Why I Sold BP Prudhoe Bay Royalty Trust

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 |  About: BP Prudhoe Bay Royalty Trust (BPT)
by: Alexander J. Poulos

When a position declines from my original entry point I like to reevaluate my original thesis for entering into the position. If the thesis is still intact I am content to sit and wait for the story to develop, similar to what I have detailed in my Intel (NASDAQ:INTC) holding which can be reviewed here. Sadly, the case for BP Prudhoe Bay Royalty Trust (NYSE:BPT) has changed for the worse and I have exited the position. In the article below I will detail the two main reasons why my thinking has changed leading to a liquidation of my position.

In September of 2012 the Fed just initiated a new round of quantitative easing dubbed QE3. The increased activity by the Fed led me to conclude that the US Dollar would remain weak as interest rates were suppressed at an artificially low level. I concluded that commodities would have a nice tailwind at their backs and would continue to appreciate while this policy is in effect. I viewed a position in BPT as a worthwhile investment as the Fed continued this policy into 2015.

The above scenario hasn't changed the intended outcome, an artificially depressed dollar hasn't materialized. To my great surprise the dollar has started to strengthen against the euro and the Japanese yen as both are actively contemplating easing or a similar QE program. The Japanese government has publicly telegraphed that they want a dramatically weaker yen. As we can see from the chart below the yen has weakened sharply since the November elections leading to my bullish call on the Japanese stock market which can be seen here.

Euro to US Dollar Exchange Rate Chart

Euro to US Dollar Exchange Rate data by YCharts

US Dollar to Japanese Yen Exchange Rate Chart

US Dollar to Japanese Yen Exchange Rate data by YCharts

The dollars appreciation has led to lower prices in commodities including oil. As we can see from the chart below oil hasn't approached the peak prices we saw at a similar time last year. In the winter as BPT was heading lower, the price of oil was still significantly above where it was at the same point the year before, leading me to conclude that the investment thesis remained intact. The unforeseen strengthening of the dollar has altered the equation in a negative manner, invalidating my investment thesis for BPT, leading me to liquidate the position.

WTI Crude Oil Spot Price Chart

WTI Crude Oil Spot Price data by YCharts

The dividend/return of capital component of the trust that many investors find appealing has been negatively impacted by the above developments as well. A royalty trust distributes the proceeds from the sale of oil less expenses. The biggest risk to the "dividend" stream has been the price of oil and the trust's ability to keep operations flowing at an uninterrupted level. With the trend in oil now favoring lower prices I anticipate lower dividends to be forthcoming from the trust. The trust has stated that they expect the cost of extracting oil to continue to rise well into the foreseeable future. With lower prices combined with higher costs the dividend will be underwhelming, making the risk reward relationship for holding the trust unappealing in my view.

In summary the investment thesis has been invalidated by a stronger dollar necessitating the liquidation of my position. As much as I hate selling for a loss it is better to accept a smaller loss than tie up capital and accept a much bigger loss in the future.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: Tha above article is for informational purposes only and not actual investment advise.