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UPDATE: This rare utility fund is fueled by growth in the natural gas industry9-26-17 7:36 AM EDT

By Philip van Doorn, MarketWatch

The Hennessy Gas Utility Fund forgoes big dividend income in search of companies that are expanding

Investors may consider natural gas distributors, through pipeline operators or utilities, to be suitable mainly for dividend income but not necessarily for growth, as falling energy prices are a big risk.

But you can see in the following charts that there's quite a bit of growth among natural gas utilities, even with low energy commodity prices.

The $1.4 billion Hennessy Gas Utility Fund has exclusive license to track the American Gas Association (AGA) Stock Index. The index is made up of companies that are members of the AGA, weighted by market capitalization and the share of assets related to natural gas distribution.

According to the Ryan Kelley and Skip Aylesworth, two of the fund's portfolio mangers (the third is Brian Peery), about 25% of the fund's holdings are stocks of local natural gas distributors, 25% general partners that manage pipeline limited partnerships and the remaining 50% multi-utilities that distribute electricity and natural gas.

Hennessy Funds is headquartered in Novato, Calif., and has about $6.5 billion in assets under management, in 14 mutual funds.

You might be familiar with the gas pipeline partnership space, which is known for its attractive dividend yields, and most easily tracked with the Alerian MLP Index . But the AGA Stock Index, and, in turn, the Hennessy Gas Utility Fund, steers clear of the limited partnerships.

"We prefer to own the general partner as opposed to the MLP," Aylesworth said when he and Kelley were interviewed by MarketWatch on Sept. 22. "The general partner is, in essence, who manages and controls the limited partner, and controls the timing [corporate structure] conversions that trigger tax issues."

The Alerian MLP ETF (AMLP) has a dividend yield of 8.05%, while the Hennessy Gas Utility Fund's investor shares have a much lower yield of 2.33%. But check out the difference in the funds' performance over the past five years:

You can see that the oil price decline from July 2014 to February 2016 had a much smaller effect on the Hennessy Gas Utility Fund.

Here's a 10-year comparison of the funds' total returns:

Here's an example of how the AGA stocks index modifies the market-capitalization weighting of companies. Berkshire Hathaway Inc. (BRKA) is a tremendous company, but with only about 0.2% of its assets related to natural gas distribution, it makes up only 0.5% of the Hennessy Gas Utility Fund's portfolio.

Growth factors

Kelley said mergers among natural gas companies have helped to prop up stock prices, as large companies, including many Canadian energy companies, seek to enter the growing market. He pointed to statistics from the Energy Information Administration (https://www.eia.gov/totalenergy/data/browser/?tbl=T01.03#/?f=A&start=2001&end=2016&charted=1-2-3-5-12) showing that while total energy consumption in the U.S. declined by 2% from 2006 through 2016, the use of natural gas increased by 27%, "essentially taking market share from coal, which was down 37%."

Aylesworth said companies buying into the natural gas space have typically been "large and well-established companies eating the small." When asked how the action was affecting the fund's performance, he said: "The M&A price premium has generally been 20% to 30%, so we're picking up that pop in the price. And buyers have not had significant declines from these purchases."

With the tremendous increase in domestic gas production, the U.S. has become an exporter of liquid natural gas, and the fund's largest holding, Cheniere Energy Inc. (LNG), is the only company currently operating liquid natural gas tankers, although "others are planned," according to Aylesworth. He cited the company as an example of one that is lumped in with pipelines and sensitive to commodity price changes.

But overall, low natural gas prices -- and the commodity's less harmful effects than coal -- have helped the industry grow. What's important for the fund's importance is the increase in the flow of natural gas.

"We are investing in the toll takers. Low commodity prices are a good thing," Aylesworth said.

Here are the fund's top 20 holdings as of Sept. 21:

Company                               Ticker  Total return - 2017, through Sept. 21  Total return - 5 years  Total return - 10 years 
Cheniere Energy Inc.                  US:LNG                                     6%                    164%                      12% 
Kinder Morgan Inc. Class P            US:KMI                                    -5%                    -34%                      N/A 
Enbridge Inc.                         US:ENB                                     2%                     26%                     219% 
TransCanada Corp.                     US:TRP                                    13%                     32%                     108% 
Atmos Energy Corp.                    US:ATO                                    16%                    173%                     335% 
Sempra Energy                         US:SRE                                    18%                    109%                     163% 
National Grid PLC ADR                 US:NGG                                    13%                     46%                      57% 
Dominion Energy Inc.                   US:D                                      4%                     77%                     168% 
PG&E Corp.                            US:PCG                                    16%                     95%                     111% 
Southern Co.                          US:SO                                      4%                     37%                     113% 
WEC Energy Group Co.                  US:WEC                                    12%                    108%                     290% 
NiSource Inc.                         US:NI                                     21%                    202%                     423% 
Fortis Inc.                           US:FT                                     22%                     30%                      84% 
Consolidated Edison Inc.              US:ED                                     15%                     70%                     176% 
CMS Energy Corp.                      US:CMS                                    16%                    141%                     303% 
Duke Energy Corp.                     US:DUK                                    13%                     65%                     146% 
Public Service Enterprise Group Inc.  US:PEG                                     8%                     78%                      56% 
One Gas Inc.                          US:OGS                                    19%                     N/A                      N/A 
DTE Energy Co.                        US:DTE                                    13%                    121%                     240% 
WGL Holdings Inc.                     US:WGL                                    13%                    151%                     268% 
                                                                                                                     Source: FactSet 

You can click on the tickers for more information, including news coverage, price ratios and financial statements.

-Philip van Doorn; 415-439-6400; AskNewswires@dowjones.com

 

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09-26-17 0736ET

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