As Canadian investors, we sure have our work cut out for us. Because oil and gas stocks are still a big part of the Canadian market – and they’re not easy to figure out and predict. Though they do have significant potential for shareholder value creation. That is why this lucrative business cannot be ignored, despite its cyclicality, which can be a scary thing for investors.
Today, oil is hovering at just above US$74 per barrel – high by historical standards. And natural gas is trading just shy of $3.80 per million British thermal units (MMBtu) – on the low end historically. But what does this mean? And how can we invest in Canadian oil and gas stocks in order to gain exposure to this age-old industry that is actually a better investment today than it was many years ago?
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Tourmaline: The largest natural gas producer in Canada
I’d like to start with Tourmaline Oil Corp. (TSX:TOU). This is because of my view that natural gas prices will be strengthening significantly over the next year. My thesis is simple.
Analysts expect natural gas demand to strengthen significantly as the liquified natural gas (LNG) market heats up with the start-up of LNG Canada. This demand boost will come as Asia continues its quest for cleaner fuel than coal, which is also on the low-cost side. This is where North America’s liquified natural gas comes in. Natural gas is much cleaner than coal and much less expensive than renewable energy, and North America’s natural gas is very affordable.
Tourmaline is a top natural gas company that has been very successful in the last few years. I like it because Tourmaline makes money even in times of low natural gas prices. This is not a natural gas company of the past, when commodity price weakness would wreak havoc. Tourmaline is dedicated to full cycle profitability and returns.
All of this can be seen in the company’s results. Tourmaline has grown its cash flow per share by a 26% compound annual growth rate (CAGR) since its 2010 IPO, and by 30% in the last five years. In fact, the company’s free cash flow break-even is achieved at the low natural gas price of $1.50.
The cash flows that Tourmaline can generate in times of natural gas price strength are just as impressive. This has resulted in regular dividend increases and special dividend payments from Tourmaline. I expect more lucrative dividend payments to come from Tourmaline as a strengthening natural gas market will prop up its already successful business.
Peyto: A low-cost producer
Similar to Tourmaline, Peyto Exploration and Development Corp. (TSX:PEY) is also a natural gas producer that has been very successful even at low natural gas prices. In fact, Peyto is actually one of the lowest-cost natural gas producers in Canada.
This is because the company has top-quality assets, which can be found in one of Canada’s most prolific basins, the Alberta Deep Basin. It’s a basin that’s characterized by a high return production profile, with high recoveries and predictability. This has enabled Peyto to remain one of the lowest-cost natural gas producers, with a consistent, growing dividend.
Today Peyto is unjustifiably cheap, in my view. It trades at a mere 5 times cash flow, with a very generous dividend yield of 7.6%. Similar to Tourmaline, if natural gas prices strengthen this year, as I expect they will, Peyto will benefit greatly. This is what makes Peyto a Canadian oil and gas stock to watch in 2025.
The bottom line
The natural gas industry is about to experience a very welcomed boost in demand. As LNG demand continues to come from around the globe, the two Canadian oil and gas stocks discussed in this article will, in turn, see a boost in demand for their stocks. This is the thesis that I have set up my portfolio on.
