ENERGY: Under Pressure

In case you haven’t noticed, energy is under quite a bit of pressure lately and we are not referring to fracking here. Crude has been crashing since the $108 a barrel level in late April and continues to fall as the US dollar puts up strength and the inflation-induced commodity bubbles begin to burst.

ENERGY: Under Pressure - FTK TakeMeLower2

One of our best calls has been shorting Flotek Industries (FTK). We went short at $11 a share on June 7 with the thesis that as big name players like Baker Hughes (BHI) and Haliburton (HAL) get squeezed on costs and falling margins, they will need to cut costs somewhere and the suppliers of raw materials to the drillers are a perfect fit. It breaks down to three key factors, essentially:

  1. Top line growth slowing as drilling activity slows (strong dollar = lower oil)
  2. Margin compression due to lower chemical pricing and higher input costs
  3. Relative outperformance reversal and relative valuation call (FTK not cheap vs group)

We see FTK going lower if past performance is any indication of what the future holds (it’s not), it could happen much sooner rather than later.

The key takeaway here is that FTK isn’t the only company who stands to get squeezed from falling energy prices. Companies like CARBO Ceramics (CRR) will also capitulate to the major players as pricing agreements take to the wind and are renegotiated. Take note of CRR and as we believe it has the potential to become the next FTK as we become increasingly bearish on it.