Dear OGIB Reader,
There are two trends in the Canadian energy patch in the last three weeks that have been making money for investors – but the question is, do they have legs? Can the uptrends continue?
The first and most obvious is natural gas. After doubling in price between April 2012 and November, it dipped down to $3.20/mcf (thousand cubic feet) in early winter. The winter just wasn’t as cold as normal… though colder than last year.
But fast forward to March 2013 and colder weather has gripped much of the high population areas of the US east coast and the Chicago area. US natural gas storage levels reflect this chill: overall US storage levels are now below 2 tcf, and the year-over-year deficit is 440 bcf.
As a result, gas jumped back up to over $4/mcf, and taken the chart of many natural gas producers with it. The futures strip shows the market anticipates gas prices above $4.00 from July forward.
Can it last? The pros I talk to in Calgary dismiss this bump, saying shoulder season is coming in April/May and the North American gas price, along with all the good looking Canadian stock charts it has created, will droop then.
The Canadian arm of brokerage firm Raymond James has a slightly more bullish interpretation.
“For the last 3 weeks, we’ve seen some of the largest withdrawals from US gas storage in the last 10 years.
Yesterday’s withdrawal was 145 bcf (billion cubic feet) – the 5-year average was 89 bcf and the previous record was 115 bcf in 2007.
Last week’s withdrawal was 146 bcf – the 5-yr. average was 104 bcf – 146 bcf is the highest since 2003.
Week before was 171 bcf – 5-yr. average was 117 bcf.
You get the idea…
And it is more than just cold weather doing this. Focusing on the last 4 weeks, 2008, 2007, and 2010 were all colder than 2013 – yet 2013 is seeing bigger withdrawals.”
(I love such simple, clear writing!)
They see the gas price that balances the market for the rest of 2013 being in the $3.85-4.15 range. I think if the market really had a comfort level that price could hold, the rally in stocks could continue (even though almost no one is making full cycle profits at that price).
Certainly gas drilling has fallen off dramatically (the US rig count is now 431 rigs, down 232 rigs from last year!) – yet North American production stays constant to slightly rising. The giant Marcellus Shale in the northeast US is THE perfect example… it just took over from the Haynesville Shale in Louisiana as the largest producer of natural gas in North America at over 7 bcf/d-while the rig count in the play dropped by a third. A third!
Another brokerage firm, Canada’s National Bank Financial, points out that in the US, “Residential/Commercial demand has been up about 17 Bcf/d (+50%) over the same period last year, with cold weather expected to persist through the week ahead to provide near-term support.”
Denver-based Bentek, one of the best natural gas forecasters, is projecting storage levels exiting the winter season (end of March) at 1.7 Tcf, which is 25% below the same period last year and in line with the five-year average.
Canada’s FirstEnergy says anything below 2 Tcf at the end of March is a good sign.
Canada continues to have lower production than last year – a 6-year trend now.
But of course, US residential demand will drop as the warmer spring shoulder season arrives – in my mind, that continues to leave US power generation demand as the swing vote. Natural gas pricing, and most of Canadian junior/intermediate stock charts, will live or die on that one metric. Period.
THE OTHER BIG TREND: oil-weighted yield plays in Canada have made a fast and hard 15% jump since 3rd week of February. Enerplus (ERF-TSX), Petrobakken (PBN-TSX), Pennwest (PWT-TSX) and Penngrowth (PGF-TSX) are included here. These companies do have some gas, so that could be the reason.
But light oil differentials in Canada – the discount Canadian light oil is to WTI – is now at a very low $3-$5 (synthetic oil, produced by the majors, is actually a $5 premium to WTI now). This is a great price for Canadian producers.
But all these companies have stretched balance sheets (lots of debt… i.e. dividends sustainable?) and could just be having a dead cat bounce off their lows for being oversold.
Most, if not all, are still paying out more in capex (capital expenditures, the industry lingo for drilling costs, etc) and dividends than the cash flow they’re taking in. As the market has moved away from rewarding growth to wanting more sustainability – where companies grow within their cash flow and not dilute by issuing more shares to fund their cash flow gap – it doesn’t make sense for these companies to run up in share price.
This current jump could be due to the rise in gas price – their jump co-incided with the larger than average storage withdrawals. It could be the chase for yield; the yield bubble. My suspicion is gas price is the main reason, with yield second.
As the shoulder season for gas approaches, the market will find out the truth soon enough.