After Nexen's Buyout, How Should You Play Canadian Oil Sands Stocks?

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The purchase of Calgary-based energy company Nexen Inc. (NYSE: NXY) for $15.1 billion by China's CNOOC Ltd. (NYSE ADR: CEO) is the largest overseas purchase ever by the world's second-biggest economic power.

But it will likely be the last time China, or any other country, takes a big chunk out of Canada's oil sands - the world's third-largest proven reserves of crude oil.

That's because after Canadian Prime Minister Stephen Harper approved the Nexen deal in December, he banned further foreign firms' investment in Canada's oil sands and will allow them only under "exceptional" circumstances.

"The government's concern and discomfort for some time has been that very quickly, a series of large-scale controlling transactions by foreign state-owned companies could rapidly transform this [oil sands] industry from one that is essentially a free market to one that is effectively under control of a foreign government," Harper said in December.

"Foreign state control of oil sands development has reached the point at which further such foreign state control would not be of net benefit to Canada," he added.

But foreign government control isn't the real problem facing Canadian oil sands companies.

The Real Problem Facing Canadian Oil Sands Companies

The real problem is a lack of pipelines, preventing the companies from profiting from the oil sands.

Besides the Keystone XL pipeline, two other companies that hope their pipelines will transport Canadian oil sands crude, Enbridge Inc.'s (NYSE: ENB) Northern Gateway and Kinder Morgan Energy Partners LP's (NYSE: KMP) Trans Mountain, face environmental concerns that are causing delays.

The companies' inability to ship the oil out of the country has caused a glut of oil in Canada, lowering Canadian oil prices.

Western Canada Select, the benchmark for oil out of Canada's oil sands, currently trades at almost a 30% discount to West Texas Intermediate, the U.S. benchmark for oil prices. This discount is up from 13% a year ago and has greatly reduced the profit of Canada's oil companies.

And the pipeline delays are taking a toll on the overall Canadian economy as well.

"If pipeline project proposals such as Trans Mountain, Keystone XL and Northern Gateway don't move forward, Canada will be foregoing $1.3 trillion in economic output, 7.4 million person-years of employment and $281 billion in tax revenue between now and 2035," Michael Holden, a senior economist at the Canada West Foundation and author of a report on the economic consequences of delaying Canada's pipelines, told the Financial Post.

How to Invest in Canadian Oil Sands Stocks

There is some hope for Canadian oil companies and their investors.

Money Morning Global Energy Strategist Kent Moors expects the Keystone Pipeline to be approved later this year, and TransCanada Corp. (NYSE: TRP) is planning an eastern pipeline that would ship Canadian oil sands 3,000 miles to the Atlantic coast.

If the Keystone XL and other pipelines do move forward, there are three ways investors can profit from Canadian energy companies.

The first is the Claymore/SWM Canadian Energy Income Index ETF (NYSE: ENY). This fund invests in the 34 stocks of the Sustainable Canadian Energy Income index, most of which are not listed in New York.

It's an easy way to invest in companies listed on the Toronto Exchange - especially if your brokerage doesn't deal in foreign exchanges.

The index includes tar sands, conventional oil and uranium mining, which is another attractive sector that Canada dominates.

The ETF has an expense ratio of a moderate 0.7% and it also pays an attractive dividend yield of 3.01%.

Two other Canadian oil plays are Suncor Energy Inc. (NYSE: SU) and Canadian Oil Sands Ltd. (TSE: COS).

Both stocks will benefit from the construction of pipelines and a decrease to the gap in crude prices. However, Canadian Oil Sands offers a dividend of 6.45% compared with Suncor's 1.6%. If you can invest on the Toronto Exchange, go with COS over SU for that reason.

Just be cautious investing in Canadian oil sands stocks before the Obama administration makes a decision on the Keystone pipeline. That decision is expected to be made by the end of March, but could be delayed until June, which could be bad news for these oil sands companies.

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