Eric Nuttall, partner and senior portfolio manager, Ninepoint Partners 
FOCUS: Energy stocks

MARKET OUTLOOK:

With global oil demand back to pre-COVID levels despite still-weak jet fuel demand, and the end of U.S. shale hyper-growth due to the necessity of shale companies to prioritize return of capital, we look for global oil inventories to continue to fall - putting significant upwards pressure on the oil price in 2022 (likely US$100 by year-end 2022).  

While still volatile and at short-term risk from either a SPR release or advanced negotiations with Iran, we strongly feel that oil is in a multi-year bull market that will eventually lead to all time high oil prices.

Despite the strong performance YTD, energy stocks are cheaper today than they were on January 1st of this year. Much of this year’s gains have been healing the damage inflicted on share prices in 2020.  With oil rallying from US$52 to US$80, trading multiples have collapsed and energy stocks are discounting roughly US$57-US$60/bbl today. 

At the current oil price, energy stocks are trading at an average multiple of 2.5x enterprise to cashflow and a 33 per cent free cash flow yield. Given rapid deleveraging, the energy sector is now beginning to return egregious amounts of capital back to shareholders and with many exceeding 10 per cent in 2022, generalists are now being forced to come back to a sector long loathed and abandoned. Despite a great 2021, we think energy stocks could double again in 2022.

TOP PICKS:

Cenovus (CVE TSX)
With CVE on the cusp of reaching their initial deleveraging target, they have committed to buying back 7 per cent of their float. Trading at a material discount to Canadian and U.S. peers, we look for significant multiple expansion as the company continues to deleverage and return capital back to shareholders. Trading at 3.7X EV/CF and a 23 per cent free cash flow yield at US$70 WTI, we see the ability to meaningfully increase the dividend and announced buyback in 2022. With a target multiple of 6x we see more than 100 per cent potential upside at US$80WTI. 
 

Athabasca Oil (ATH TSX)
With the successful debt refinancing now behind them, attention should turn to paying down their existing debt and the ability to return meaningful capital back to shareholders in late 2022. With $2.4B in tax losses in an environment where the energy sector at large is at or nearing cash taxability we think ~$500M of value is reasonable for these which means the company ex-tax losses is trading at only 1.5x free cash flow. 

Despite new hedges somewhat capping partial upside capture from the oil price we still see the company trading at 2.5x/1.9x EV/CF at US$70/80 offering potential upside of 85 per cent/149 per cent upside at US$70/US$80 WTI.

Arc Resources (ARX TSX)
ARC is a rock solid company offering super high quality, long life resource at a material and unwarranted discount.  Trading at 2.5x EV/CF at US$70 WTI and a 25 per cent free cashflow yield, the company has committed to returning meaningful capital back to shareholders. We think fair value is closer to a 5x multiple triangulating to a 13 per cent target free cashflow yield offering 96 per cent potential upside.