FY 2015 is Avago Technologies’ annual revenues. FY 2016 is the combined full-year Avago Technologies revenues and contributions from Broadcom dating back to February 1, 2016.

While revenues are important, the bottom line is earnings per share (EPS). The following chart depicts annual EPS from FY 2012 through FY 2016. The same note applies for earnings as it did for revenues.

I like the rapid ramp-up in Broadcom’s earnings. I expect we’ll see another big year in FY 2017.

Broadcom’s business has a high barrier to entry. The technical expertise and intellectual property Broadcom possesses would be difficult, if not impossible, to duplicate.

Most of the world’s cellphone manufacturers and cell service providers use Broadcom products. The same is true for wireline and enterprise customers, too.

Our communications infrastructure backbone is perhaps the most important part of our nation’s infrastructure. Without high-speed communications, our nation (and most others) would grind to a halt.

As worldwide communications networks are in a constant state of expansion and upgrade, Broadcom’s future looks bright indeed. That’s why I’ve decided to add Broadcom to the Advanced Energy Strategist portfolio.

Action to Take: Purchase shares of Broadcom Limited (Nasdaq: AVGO) at market. Use a 25% trailing stop to protect your principal and your profits.

This U.S. Oil Producer Has a Leg Up on OPEC and Russia

As the old saying goes, “what a difference a year makes.” That’s especially true when it comes to stocks.

At the end of 2015, the energy sector had the dubious title of being the worst-performing S&P 500 sector for the year. Now energy stocks have closed out 2016 as some of the year’s top performers.

Four of the 10 best performers on the S&P 500 are from the energy sector. The strong run in energy should continue through 2017, too.

The data collection company FactSet projects a 477.3% jump in EPS for energy in the second quarter of 2017, a 183.4% increase in the third quarter and a 149% rise in the fourth quarter.

Lately, all the talk in the oil industry has been centered on the OPEC and Russian agreement to cut worldwide crude production. The current figure is a cut of 1.2 million barrels per day.

As I write this, both WTI and Brent crude continue to inch up in price. They’re doing this even as the U.S. dollar continues to strengthen against other world currencies.

There’s no question that 2016 was an interesting and profitable year for some of the better-positioned producers. Brent hit a low of $27.88 per barrel on January 20, 2016.

A few days before the end of 2016, Brent was trading at $55.92, an increase of just over 100%. I’ve been able to capture some of those gains for subscribers with my recommendation of EOG Resources Inc. (NYSE: EOG).

Since I recommended it back in April 2016, subscribers have seen gains as high as 51%. EOG is firing on all cylinders, and I expect further gains in 2017.

2017 and the rest of Trump’s term are shaping up to be a great time for investing in independent oil and gas producers. Trump has promised to ease regulations on both oil and gas producers.

That’s especially good for companies like EOG Resources. It’s also good for the next company I’m going to add to the Advanced Energy Strategist portfolio.

You see, I recently wrote about this company in The Oxford Club’s free e-letter, Energy & Resources Digest. After I wrote the article, I had a number of subscribers write to me and ask why I wasn’t adding this company to the Advanced Energy Strategist portfolio.

The funny part is that I had already identified this company as one I wanted to add to the portfolio. Before I get to which one it is, let me tell you a little about why I like it so much.

A Texas-Sized Oil Field

As the old saying goes, “Everything is bigger in Texas.” It turns out that goes for oil fields, too.

Texas contains some of the largest oil fields in the world. In fact, it contains the world’s second-largest oil field.

Investors should absolutely have one or two companies that are drilling in this field. Both EOG and the company profiled below are drilling in it.

The field I’m talking about is contained within Texas’ massive Permian Basin. As you can see from the map below, the Permian contains many overlapping layers. In some areas, there are 14 oil- and gas-bearing layers stacked on top of one another.

The Spraberry/Wolfcamp formation alone contains 75 billion barrels of recoverable crude. And as you can see, there are plenty of other crude oil-bearing layers in the Permian.

For instance, the Delaware Basin of the Permian contains another 40 billion barrels of recoverable oil. But the Spraberry/Wolfcamp is where some of the biggest E&P companies are operating.

As of the end of 2016, the Permian contained most of the active drilling rigs in the U.S. – and in the world, for that matter. There were 264 rigs drilling for crude in the Permian, more than half of the 536 active oil rigs in the U.S. That compares to 217 at the end of 2015.

I expect the rig count to grow more in the Permian than in any other U.S. shale formation. It’s the only growing shale formation in the U.S. since 2015.

No wonder a dozen different E&P companies are focusing on it. Its 14 oil- and gas-bearing layers make it the most economical play for E&P companies holding acreage there.

They can hit multiple oil-bearing layers from one drill pad and even from one wellbore. That lowers the lifting cost of the oil compared to that in single-layer horizontal shale plays.

And I think that with oil prices in the $50 to $60 range for much of 2017, companies with low lifting costs will rule the oil patch – especially in light of OPEC’s coming cuts in production. Remember, the profitable U.S. E&P companies remaining are the world’s swing producers of crude.

The King of the Permian

One E&P company far outshines all the rest when it comes to the Permian. I’m talking about Pioneer Natural Resources (NYSE: PXD).

Pioneer has the largest Spraberry/Wolfcamp acreage position. At its current rate of drilling, it has several decades of drill sites in its inventory.

Pioneer has been through five oil downturns. Its management knows what it takes to get through one.

The first thing is a clean balance sheet. They don’t get much cleaner than Pioneer’s.

As you can see from the chart below, Pioneer currently has the lowest debt-to-equity ratio of any of the large Permian operators. EOG Resources has the second lowest.

Pioneer has worked hard to create a strong investment-grade balance sheet. The company’s net debt at the end of Q3 2016 (including cash on hand and liquid investments of $2.9 billion) was $300 million.

The company has an undrawn $1.5 billion unsecured credit facility available to it to finance drilling activities, if needed. Former CEO Scott Sheffield says Pioneer is poised to grow to more than 1 million barrels per day of production and operate for the next 10 years without incurring any additional debt or equity offerings.

Pioneer expects to grow at a compound annual growth rate of 15% through 2020. With oil in the $55 range, the company’s capital expenditures will be well within its cash flow by 2018.

There aren’t many E&P companies operating today that can say that. How’s Pioneer managing to do this?

It’s spent lots of time engineering its well-drilling and fracking processes. Right now, it takes half the time that it took several years ago to drill a horizontal well (20 days versus 40 days).

In its fracking process, it’s using twice the sand and water that it used to. The spacing between fracking stages is now 100 feet, compared to 240 feet in 2014.

As a result, Pioneer is by far the largest Spraberry/Wolfcamp crude producer, producing 230,000 barrels per day. As you can see from the chart below, it’s producing more oil from the Permian than its next four closest competitors combined.

During the second half of 2016, Pioneer increased the number of rigs drilling on its Spraberry/Wolfcamp acreage from 12 to 17. Its 2016 capital expenditure program was $2.1 billion, with $1.9 billion of that directed at its Permian operations.

Pioneer increased its 2016 production forecast from 13% to 14%. That reflects continued improvement in its Spraberry/Wolfcamp well productivity. Its production consisted of 56% crude oil, 23% natural gas and 21% natural gas liquids.

In 2017, with 17 rigs operating, Pioneer expects to deliver growth in production in a range of 13% to 17%. And remember, that’s at current WTI prices.

Last month, Pioneer Chief Operating Officer Tim Dove told Bloomberg he sees crude oil hitting $70 per barrel by 2018. He believes by then the world demand will exceed the current oversupply of crude.

For that reason, Pioneer has hedged very little of its anticipated 2018 production. If Pioneer hedged now and Dove’s theory pans out, the company could miss out on a very profitable 2018.

With oil in the mid-$50s, Pioneer expects cash flow will grow at a compound annual rate exceeding 25% through 2020. That’s outstanding, and it all has to do with Pioneer’s low-cost Permian Basin acreage.

With Trump at the energy controls for the next four years, energy investors will definitely want to have exposure to a top-notch, low-cost independent U.S. crude producer. I can’t think of a better example than Pioneer Natural Resources.

Action to Take: Purchase shares of Pioneer Natural Resources (NYSE: PXD) at market. Use a 30% trailing stop to protect your principal and your profits.

The Perfect Pick-and-Shovel Energy Infrastructure Play

Here in the U.S., there’s no question our infrastructure is in dire need of repairs and upgrades. The American Society of Civil Engineers grades our infrastructure every four years.

Our last report card was in 2013. America’s overall infrastructure grade? D+.

That grade includes all facets of our infrastructure. And every business, community and family needs good functioning infrastructure to thrive and prosper.

Hindsight is a wonderful thing. It allows us to look at our past mistakes and see what we might have done differently.

What could we have done differently to recover more quickly from our last recession? It’s not more monetary or fiscal policy.

It’s infrastructure investment. If Congress had its act together, which it rarely does, it would have acted on this important bipartisan issue.

Had it done so, our infrastructure would now be in better shape, six years after the recession ended. Unemployment would be even lower than it is today.

And many of the sectors that struggled during the recession – materials, construction, energy and manufacturing – would be far better off than they are now. Infrastructure improvements benefit the economy.

It’s no surprise to me that Trump wants to focus on improving America’s infrastructure. And he has a ready and willing Republican Congress to help him get things moving.

I’ll bet most investors don’t differentiate between energy producers and energy infrastructure companies. In fact, if I asked most of my subscribers about energy infrastructure companies, pipeline MLPs would probably be at the top of their list.

But the next company I’m going to add to our Advanced Energy Strategist portfolio is the company MLPs contract to actually build and install pipelines. MLPs are just the ones writing the checks.

Similarly, in the electrical transmission line world, it’s not the nation’s utilities that are out constructing the large towers and stringing wires between them. They pay this company to do that very specialized work.

This company also weathered the recession and the drop in energy prices far better than others in the same business. It had just one losing quarter in late 2015.

It’s now on track for 73% earnings growth in 2016. In fact, it’s expected to have earnings matching those of 2013.

Its share price has certainly reflected the rise in earnings. In 2016, its share price skyrocketed more than 68%, making it one of the top 10 performing S&P 500 stocks for the year.

This Company Gets Down and Dirty

The company I’m talking about is one most investors have never heard of. Quanta Services Inc. (NYSE: PWR) expects another 30% pop in earnings in 2017.

Quanta is a specialty contractor that provides services to both E&P companies and utilities in both Canada and the U.S. It’s the largest energy infrastructure contractor in North America.

With 26,000 employees, it’s unmatched in scope and scale for the kind of work it performs. Not surprisingly, its customers’ projects are getting more complex and larger in scale.

The company usually is at work on a number of large projects at the same time. And that’s been the case for the last five years. Its stellar performance has earned it significant revenues from strategic relationships developed with its top customers.

Recurring work is the norm for Quanta. Even so, no customer represents more than 8% of the company’s annual revenue.

Quanta’s labor force is highly skilled. It has to be. And it’s the largest energy infrastructure specialty contractor in North America.

Its customers demand it, believing skilled labor is not only scarce, but critical to any project’s ultimate success. Quanta self-polices and performs all the work on its projects, thereby controlling both execution and quality.

That’s a big differentiator, as most engineering and construction companies tend to subcontract out various parts of large projects. This means they lose track of quality and execution.

This isn’t the case with Quanta. Its program management and engineering services mean customers can expect a complete and comprehensive solution from Quanta.

As I mentioned earlier, Trumponomics looks like it’s going to increase what is already a robust spending program targeting America’s infrastructure. Energy and power are key drivers of economic growth, and therefore energy infrastructure will continue to be one of the top growth sectors.

Beefing Up Oil and Gas Infrastructure

Oil and gas infrastructure will continue to be driven by increasing shale drilling in both the U.S. and Western Canada. Natural gas, crude oil and natural gas liquid production from shale formations has grown dramatically over the last decade.

There’s no question it’s going to remain at high levels for the next decade, too. Many of these fields are in areas that have little or no infrastructure in place.

This infrastructure includes additional gathering lines, midstream processing infrastructure and high-capacity oil and natural gas transmission lines. This is especially true in Western Canada where takeaway pipeline capacity is severely limited.

Processing and storage facilities also figure high on the list of oil and gas infrastructure needs. A lot of the new demand, especially for natural gas, is being driven by increased use of this fuel for power generation as well as America’s growing but nascent liquid natural gas (LNG) export business.

As you can see from the graph below, there are plenty of miles of large-diameter pipelines in need of construction through 2018.

There is a huge need to build more pipelines. In many areas of both Canada and the U.S., the movement of oil, natural gas liquids and natural gas are constrained by the lack of adequate pipelines.

The companies that can construct large pipelines are few in number. However, this is one of Quanta’s specialties.

It’s no wonder the largest pipeline construction company in North America is Quanta. It’s got plenty of business and plenty of opportunities ahead.

For instance, in 2017 and 2018, E&P companies expect to spend $22.1 billion and $21.7 billion, respectively, on new pipeline capacity. That’s certainly good news for Quanta.

Tuning Up America’s Electric Grid

Quanta’s other big area of operation is in electric power grid infrastructure. Because of many decades of underinvestment, the North American electric power grid is in sad shape.

In addition, the explosion of solar and wind farms in the Midwest and Southwest require new long-haul transmission lines to move the electricity to where it’s needed. As a result, current spending levels by utilities on transmission networks are now three times historical spending levels.

The reliability and security of the North American power grid is the responsibility of the North American Electric Reliability Corporation (NERC). It is a nonprofit international regulatory agency.

Large-scale power blackouts cost billions of dollars in economic disruption. NERC has new reliability compliance standards that all North American transmission grids must meet to ensure a reliable electric transmission network.

This is the primary driver of new transmission line work in North America. Fully 59% of the estimated $30 billion that will be spent on North America’s transmission lines this year is dedicated to network reliability.

Other projects include the interconnection of renewable energy sources, electrification of mining and other industrial facilities, and additional capacity in congested areas. Spending in 2018 to 2020 is estimated to be at or near that of this year.

But the spending on high-voltage transmission lines in North America amounts to only half of what’s going to be spent on the power grid. The other half is on the distribution side of the grid.

The distribution grids in North America are the lines that distribute power from the large transmission grid substations to homes, businesses and small factories. As you can see, spending on distribution grid construction in North America has increased by $10 billion in just the last five years.

Frankly, I see spending continuing to increase in future years to accommodate the rise in EVs. Many existing distribution grids are too small to handle a large number of EVs and/or solar PV installations.

Once again, modernization and reliability are big spending areas on the distribution side of the grid, too. Other projects include additional substation interconnects to high-voltage transmission lines.

It’s clear to me that over the next decade, oil, gas and electric infrastructure are going to be big areas of investment. And Quanta Services is going to be one of the biggest beneficiaries of this infrastructure buildout.

That’s why I’m adding it to the Advanced Energy Strategistportfolio.

Action to Take: Purchase shares of Quanta Services Inc. (NYSE: PWR) at market. Use a 25% trailing stop to protect your principal and your profits.

This Company Is Nearly 25% Undervalued and Pays an 11%-Plus Dividend

When we think of infrastructure, fixed assets like roads, bridges, pipelines and electrical transmission lines come to mind. But this last company has infrastructure that moves around.

However, this infrastructure is vital to the world’s economy. I’m talking about ships.

Throughout much of history, the world’s oceans have been an important means of transportation. While a few ships carry people around on recreational cruises, the bulk of the world’s shipping fleet carries goods.

Trade between continents is generally shipped over the oceans. Shipping via air remains an expensive alternative reserved for vital or perishable items.

There are more than 400 liner companies that service all ports of call around the world. The vessels owned by these companies can be classified as one of 12 main types:

•  General Cargo Ships
•  Specialized Cargo Ships
•  Container Ships
•  Ro-Ro Cargo Ships
•  Bulk Carriers
•  Oil and Chemical Tankers
•  Gas Tankers
•  Other Tankers
•  Passenger Ships
•  Offshore Vessels
•  Service Ships
•  Tugs.

Together, these ships carry all of the goods and people moved internationally by sea. Without the global shipping infrastructure, the world economy would grind to a halt.

Our global shipping infrastructure makes it possible for businesses and their customers to connect regardless of where they’re located.
The following graph shows the total number of ships in the world fleet by size.

Ships are sized by what is referred to as gross tonnage (GT). That is the weight of the ship plus its cargo. They are sized as follows:

• Small: less than 500 GT
• Medium: between 500 GT and 25,000 GT
• Large: between 25,000 GT and 60,000 GT
• Very large: more than 60,000 GT.

The graph below shows the percentage of the world’s gross tonnage carried by each size of ship.

It’s interesting to note that the smallest percentage of ships (“very large” class) carry nearly half of the world’s freight. This makes sense, since it doesn’t take that much more fuel to move a very large ship than a large- or medium-sized one.

Trade between countries is a vital and necessary part of the global economy. Today’s shipping companies have made global shipping extremely efficient, changing the shape of the global economy in the process.

Sorting through the hundreds of shipping companies is an exhausting process. However, I have found one I believe you’re going to like.

A Cash-Generating Shipping Machine

The company I’m talking about is Ship Finance International Ltd. (NYSE: SFL). This international shipping company, headquartered in Bermuda, owns a $4.1 billion fleet of 74 offshore and maritime assets.

These consist of 19 tankers, 22 dry bulk, 24 container ships and nine offshore vessels/rigs. The beauty of Ship Finance International’s business is its simplicity.

Cash flow in any business is extremely important. Being able to predict it makes life a lot easier for any company.

Cash flows don’t get any more predictable than Ship Finance International’s. It contracts its vessels over long periods of time.

As you can see from the chart below, its revenues are relatively evenly split between the four types of vessels that it owns. I like the fact that the minimum remaining contract is 7.6 years and ranges up to 9.3 years.

With most of its capacity contracted over long periods of time, Ship Finance International has almost no exposure to spot shipping markets. That means even during economic downturns, company cash flows remain predictable.

More importantly, the company remains profitable. It has paid out 51 quarterly dividends.

Here’s the best part: The current dividend yield is nearly 12% annually. That’s not a typo.

Even better, there’s no reason to expect that dividends won’t remain at or near these high levels. My research did turn up the fact that, based on historical levels, the stock price is undervalued by 20% or so.

There are 93.47 million shares outstanding, with 63% of those held by institutions. The company’s market cap is $1.43 billion. Shares are trading just off their 52-week highs.

Shares trade at a ridiculously low P/E ratio of 8.6. In my opinion, that makes them a bargain for retail investors.

In addition to the company’s juicy dividend, I really like its recent growth initiatives. It has two 114,000-ton tankers under construction.

These tankers will be finished in the second half of this year. They are under 7- to 12-year time charters to Phillips 66 Corp. During the contract period, contracted revenue amounts to more than $110 million.

It also has two new 19,200 TEU container ships, one delivered late last year and the other under construction, scheduled for delivery early this year. These two ships are each chartered for 15 years, giving it an estimated $460 million in revenue during that period.

Note: TEU stands for twenty-foot equivalent unit. This is used to measure a ship’s cargo carrying capacity. Its dimensions are that of a standard 20-foot-long, 8-foot-wide and 8-foot-tall shipping container. These days, most shipping containers are 40 feet long or longer.

Ship Finance recently took delivery of three 9,300 to 9,500 TEU container vessels. They were delivered in November 2015, February 2016 and May 2016. The company expects to receive more than $200 million in contracted revenue in the seven-year contract period.

Finally, the company acquired eight dry-bulk carriers in 2015. They all have 10-year time charters.

Excluding a 33% profit sharing option, Ship Finance expects to receive nearly $500 million over the contract period.

If you’re starting to think that Ship Finance International is a well-run cash-generating machine, you’re getting the picture. If you’re seeking to boost your income-generating portfolio, this is one company you’ll want to consider.

I like Ship Finance International’s simple business model. I’m also a big fan of income-generating stocks. That’s why I’m adding Ship Finance International to the Advanced Energy Strategist portfolio.

Action to Take: Purchase shares of Ship Finance International Limited (NYSE: SFL) at market. Use a 25% trailing stop to protect your principal and your profits.

Well, there you have it. I hope you enjoyed reading the latest edition of Advanced Energy TrendWatch. The four companies profiled above are poised to add to some of the gains we’re currently sitting on.

We’ll continue to track our new picks, as well as the rest of the Advanced Energy Strategist portfolio stocks, in our regular Advanced Energy Weekly.

Good investing,

David Fessler