Ethanol Investing

Part 1 of The Smart Profits Report Ethanol Forum: Issue #342
Thursday, August 10, 2006

Note: Back on May 19, the Smart Profits Report brought you a special Oil Forum, where the editors discussed the state of the market. This time, however, our trading experts give you their take on another hot commodity enjoying plenty of press: ethanol.

Is the hype for real in this raw, yet highly promising, industry? Or will it flame out as an expensive fad? Here’s what they had to say, including the best places to put your money today if you want to take advantage. In Part 1 of this special two-part series about ethanol investing, Steve McDonald starts off with information about the growing socio-economic problem that ethanol will help contain and Karim Rahemtulla finishes with a few recommendations that will help you profit.

Ethanol: The Best Solution for a Huge Political and Economic Problem
by Steve McDonald
Advisory Panelist, Mt. Vernon Research

America continues to battle enemy forces on several fronts. Military operations are ongoing in both Iraq and Afghanistan, with nuclear tensions in Iran and North Korea threatening to boil over, too. Fighting between Israel and Hezbollah shows no sign of abating, either.

The war against terrorism vaulted back into the headlines just this morning, with the news that anti-terrorism forces foiled a major plot to blow up as many as 10 flights from Britain to the U.S.

These factors place persistent pressure on the oil market and oil prices. And it’s not surprising that because many are related to the Middle East, crude oil and gasoline prices continue to rise with each new negative development.

What is surprising, however, is that given America’s dependence on Middle East oil, the country has done little to ease the strain. Since the oil embargo of 1974, various U.S. governments have failed to reduce or limit our reliance on the commodity. In fact, under current federal law, it is illegal to explore for oil on either the U.S. Atlantic or Pacific coasts.

America also hasn’t built any new oil refineries since the 1970s - yet gasoline consumption is rising at a 2% rate per year. This week’s surprise shutdown of BP’s main oil pipeline in Alaska has exacerbated the problems and proved that America needs to be more proactive in finding more oil within our borders.

But that’s where ethanol is poised and ready to make up the shortfall in production, and greatly help solve the problems associated with the exploration and development of oil reserves. This is the first time in history that so many forces have moved in the direction of renewable fuels - and ethanol offers the best chance to reduce the amount of crude we need to import to run our economy. Consider the following points that ethanol already has in its favor:

Ethanol is the alternative to replace the MBTE gasoline additive in vehicles. Both GM and Ford are manufacturing more flex-fuel vehicles that allow cars to operate on regular gasoline or E85 ethanol.

The Energy Policy Act of 2005 mandates that renewable fuel usage rises from 4 billion today to 7.5 billion by 2012. And because of increasing public pressure for oil alternatives and strong bipartisan support for ethanol in Congress, many believe that this amount could rise.

Ethanol is a renewable, cleaner alternative to gasoline and can be produced and sold for less than the current price of gasoline.

It’s now a viable alternative to our transportation fuel needs and is the best possible solution for what has become a huge political, social and economic problem.

Steve McDonald

Ethanol is Here to Stay… and Here’s How to Profit
by Karim Rahemtulla, Chairman, Mt. Vernon Research

Ethanol is here to stay - plain and simple. In fact, I believe there are two key reasons why the ethanol industry has a huge future:

The U.S. Government Wants Ethanol to Stay

For the moment, a burgeoning ethanol industry gives the government a boost on a few issues, most of which are politically motivated. A strong move toward ethanol makes the government look like it’s finally pushing hard for fuel independence and away from the country’s “addiction” to oil from the Middle East and South America. That advantage (which is essentially a national security issue) will make ethanol and other bio-fuels attractive for years. And because it greatly aids farmers, it also stimulates economic growth.

The politicians who pull the purse strings in Washington are backing up the rhetoric with action. It started with a huge endorsement from President Bush, who stated that, “Ethanol will replace gasoline consumption. The industry is on the move and America is better off for it.” The government also ordered that ethanol replace MTBE as the current gasoline additive. This is an industry on the move… fast. According to the Renewable Fuels Association, total U.S. ethanol production was 175 million gallons in 1980. But last year, that total had soared 2,130% to 3.9 billion gallons. Ethanol demand this year alone is expected to jump 50%. As a result, the number of U.S. ethanol refining plants is projected to double to around 200 over the next few years.

Oil and Gasoline Prices Are Soaring

News this week that BP has been forced to shut down its Prudhoe Bay oil pipeline in Alaska “indefinitely” (i.e. several months) due to “severe corrosion” has merely added to the strain on an already burdened industry. Accounting for 8% of U.S. production (400,000 barrels per day), this is America’s biggest oilfield and the news has pushed oil and gasoline prices up again.

The equation is simple: As long as oil and gasoline prices remain high, ethanol will continue to increase its presence - and give a huge boost to the amount of funding and incentives available to ethanol companies to get production rolling more vigorously. When produced in mass quantities, ethanol has two benefits over gasoline. First, it can be cheaper to produce, and second, it’s renewable. In response to soaring jet fuel costs, Virgin Atlantic Chairman Sir Richard Branson plans to invest around $400 million to produce ethanol for his airline.

So Where’s The Profit Opportunity?

You could buy pure ethanol plays like Archer-Daniels-Midland (NYSE: ADM), Verasun (NYSE: VSE) or the more speculative Pacific Ethanol (Nasdaq: PEIX), which has dropped sharply recently, but at $17.50 is still too expensive.

But with the industry still raw and volatile, I prefer to take a stealthier and safer investment approach. In the July Xcelerated Profits Report issue, I gave readers a play that benefits from movements in the ethanol market, while also staying diversified and paying a cool 9% dividend. This $5 billion company just reported healthy earnings and a dividend increase. It also owns a big chunk of a private ethanol firm that’s among the top five producers. It paid about $140 million for the stake, which is worth almost $1 billion today. So if ethanol rises, this company makes money. And if it fails, investors will still be in an investment that is not solely reliant on ethanol for its growth and profits.

Karim Rahemtulla

Smart Profits Alert: You’ve heard our half of our take so far. Stay tuned for Part 2 on Monday.

Good Trading,

The Team at Mt. Vernon Research

Today’s Smart Profits Cribsheet

Ethanol vs. Oil: Which is the best bet for your investment dollar? Mt. Vernon Research Chairman Karim Rahemtulla recently tackled this question as he weighed up both markets. Check it out in Smart Profits #312, Ethanol Investments: Two Ways To Profit From the Shift Towards Ethanol.

You now have a great chance to ride the wave of this heavily government-backed industry. To find out much more about the ethanol market… its prospects… and how you can profit from it, click this link to read our brand new report.

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