If investors can count on one thing about the energy sector, it’s that it is anything but boring. Look at its manic behaviour of the past few years, months, weeks and even days.
Oil had hit the skids – again – in recent weeks as prices fell from peaks hit during summer. But don’t forget that oil’s most recent high – about US$75 a barrel for West Texas Intermediate – was really a recovery from the last downturn, which began in 2014.
The pain has been even more acute for Canadian producers who saw historic lows for their heavy crude and oil sands bitumen, known as Western Canadian Select. That is until the Alberta government stepped in this week with an order to cut production in the province, which has since bolstered prices.
While the outlook remains grim, those with an appetite for volatility might check out the following stocks, whose share prices have fallen but could be poised for a recovery.
Large, integrated Canadian oil companies are best able to weather the current commodity storm. That’s because they have both refining and "upstream exposure,” or operations to find and produce the commodity, says Joe Overdevest, portfolio manager for Fidelity Investments Canada. In other words, these firms do not live and die by the price of oil alone.
Suncor Energy Inc.: Suncor is well positioned because it has significant refining capacity for oil sands bitumen. “Whatever pain its oil and gas production is feeling, the refinery side of its business will benefit, so it’s essentially a hedge [against low prices],” Mr. Overdevest notes. Additionally, Suncor has a strong balance sheet. “Those companies with the strongest balance sheets can take advantage of those that don’t,” he says, pointing to Suncor’s purchase of Canadian Oil Sands Ltd. in 2016 at the end of the previous rout. Suncor’s share price is down about 20 per cent since summer.
Cenovus Energy Inc.: This major oil sands producer has been hurt by the lack of pipeline access to sell its product. Yet the company isn’t waiting for a new pipeline to be built, says Scott Clayton, an investment analyst with TSI Wealth Network. Cenovus has used its strong market position to sign deals with Canadian National Railway Co. and Canadian Pacific Railway Ltd. to transport crude from northern Alberta to the U.S. Gulf Coast, he says. Its share price had been down more than 35 per cent since summer but surged on news of the production cut in Alberta, gaining about 15 per cent in recent days. Still, Cenovus remains a value play, trading at about four times its forecast cash flow. Normally, the average is “maybe 11 times cash flow,” Mr. Clayton says.
Portfolio manager Keith Richards says his firm, ValueTrend Wealth Management, holds just two energy companies. Both mid-sized firms were purchased a few months ago trading at a discount. “We thought … collect the dividend and maybe make a buck or two on the upside.” Now these companies are trading even lower, potentially making them more of a bargain. That is, of course, if oil recovers, which could happen based on seasonal trading patterns, he says. Although prices are already showing strength this month, that is more a factor of recent supply reduction efforts by government than seasonal effects, Mr. Richards says. “More often its price rises in February and peaks in the spring.”
Vermilion Energy Inc.: Vermilion recently traded near the low share price it reached during the last downturn, in the low $30s. It has since recovered somewhat, but Mr. Richards cautions that it could go even lower. Yet he sees two possible bounce-back price targets. “One is $40, and if that was to be breached then you could see as high as $50,” he says. From a fundamental perspective, Vermilion is better positioned than its peers because it has international assets that draw better prices than Canadian oil, says Craig Aucoin, an analyst at ValueTrend. “Half of its revenues come from outside Canada.” But Vermilion has a growth income model, meaning "it pays out a higher amount of cash flow than a typical oil company.” If oil prices continue to struggle, however, Vermilion may have difficulty maintaining its dividend.
Freehold Royalties Ltd.: Freehold leases land to producers and receives royalties in return. This allows the firm to pay a dividend with an annual yield of more than 7 per cent. But Mr. Richards says the company’s share price has fallen by more than 20 per cent since summer because its revenue model is much more sustainable with oil at $65. Mr. Richards says ValueTrend bought Freehold stock at higher than it is today, and he says current prices – $9 and change – could well bounce back to the $12 it traded at several weeks ago.
Junior energy companies are often the last place to be in a downturn because they can be highly indebted, and falling revenues limit their ability to meet those obligations. Yet some small caps are positioned to emerge from the downturn in better shape than others, says Sean Mason, chief editor with SmallCapPower.com. That said, even promising small caps are highly volatile, and their revenue models are much more sensitive to economic factors than larger firms. As such, only a small portion of a portfolio should be allocated to these stocks.
Permex Petroleum Corp.: Unlike many Canadian junior firms, Permex has assets and operations in the United States, so its product commands better prices. The company has operations across the Permian basin of west Texas, and Mr. Mason says this region “continues to flourish even during the recent oil and gas down-cycle, generating some of the highest returns for drillers operating there.” Additionally, Permex has no debt and has doubled its production since going public earlier this year. Its share price is about 20 cents, down from about 50 cents during summer.
Saturn Oil & Gas Inc.: Saturn’s operations in Saskatchewan produce light crude as well as heavy oil. Saturn is a microproducer with a good growth story, Mr. Mason argues. The company, which forecasts increased production by the end of the year, generates net operating income of about $36-million. Its potential profitability is largely due to its Viking light oil assets, which demand good prices compared with heavier crude. Another advantage is its production costs are less than those needed for lower grades of the commodity. Saturn trades at about 20 cents a share, down from a high of 30 cents hit in October.