It's been a long winter for Canada's oil sands but the recent surge in the price of oil - it has doubled since mid-February - is starting to make things interesting again for investors as well as oil companies.
Of course, if you want to invest in the Athabasca oil sands, there are plenty of risks you have to get your head around.
The situation is still fluid. The price of oil is volatile; the companies themselves are restructuring; costs are still higher than conventional extraction; and there's an added environmental complication.
If you can get your head around the various risks, the Claymore Oil Sands Sector Exchange-Traded Fund is an investment to look at.
But there's another option if you want a little more income, the Claymore Energy Income ETF , which evens out the risks.
But first, let's review if you want any exposure to these oil sands stocks at all.
Now that the price of oil has poked its nose up over $70 (U.S.) a barrel, the big players are beginning to take their development plans off the shelf, and are set to put billions of new dollars into the oil sands. But we should not get too swept up to forget recent history.
The biggest factor in the development freeze was the vertical price drop of oil from a high of $147.27, on July 11, 2008, to its most recent mid-February low of $34.
The second biggest problem was the insane, Klondike-gold-rush environment last summer that pushed labour and construction costs up to the point where it was estimated that Petro-Canada's $24-billion Fort Hills project would need a $100 oil price to earn a 10-per-cent profit. So as the price plummeted, the cost-price squeeze was enough to freeze roughly $230-billion in development. The big question now: Is this new trend toward a higher price going to hold?
While Canada is supplanting Saudi Arabia as America's foremost supplier of petroleum, the Organization of Petroleum Exporting Countries (OPEC) still has a profound impact on price. Saudi Oil Minister Ali Naimi has argued that the "Goldilocks" oil price should be $75 to $85 per barrel, the right level to give the oil industry an incentive to invest in projects while not strangling a potential economic recovery. At the same time, oil is seen as an effective hedge against the U.S. dollar, so when the dollar goes up, the price of oil goes down.
Oil sands producers are certainly acting as if the price is right. Sveinung Svarte, chief executive officer of Athabasca Oils Sands Corp. sees an $80 to $85 price in 2012-2013, so if you can stand a few bumps in the road, the oil sands are starting to look promising, again.
Price isn't the only reason the oil sands are back in business. There's one upside to last fall's crash - reduced cost of production.
Imperial Oil announced last month it was resuming development of the $7.1-billion Kearl Lake project; a big factor in the decision: Imperial says the project will cost between $500-million and $1-billion less than it would have cost last summer during the frenzy to develop during the epic rise in the price of oil.
The cost-price squeeze had another effect - consolidation. And when the $46-billion Suncor / Petro-Canada merger - still awaiting expected approval from the competition bureau - goes through, Calgary-based UBS Securities analyst Andrew Potter believes Suncor's Firebag 3 extraction project is next to restart. Firebag 3 is $1-billion away from putting 70,000 barrels per day on stream.
One of the anticipated effects of the Suncor/Petro-Canada merger is reduced activity, or at least activity at a slower pace. Mr. Potter thinks it is "extremely unlikely" the merged company will go forward with all of its stayed development plans, such as Suncor's $20.9-billion Voyageur projects and the Fort Hills project, which Petro-Canada now believes it can complete for a reduced price tag of $10-billion.
"In all likelihood, only one of these projects will advance at a time which reduces industry's peak labour requirements by up to 10,000 people," he said in a report released in early June.
Suncor CEO Rick George is basking in the sunlight for this coup, in which Suncor absorbs a company that matches it for revenue: $28-billion in 2008 for Petro-Canada versus $30-billion for Suncor; but outdistanced it for net earnings: $3.1-billion for Petro-Canada vs. Suncor's $2.1-billion, and production: Petro-Canada's 418,000 barrels vs. Suncor's 264,700. Let us not forget that Standard and Poor's still has Suncor on credit watch, which will not be resolved until after the merger goes through.
Other companies are starting to stir as well. Mr. Potter believes Sunrise, the Husky Energy-BP PLC project, will resume in 2010, and both Canadian Natural Resources Ltd.'s Horizon project and Nexen Inc.'s Long Lake could resume next year or in 2011.
Mr. Potter estimates that the profitably benchmark for these projects is now $60 oil, but if you ask another analyst you get another number. William Lee of CIBC World Markets thinks $50 oil will make Kearl Lake profitable, while Tristone Capital targets $70 for a 10-per-cent return.
Finally, there's one more storm cloud brewing, or maybe it's the haze of pollution: As the governments of the world work to draft new carbon dioxide policies to replace the Kyoto accord in advance of the Copenhagen round this coming December, the environmental climate surrounding the oil sands industry could be as volatile as the price of oil. A U.S. cap and trade proposal to control carbon emissions levies a tariff on countries that don't cut their emissions, and the oil sands make it difficult for Canada to curb, never mind cut.
It's almost impossible to anticipate the impact of carbon politics on the oil sands, but U.S. Energy Secretary Stephen Chu smoothed more than a few wrinkled brows when he told the Reuters Global Energy Summit recently that he believes technology can solve environmental problems associated with Canada's oil sands and that the huge nearby resource contributes to U.S. energy security.
After you look at all the risks of the oil sands and you are still a little leery about buying individual oil companies - especially before the dust settles on the Suncor/Petro-Canada merger - the Claymore Oil Sands Sector ETF might be an option.
CLO holds Suncor and Petro-Canada but also Imperial Oil, as well as Husky, EnCana Corp., Canadian Oil Sands Trust, Baytex Energy Trust, Canadian Natural Resources and Ivanhoe Energy Inc. At about $13.50 currently, it spreads the risk across the 10 entities. It's still a long way from its 52-week high of $30.25, which you could see as a bargain, or as evidence that the mighty have fallen and still can't get up.
On the other hand, if you want to spread the risk around a little more, look at the Claymore Energy Income ETF which is a basket of 35 Canadian royalty trusts, which enjoy a tax status that encourages larger dividends, and 25 oil sands producers, with the intention of emulating the performance of the Sustainable Canadian Energy Income Index. It's also way below its 52-week high of $33.21 (U.S.) at $12.52.
The clever thing about ENY is an allocation is made quarterly based on a 70/30 split between oil sands companies and Canadian royalty trusts, and that's based on the price trend of oil: if the current quarter's closing price is above the 4-quarters moving price, crude is in a bull phase, and the split emphasizes oil sands companies. If the price falls below that benchmark, then it is in a bear phase and the fund is weighted to the royalty trusts, which is the case right now. But, if $70 oil holds, that could change.
Remember that ENY is a U.S. fund, which means it is vulnerable to the current trend that has the Canadian dollar rising against the U.S. dollar.
In terms of their performance, both these funds were established in the halcyon days of a strong price for oil, so they've got some work to do. Over the past year to the end of May, ENY has felt the heaviest losses at 51 per cent (total return), versus 46 per cent for CLO and 34 per cent for the iShares Canadian S&P/TSX Capped Energy Index Fund.
This year they have rebounded. For the year until the end of May, CLO was up 40 per cent, versus 29 per for the iShares Canadian Capped Energy Index, and 31 per cent for ENY.
Timing is everything. The price is right, and if you're willing to wait out the bumps in the road, the prospect for oil sands income finally looks promising.
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