Daniel Bubis, president and chief investment officer of Tetrem Capital Management Ltd., sees opportunities in Canada's depressed oil patch for one simple reason: It's always "darkest before dawn."
"The strong will get stronger," Mr. Bubis said in a interview from his Winnipeg office, where he helps oversee $5-billion in assets. "You're always best to buy companies that will not only survive but will use that downturn as a way to sort of increase their advantage."
Tetrem has positions in Baytex Energy Corp., Vermilion Energy Inc. and Suncor Energy Inc., as these companies are poised to benefit when oil prices rebound as inventories dip, Mr. Bubis said. Oil prices plunged last year due to an oversupply after the Organization of Petroleum Exporting Countries abandoned output limits. The decline prompted Canadian energy companies to cancel exploration projects and cut jobs and dividends as they struggle with profit declines and debt.
While Baytex has been "hurt pretty badly," the company made the right move of slashing its dividend to zero, has a large asset base and is one of the cheapest energy stocks, Mr. Bubis said. Suncor will outperform industry peers and a successful bid for Canadian Oil Sands Ltd. would allow it to reduce costs and run more efficiently, he said.
Baytex shares have plunged 77 per cent in the 12 months through Monday, the worst performer of 10 North American peers, according to data compiled by Bloomberg. Suncor's stock has fallen just 5.5 per cent over the same period, outperforming five North American competitors, Bloomberg data show.
"The carnage is part of the necessary condition for resetting," Mr. Bubis said.
Canadian oil producers are struggling because the price of U.S. heavy crude hovers around $37 a barrel, down from more than almost $100 in 2013. Western Canada Select, the benchmark Canadian crude, traded just above $23 Monday.
OPEC's strategy of maintaining oil output and suppressing prices may have a bigger impact in Alberta than on the U.S. shale market as long-term oil sands projects are being scrapped and unconventional drilling programs shelved, Bloomberg Intelligence analysts William Foiles and Michael Kay said in a Nov. 18 report. Alberta's longer project lead times, high costs, and limited market access mean operators won't be able to boost output on short notice if prices rebound, according to the report.
"There are a litany of factors at work in my opinion that really create a built-in disadvantage for Canada," Foiles said in a Jan. 4 telephone interview from New York. "I think they will recover after the U.S."
While none of these energy companies are going back to boom days soon, that's positive for investors as there will likely be future dividend increases and efficiencies from cuts in capital expenditures and jobs, Mr. Bubis said. Canadian assets are cheaper than those in the U.S. and buying a basket of large capitalization companies with a dividend yield in excess of 4 per cent on the Toronto Stock Exchange is reasonably attractive for investors compared to bond yields, he said. The dividend yield for stocks on the Standard & Poor's/TSX Index is 3.3 per cent, compared with 2.2 per cent for the S&P 500.
Tetrem holds about 19 per cent of its equity assets in energy and would be looking to add to that with stronger signs of a rebound in oil prices, he said. Tetrem has about 65 per cent of its assets in Canadian equities, and manages funds for Toronto-based CI Financial Corp. and other money managers. Tetrem funds have returned 5.4 per cent in the five years to September, compared with a 4.5 per cent gain in the benchmark gauge.
"At some point, there will be a better cycle but it's just unclear how long we're going to be in this," Mr. Bubis said.
Tetrem is also increasing its position in Canadian National Railway Co. as the country's railways are as "cheap as they've ever been since the financial crisis," Mr. Bubis said. Railways operate as monopolies and have become more efficient operators with rising returns on capital, he said. CN Rail dropped 4.7 per cent in the last 12 months, compared with 12 per cent for the benchmark index.
CN does not comment on its stock performance, spokesman Mark Hallman said in an e-mail. Officials from Baytex, Suncor, and Vermilion could not be immediately reached for comment on Monday.
Some analysts agree with Bubis's call for a rebound in Canada energy stocks. Canada is positioned to outperform the U.S. in 2016 for the first time in six years, according to a Dec. 15 BMO Nesbitt Burns report. Much of the negativity in energy and materials has already been priced into the market and Canadian valuations are now the cheapest since 2008 to 2009, according to the report.
"Canadian assets are cheaper than U.S. assets," Bubis said. "Our market is more inexpensive."