“This Is The Year For Canada” – Why Northern Oil & Gas Is Set Up to Win

It’s a tale of two stories for the Canadian oil & gas field today.

In the immediate short-term, falling oil prices after the temporary spike in January (because no political spike lasts forever) and a few years of bleakness regarding new projects and profitability drove interest southwards. Quite literally, in fact, when considering many investors looked to the US for shale production as the best financial decision over the last few years.

The long-term is a far different story, however, as good news for Canadian developments start to trickle in and experts see the signs abound that the shale era is starting to come to a close as early as this year. First, the Canadian sector scored three big wins over the last few weeks as the Trans Mountain, Keystone XL, and Line 3 pipeline projects all cleared massive legal hurdles. At the same time, the Canadian Association of Petroleum Producers forecasted an 8.4% increase in sector spending, the first increase in investment since 2014.


(Trans Mountain pipeline snaking through Western Canada)

While the politics start to slowly turn in the sector’s favor, it also turns out that drilling in America’s top shale field, the Permian, goes from oil to gas a lot more quickly than was hoped. Some new shale wells see oil production drop by 70% after the first year, being replaced instead by gas.

Producers knew shale was a short-term game, but the impact each well has on new drills nearby are only now being understood. US producers are so overwhelmed with natural gas, and prices are so low, that they’re forced to either burn the waste or pay pipelines to take it away.

Meanwhile, north of the 49th parallel, the drills dig deeper and get more oil. At the recent Vancouver Resource Investment Conference, Keith Schaefer of the Oil & Gas Investments Bulletin highlighted that for the first time in years, “Canadian oil producers are dramatically outperforming American stocks.”

“What you’re seeing in the US is that even though you have $60/barrel oil, these companies are almost not making any money,” said Schaefer. “This is the year for Canada. We have great cash cows of companies up here. I think you’d be hard pressed to find any time in history when Canadian energy was this profitable.”

It also helps that the previous years for Canadian oil & gas have been down, in a sense. Schaefer pointed out that oil producers used to trade at close to nine-to-ten-times cash flow, while today they’re trading closer to three-to-four. And like their American counterparts, the drop in natural gas prices made the drilling by-product a financial loss.


(Falling natural gas prices over the last three years)

Whether it happens by April or early into next year is anybody’s guess, but the cards have been dealt and companies are starting to play their hands. Oil production is expected to increase into the year, though not necessarily from Permian projects (the rigs might increase but the output will continue to shrink). Negative pressure on Permian production will put upwards pressure on crude prices, and eventually, natural gas prices.

And Canadian companies that make a bigger return on oil are expected to benefit. That’s not to count out the importance of Northern natural gas as well, which is sitting at incredibly low supply following cuts in storage and a rough start to the winter. If prices look like they’re going to shift, you can bet that producers will quickly stock up once again.

Where should investors look? A safe bet is to track the majors, including Enbridge Inc. (TSX:ENB), Cenovus Energy Inc. (TSX:CVE), and Crescent Point Energy Corp. (TSX:CPG). There are also plenty of smaller-cap options that could offer a great entry point, including Altura Energy Inc. (TSX-V:ATU) and Cardinal Energy Ltd. (TSX:CJ).

No matter which direction you choose to approach the sector with, the pieces are in play for Canadian oil & gas. Prices won’t recover overnight, but seasoned investors and companies know that the best business move is setting up at the bottom.

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