ETF Expert Corner

Toby Loftin Spotlights NYSE Pickens Oil Response ETF

August 7th, 2018 by ETF Store Staff

Toby Loftin, Managing Principal at BP Fund Capital Advisors, spotlights the NYSE Pickens Oil Response ETF (BOON) and explains the investment case for energy.



Transcript

You can listen to our interview with Toby Loftin by using the above media player or enjoy a full transcription of the interview below.

Nate Geraci: We are now going to spotlight two very innovative and unique ETFs. The first one is the NYSE Pickens Oil Response ETF, ticker symbol BOON. And as you can gather by the name and the ticker symbol, this is an ETF that billionaire T. Boone Pickens has lended his name to. This ETF just launched back in February and I'm now very pleased to welcome to the program Toby Loftin, Managing Principal at BP Capital Fund Advisors and Founder of TriLine Index Solutions, which manages the index behind this ETF. Toby is joining us via phone from Dallas. Toby, a pleasure to have you on the program today.

Toby Loftin: Hey, good morning, Nate. Glad to be here. Thank you.

Nate Geraci: Toby, first, how is T. Boone Pickens involved with this ETF?

Toby Loftin: Well, Nate, if you remember, back in July of 2008, Boone launched the Pickens Plan and it was meant to address the shortcomings of past administrations who had promised energy independence by policy. And so what we've done is we've taken the principles of the Pickens Plan and used them as the foundation for the design of the index. And so Boone is supportive, to say the least, but he loves that we've taken his thought leadership and crafted it into something that is actually practical and relevant and timely.

Nate Geraci: Alright, so let's talk more about the ETF. Again, the NYSE Pickens Oil Response ETF. Walk us through the methodology here.

Toby Loftin: So I guess to start with, we asked ourselves, "Look, there's a lot going on in the US in terms of energy production and supply and how that's affecting the rest of the world that's been going on really since '05." But there was no real way to invest in it in a way that was balanced. So we said to ourselves, "Well, let's look at the whole equity market through the lens of energy." What do I mean by that? Well, here in the US, if you have cheap natural gas, for example, there are a host of industries that are going to benefit from that decreased fuel expense or feed-stock costs relative to other competitors around the globe. So we said, "Alright, let's look at the whole market and decide how energy intensive is each company?" And what we mean by that is how much energy do they burn, and then translating that into dollars. So the number of BTUs they burn and translate that into dollars and then compare that to their revenue. And while that's a helpful start, the alternative way of looking at it is from a top down perspective. And instead of saying, "Hey, this is an energy company because it has assets that are part of the supply chain, let's look at it through the lens of how the equity price is related to oil prices." We chose Brent crude oil because we believe that it is the global benchmark for the price of a British thermal unit because it’s seaborne and it just serves as a better tool. Whereas West Texas Intermediate, for example, is landlocked here in the US. So once we established that, we said, "Alright, let's start with the NYSE 1000 and let's run a correlation analysis to all stocks in that group. And we'll take as a first step, the top 40th percentile." By the way, the correlation was not done just on the first month of Brent. Instead we did it over multiple periods, so three month, six month, twelve month, three year and five year. That was meant to rid any type of noise in the front end and also to avoid any type of spurious relationships. And so then once we take the top 40th percentile, we apply a qualitative screen and that qualitative screen is meant to knockout certain industries that don't really have a true fundamental relationship with oil prices. For example, banks. Banks don't really burn hydrocarbons. There's some banks that lend to energy companies, but that's not what we're trying to capture here. So, at the end of the day, what you arrive at is a group of companies that reflect not only a relationship to oil prices, but the information that's contained in oil prices that's related to economic activity globally. And so these are a US-based companies, a minimum market cap of $2 billion and a minimum average daily trading value of $10 million. The index was actually designed to be able to underpin a fixed indexed annuity product and could be as large as $5 billion dollars. But we started with the ETF BOON.

Nate Geraci: And how many holdings total?

Toby Loftin: Yeah, we currently have 81 for this year, but the index is reconstituted annually. And so if you look at the 20-year back test, what you'll find is a range of roughly 75 to 125 companies comprising the index annually.

Nate Geraci: I want to go back to something you mentioned earlier. You mentioned that to determine individual companies, you look for what's called energy intensity. Can you perhaps give us some more detail on exactly how you measure that?

Toby Loftin: Yeah. So the initial way we look at it is we say, "What is the economic value added by the company?" And we measure that by saying, "Alright, here's the energy consumed and that's the numerator." So we figure out how many British thermal units did a company actually burn - gas, oil, NGLs - and then we divide that by the total revenue or economic value added over a period so that we get some relationship between how much energy did they burn and then compare that to their total sales. But then we go a step further and we have four categories of what we call end users of energy. And there's cost takers, there's cost pushers, there are those who have a relative cost advantage, and then there's finally revenue or margin enhancers. And so within those four categories, there are different companies that rest within each.

Nate Geraci: Well, I was going to ask you how much you exclude somebody like airlines where theoretically their demand is going to pick up as the economy is doing well, maybe you have oil prices increasing, but at the same time that's a very costly input for airlines. How is something like that screened out?

Toby Loftin: Yeah. So airlines typically fall into the bucket of cost taker and we don't necessarily like that particular category because they don't have as much control over the cost inputs and what ultimately happens to their bottom line. And, traditionally, airlines have had a less stable business model and we don't want folks to view the end user bucket as a hedge where when oil prices go up, the traditional energy does well and the other side does poorly. That's not how this is built. This is really what you need to think of is as the traditional energy group, meaning the E&P, exploration and production and oil field services usually does well in a rising price environment. Well, so do industrials and materials, for example, as economic activity begins to ramp. And usually when oil prices are going up, that's an indication that demand is strong and so economic activity is ramping up along with it. So that's really the design or the spirit behind it.

Nate Geraci: Our guest is Toby Loftin, Managing Principal at BP Capital Fund Advisors. We're spotlighting the NYSE Pickens Oil Response ETF. Toby, can you maybe do a little compare and contrast between BOON and some of the other prominent energy sector ETFs? Obviously, this is a popular space for investors. Give us a few of the main points of differentiation here.

Toby Loftin: Sure. Well, if you look at the XLE, for example, it's one of the largest ETFs in the energy space and it's based on the Global Industry Classification System, by the MSCI. And you look at the top three constituents and it's Exxon Mobile, Chevron and Schlumberger. Well, that's 45% of that XLE, whereas in BOON we've got equal weight across the 81 constituents, for example. But more importantly, if you look at the components, we are balanced across the energy value chain, meaning we have upstream, downstream, and end users. Whereas when you look at the XLE or XOP or the OIH, they are specifically honing in on one part of the value chain as opposed to having a more balanced set of exposure. And what our intent is to maintain the upside, but reduce the downside. And over a 20-year back test, when you look at the sharpe ratio, the Pickens Oil Response Index has a superior number associated with it. Now, we realize that’s a back test, but that's the spirit of the design by which BOON is built.

Nate Geraci: So if I were to maybe restate that, some of the other energy sector ETFs you're saying are more upstream companies where you have oil and gas producers, oilfield service companies, and so perhaps they're a lot more sensitive to commodity prices which can obviously be boom or bust. Is that sort of a fair way to state that?

Toby Loftin: That's exactly right. And look, if Boone were on the show with us, he would say, "Fellas, it's really tough to pick the tops and the bottoms." So what we're trying to do is make energy investible and that's why we're redefining it. We think that the old GICS way of looking at things, that lens is not a bad lens, it's just not necessarily the one that you should view today's market in. I mean, I cite as an example, the GICS changed the telecommunications sector recently and we viewed that as a rearview mirror type maneuver. Whereas, what we're trying to do is look at the market in relative terms as opposed to absolute terms because we think that's a more contemporary method of going about it.

Nate Geraci: Toby, we have a few minutes left. Let's talk more about the overall investment case for energy. Why own something like BOON in a portfolio?

Toby Loftin: Well, when you zoom out and you say, "Okay, what's happened here in the US from an energy perspective? Let's turn to the supply side for a minute." So back in 2005, you had the Barnett Shale here in Dallas, Fort Worth kickoff as really the first shale play to be developed in earnest. That was primarily natural gas, but we turned our attention to oil and liquids back in '09. And the inflection from say two ... Or excuse me, 5 million barrels per day of oil production to today we're north of 10 million barrels per day of production here in the US. That's led to the US becoming a global exporter of crude oil. And last month we had 3 million barrels per day of crude oil exit the US. As late as December of 2015, we were exporting zero because there was an export ban. So there are huge movements that are unfolding on the supply side that's affecting the global energy markets. Now, I say all that and then it naturally begs the question, "Well, which companies benefit?" Well, there's companies in the Permian, for example, in West Texas who represent the total recoverable oil and the production is larger than the country of Iran. And so most people don't realize that the Permian is becoming almost its own state of oil production that affects the rest of the world. Tons of work that we do fundamentally to identify the companies that are benefiting there, but that the US is going to continue to play an increasing role in oil supply.

Nate Geraci: Toby, you mentioned a movement. What about the movement towards clean energy - solar, wind, water? There's obviously a lot of focus around climate change and the environment. Is that a potential longer term risk at all in this particular sector?

Toby Loftin: Yeah, it certainly is, but you know, I would take you to the fact that one of the constituents in the oil index, Oil Response Index, is First Solar and the reason it's in there is that when you think about solar projects, it's connected to oil prices because all energy is connected to some extent and we view First Solar almost like a series of call options on oil prices. And so we're cognizant of what's going on with respect to renewable energy. In fact, that was part of the Pickens Plan. It was about anything American, whether it was wind, solar, nat gas, you name it. We want it to be energy independent. So, over time, I think the Pickens Oil Response Index will adapt according to the rules and the methodology that we've built and will address the question that you're asking.

Nate Geraci: Well, Toby, great spotlight today. Really interesting approach to the energy space. Certainly wish you all the success. Thank you for your time.

Toby Loftin: Thank you, Nate. I appreciate it.

Nate Geraci: That was Toby Loftin, Managing Principal at BP Capital Fund Advisors and Founder of TriLine Index Solutions. Again, the ETF is the NYSE Pickens Oil Response ETF and you can learn more about this ETF by visiting TBooneETF.com. That's TBooneETF.com.