Investment Solutions

Quarterly Report – December 31, 2014

January 28, 2015

In our opinion, our “energy value chain” investment approach, diversification, and asset allocation were helpful in stemming the oil price decline’s impact on the Fund’s performance. Although nothing in the macro energy space has been spared, given the speed and magnitude of the unprecedented downside oil momentum, we believe the average stock in the Fund is well positioned to outperform once “the dust settles” and investors begin to perceive that the oil price level has stabilized and the oversupply condition has been removed. Specifically, the huge increase in U.S. shale production in the last four years, coupled with Saudi Arabia’s unprecedented decision to terminate its historic role as OPEC’s “swing producer” and refusal to cut back production caused historical volatility in the energy space. Unbelievably, U.S. shale producers seem to have become the “swing producers” that are likely to determine the ultimate price for future global oil.

Over time, the oil demand should increase as consumers benefit from lower gasoline prices and manufacturing expands reflecting lower overall costs and technology. Overall, we believe oil supply and demand could be in balance in 2016.

In summary, we believe that the outlook for most energy sectors are now more “half full than half empty”. The severity of the oil price drop is now beginning to reduce capital expenditures by oil producers. We have already seen a reduction in drilling permits and a slashing of the rig count (lowest in two years) and in our opinion more should come. These are the leading indicators which take six to nine months to start to be seen and the implications should be more pronounced in the future, as some long term projects have now been either delayed or mothballed. Turning to demand, Asian oil imports are up 10%, month over month as the Chinese continue to build their strategic oil reserves and U.S. auto sales continue to post strong numbers reflecting in part, the falling fuel prices. All this bodes well for a positive medium to longer term view on this sector. Importantly, many of our investments continue to be in the Master Limited Partnerships (MLP) sector; specifically those stocks that are well insulated from commodity price volatility. We continue to maintain our hedges and own what we believe to be the highest quality diversified energy companies such as Schlumberger, Anadarko, Energy Transfer, and Nextera, to name a few.

Historically, our approach has been to invest in good quality, well managed companies with stable and growing businesses throughout the “Energy Value Chain”. We have witnessed many cycles as portfolio managers throughout our careers and, although we have been surprised at the magnitude of the oil price decline, we are confident in our ability to manage in this environment. Crude oil is trading as if a better mouse trap has been invented. We, on the contrary, believe demand for oil is relatively stable, growing about ~1% per year. Although, oil supply has grown recently from the highly successful drilling of U.S. shale and from various unstable oil exporting nations, i.e. Libya, Russia, Iraq, Nigeria, and Venezuela, we believe we are now in an environment where most OPEC and non-OPEC countries do not have significant excess daily capacity. Actually, it’s pretty tight. Also, U.S. oil shale is not cheap to drill and transport and the wells have high decline rates. Therefore, in our opinion, the current oil price is not sustainable. All these point to improved (i.e. higher) oil prices.

We are currently sifting through the wreckage as we believe that we are very close to a bottom because companies are now reducing drilling budgets and reducing rigs . There is tremendous value along all of the various subsectors we follow and we believe we are well positioned to benefit from an oil price recovery.

Paul Elliot, CFADan Tulis, CFAJames Elliot, CFA

Certain statements contained herein may contain "forward-looking statements" within the meaning of the Private Securities and Litigation Reform Act of 1995. Such forward-looking statements involve known and unknown risks, uncertainties and other factors which may cause the actual results, performance or achievements of the Fund to be materially different from any future results, performance or achievements expressed or implied by such forward- looking statements. Such factors include, among others, risks and uncertainties associated with the timing and costs of energy sector production, the demand for and prices of oil/gas products, the timing and amount of capital spending in the nation and world wide, and general economic factors. This report is not a recommendation to either buy or sell any securities mentioned.


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About ELCO Management, LLC
Established in 1995 and based in New York, ELCO Management ( offers investment solutions to high net worth individuals and institutions. ELCO also manages two highly specialized energy funds: the ELCO Energy Fund, L.P. and the ELCO Select Fund L.P.