Are Short Sellers Onto Something at Cheniere Energy?

Since everyone loves a winner, it's reasonable to assume that everyone hates a loser -- everyone but short-sellers, at least. These contrarian investors bet that hot stocks are primed to fall, aiming to turn their pessimism into profits.

Below we take a look at soon-to-be liquid natural gas exporter Cheniere Energy (LNG -0.56%), which saw a 5% increase in shares sold short among American Stock Exchange stocks in the last reporting period, shares that now total almost 10% of its float. Despite getting the export permitting out of the way, construction beginning of its Sabine Pass liquefaction facility, and large global demand for its output, many doubt that Cheniere's financial situation will allow investors to emerge unscathed.

Cheniere Energy snapshot

Sources: wsj.com, FinViz.com. N/A = not available; Cheniere Energy doesn't pay a dividend

Just because the shorts are piling in doesn't mean you should too. Such stocks could have serious problems that warrant their short interest, but they might also just be stricken by short-term troubles. Only Foolish due diligence will tell you for certain.

The short story
In the global export market for natural gas, Japan is the straw that stirs the drink. Asian LNG demand is expected to reach 400 million tonnes per year by 2020, with Japan remaining the biggest importer, though you can expect China and India to increase their demand as well.

Currently Asia's supply comes from Qatar, and to a lesser extent Australia, but the Middle Eastern potentate is already operating at its maximum annual export capacity of 77 million, while the land down under has but a third of that capacity now and won't see it reach Qatar's levels to around 2017. It's estimated Australia will grow to as much as 130 million tons per year, but that won't happen till 2035.

In the wake of the Fukushima reactor meltdown, Japan has paid as much as $20 per million metric British thermal units, though according to Cheniere it was down to $16.58 per mmBtu at the end of August. The regional price in Europe was under $12 per mmBtu. That's significant because Henry Hub natural gas prices current go for around $3.50; Cheniere can deliver it to Asia for around $9.50 and to Europe for under $8 per mmBtu.

Others recognize the opportunity, too. Apache (APA -0.88%) wanted to build an export facility in northwestern Canada using funds from EOG Resources (EOG 0.56%) and Encana (OVV 0.57%) to finance the construction, but Royal Dutch Shell (RDS.B) plans on building a bigger one. Cheniere's announcement that it would sell its output based on the lower Henry Hub price instead of indexing it to the price of oil makes it too large of a hurdle to surmount.

While ExxonMobil (XOM -0.09%) and Kinder Morgan (KMI -0.22%) also want to get export permits for LNG, only Cheniere has successfully navigated the regulatory waters and come out intact on the other side. Moreover, the Energy Department has put the issue of export permits on the shelf for the time being, meaning Cheniere has free rein to forge ahead unmolested by domestic competition.

The LNG exporter has hired Bechtel to construct the terminal through its subsidiary Cheniere Energy Partners (CQP -0.80%), is lining up long-term-contract partners like Chevron (CVX -0.04%) and Total (TTE 0.12%), and has shored up its finances. It says it won't stock or debt at the corporate level unless there are "exceptional" circumstances or opportunities.

It seems to me that Cheniere has an exceptional opportunity before it and the company is moving ahead to take advantage of the market and the regulatory environment while it can. Natural gas prices may rise, narrowing some of the margins Cheniere will enjoy, but it's still a profitable place to be in. As a result, I'm rating Cheniere Energy to outperform the market indexes on Motley Fool CAPS, the 180,000 member-driven investor community that translates informed opinion into stock ratings of one to five stars.

Don't sell yourself short
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