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Embrace the Sell-off; Why it’s Time to Buy Canada’s Energy Giants

It’s been a terrible three months for Canada’s largest oil companies. The price of oil has plunged from more than $105 to just above $80 per barrel, thanks to concerns about economic weakness in the Eurozone, Japan, and China, as well as oversupply issues in the United States.

Usually what happens in these scenarios is that Saudi Arabia, the largest oil producing country, steps in and announces that it plans to cut production. Other OPEC members usually follow suit, and excess supply is taken out of the market, propping up prices. Not only is OPEC staying mum about this latest decline in oil, but unofficial word from Saudi Arabia is that the Kingdom is willing to let  prices slide even further, since that will snuff out some the higher cost projects that just aren’t profitable at $80 oil.

This is all very entertaining to follow, but ultimately these day-to-day price movements mean just one thing for long-term investors. Depending on the company, energy stocks are selling at discounts of 15%, 20%, or even 25% off prices seen just a few months ago. And considering one big factor, Canadian energy producers are being unfairly punished.

Let me explain.

Most Canadian heavy oil producers aren’t getting the “market” price for oil. The number you normally see quoted on television is the price for light sweet crude, which is easier to refine. It commands a premium price to Alberta’s heavier oil, which is called Western Canadian Select. This spread has widened to as much as $40 per barrel, especially when pipeline backlogs were at their worst.

These days, the spread is much less. As the price of West Texas Intermediate has declined, WCS has held up surprisingly well. This is mostly because as the price of oil has declined, so has the Canadian dollar. In fact, WCS is actually higher than what it was a year ago, at least in Canadian dollar terms. So it’s not all bad news for Canadian producers.

One stock I’ve been researching is Canadian Oil Sands Ltd. (TSX: COS), one of the largest oil sands operators. Even though the company uses an upgrading process to upgrade its heavy crude into light oil, it still benefits from the decline in the Canadian dollar. Consider that $80 oil is the equivalent to $93 in Canadian dollar terms, which isn’t so bad. Management figures that the company will have an operating cash flow of more than $2 per share at $90 oil, giving it plenty of wiggle room to pay its suddenly very generous 8.1% dividend.

Besides, Canadian Oil Sands hasn’t traded at $17 per share since early 2009. The price of oil then? Less than $50 per barrel. If oil stabilizes here, it could end up being a great buying opportunity.

Cenovus Energy Inc. (TSX: CVE)(NYSE: CVE) might be an even better choice. The company is in the middle of a massive expansion in the oil sands, but in locations projected to be among the lowest cost operations in the region. Even if oil declines from here and continues to be weak, Cenovus will likely keep on producing and planning its expansion.

Cenovus is trading at levels not seen since 2010, a year where it did $12.6 billion in revenue. 2013 saw it earn $18.6 billion in revenue, and $1.9 billion in operating profit, more than double the $929 million the company earned in 2010. Investors are getting a chance to buy 2014 Cenovus at 2010 prices. That sounds to me like a pretty good deal.

It’s tough to watch energy stocks fall seemingly day after day, but it’s time for investors to plug their nose and start buying beaten-up energy stocks. Cenovus and Canadian Oil Sands are decent choices, but we have two more that could turn out to be even better.

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This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium service or advisor. We’re Motley! Questioning an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and richer, so we sometimes publish articles that may not be in line with recommendations, rankings or other content.

Fool contributor Nelson Smith has no position in any stocks mentioned.

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