US Edition Drax
410.4p -10p
Questor says buy
Instinctively, Questor is a contrarian. If something is a fashionable investment, it's often best to steer clear. If something is very unfashionable, well, that's a different matter altogether.
As we approach the climate change shindig in Copenhagen, renewables and new green energy sources are at the top of the agenda. That's why, ahead of the talking shop in Denmark next week, Questor thinks you should buy shares in Drax, the operator of the UK's largest coal-fired power station.
Drax supplies about 7pc of the UK's power needs. Its share price has been hit hard by the low price of gas over the past year. This has made generating electricity using gas cheaper than using coal-fired power stations. The resulted in Drax shares being hit hard – falling 53pc from a high of 631½p on January 6 this year.
Gas prices across the world have been subdued as the volume of stored gas continues to rise. This has led to speculation about a long-term glut of gas that will keep prices low. Future electricity prices have fallen in anticipation of continuing low prices for gas-generated energy.
However, Drax has already sold forward about 90pc of its capacity in 2010, so earnings visibility is strong and the dividend should be secure. This is very important because the shares are currently yielding a very impressive 7.8pc. In 2011 the company sold forward about 54pc of capacity.
The gas bears cite the amount of new liquefied natural gas (LNG) coming on stream and new technologies that can extract shale gas in the US as two of the reasons the price will stay low. Although a very interesting proposition, the shale gas story is by no means a done deal.
There are question marks over the costs involved in producing shale gas and the levels of production that can be achieved. Some critics have suggested that about 70pc of recoverable gas is tapped within the first year. There are also environmental issues surrounding the "fracking", or deliberate cracking, of rock formations on local water supplies. Shale gas may show promise, but it probably won't be global energy panacea.
Over the longer term, coal generation is likely to be phased out, so the next question regarding an investment in Drax relates to the UK's energy policy.
Will the next British government have done enough to ensure that renewable energy sources and new nuclear plans will be built in time to replace the UK's aging electricity generation capacity? Questor suspects not. However distasteful coal-fired plants are in some quarters, coal generation in the UK will be around for some time to come. We will not have much choice.
Drax is also investing in production from biomass. The group has started a co-firing operation, which burns a variety of non-food biomass such as forestry residues and agricultural products, such as the husks of sunflower seeds and peanuts. Darx aims to produce 12.5pc of its electricity from co-firing and it is a key element of its goal to reduce carbon dioxide emissions by 15pc. The group also plans to build three biomass-fired generating plants.
Of course this investment is not without risk. If a real gas glut materialises the group's earnings will suffer. However, next year's impressive dividend seems underpinned and the shares are trading close to a historical low rating. Also, looking into the future, coal generation looks likely to be here for some time because of Britain's creaking power infrastructure. Drax is also the cleanest coal-fired plant in the country.
Investors will have to keep an eye on what is going on in the forward gas market but, trading on a December 2009 earnings multiple of 7.8 falling to 6.4 next year and yielding almost 8pc, shares in Drax are a buy.
HSBC Infrastructure
112p -½p
Questor says buy
A few weeks ago, HSBC Infrastructure fund said it was going to raise new funds through the issue of "C" class shares to provide funds for extra investment.
This is a method that funds use in order to limit dilution of existing shareholders. When the C shares ultimately convert to ordinary shares it is on a net asset value basis, less costs.
Over the past week we have had news on the type of investment the fund is targeting. Last week, it was revealed that the fund had signed a conditional contract to acquire a 50pc interest in the Queen's Hospital PFI project in Romford from Lend Lease for just under £24m.
This investment means the fund will now raise £80m, the maximum amount it had indicated it would seek, in the share offering.
The Romford Project involves designing, building and financing the Queen's Hospital in Romford, followed by maintenance and the provision of non-clinical services for a total term of 36 years, which started in January 2004.
The addition of Romford project the brings the group's portfolio to 32 infrastructure projects, and yesterday the fund said it had boosted its stake in the Greater Manchester Police Authority public finance initiative project to 72.92pc from 50pc.
HSBC's listed infrastructure fund currently yields 5.4pc and it plans to increase its full-year dividend to 7p by 2013. At today's price, that implies a future yield of 6.2pc. The shares were recommended at 109½p on May 6 and the stance is remains buy.