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Seven Generations Energy gets a coveted spot on the S&P/TSX composite index on Friday and it will be a stock to watch for the future for when commodity prices improve.

After the close of markets on Friday, five stocks are being added to the index – including Seven Generations Energy – and four are being removed.

It's the sole energy stock being added to the index. The other companies include tech stocks Computer Modelling Group, Enghouse Systems and Mitel Networks, and consumer stock Intertain Group.

Those getting removed from the index are AGF Management, Capstone Mining, RMP Energy and chemical producer Canexus.

Four of these future additions to the S&P/TSX composite index are small-cap stocks, with market capitalizations just north of $1-billion; however, one addition stands out as its market cap is currently just over $4-billion – that's Seven Generations Energy.

Index changes can be an important announcement for investors to watch as it can generate buying activity and increase a company's visibility. For instance, when a stock gets added to an index it can spark buying activity from both index and institutional investors – especially those that aim to track the index. The strategy of index investors is to invest in stocks in the index, and institutional investors may be inclined to purchase additions to the index as their funds' performances are often measured against it, so there is risk to not owning a stock held in the index.

Let's take a closer look at this future mid-cap stock addition to the index.

Seven Generations Energy, also referred to as 7G, was listed on the Toronto Stock Exchange on Oct. 30, 2014. That day, volume soared as more than 18 million shares traded as investors built up positions they weren't able to get because the stock's initial public offering was in high demand.

Seven Generations has a number of attractive qualities:

1) Strong growth profile. Management's focus is to achieve solid growth from the development of its Kakwa River project, a liquids-rich natural gas and light-oil project located in northwest Alberta. Management estimates 2015 production will average between 55,000 barrels of oil equivalent a day and 60,000 boe/d. Analysts' cash-flow-per-share estimates forecast a robust growth outlook, the consensus estimate is $1.55 in 2015, jumping to $2.45 in 2016.

2) Large resource size. With more than 420,000 net acres of Montney land, this large resource base provides management with a high number of future drilling opportunities.

3) Resource quality. Its Montney play offers attractive economics.

4) Infrastructure. The project has access to a railway line, pipelines and processing facilities.

5) Ownership of its facilities. Seven Generations owns a 100-per-cent working interest in its processing facilities and gathering systems, providing management with control over its operations and costs.

6) Risk-management program. The company has commodity and foreign-exchange hedges in place to reduce its exposures.

As management is focused on growth, its current objective is to redeploy future earnings into its business and the company does not pay a dividend.

Chart watch

There is limited data for this stock since it just began trading in late 2014; however, in that brief time it has been a volatile ride. Year-to-date, the stock is down 5.7 per cent. It has traded from a low of $14.48 on Jan. 15 and then rallied 42 per cent to peak at $20.61 on April 24. Recently, the stock has been consolidating in the $16 to $18 range.

Analysts' recommendations

Of the analysts covering this stock, 12 have "buy" recommendations and two have "hold" recommendations. One-year price targets range from $19.50 to $26, with the average one-year price target of $23.37, implying a potential gain of 41.6 per cent from current levels.

The bottom line

This is a company with solid growth prospects run by a proven management team. However, the energy sector is volatile and the stock price for Seven Generations may have wild swings – the stock is currently trading below its IPO price of $18. The energy sector has been a laggard year-to-date and the commodity price environment has been challenging for energy producers. Seven Generations Energy is best suited for growth investors with a high risk tolerance and patience.

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Here are changes to the S&P/TSX composite index, effective Friday.

In:

  • Computer Modelling Group
  • Enghouse Systems
  • Mitel Networks
  • Intertain Group
  • Seven Generations Energy

Out:

  • AGF Management
  • Canexus
  • Capstone Mining
  • RMP Energy

Source: S&P Dow Jones Indices

Jennifer Dowty, CFA, Globe Investor's in-house equities analyst, writes exclusively for our subscribers at Inside the Market.

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