When most investors think of Canadian stocks, they think of either financial, material, or oil and gas plays.
That is because if you’re looking to buy stocks in Canada the vast majority of our index, the Toronto Stock Exchange, is full of these types of companies.
It’s also why our index tends to underperform our US counterparts. The vast majority of these companies are either in mature, slow-growth sectors or are very cyclical, resulting in inconsistent returns and price volatility.
In this article, I’m going to dive into a few options that are without question cyclical but are also some of the strongest companies in the oil and gas sector today, that being 3 key natural gas players here in Canada.
The top Canadian natural gas stocks to buy today
Tourmaline Oil (TSE:TOU)
Tourmaline Oil (TSE:TOU) is about as close to a natural gas pure-play as you’re going to get here in Canada. In fact, over 80% of its total production comes from natural gas. Oil makes up low single digits in terms of the company’s overall production, with Natural Gas Liquids making up the rest.
The fact that Tourmaline has very little exposure to oil was one of the primary reasons why the company thrived while most oil and gas stocks in Canada collapsed in 2020.
The price of natural gas has taken an absolute beating over the years, and this is one of the reasons why Tourmaline Oil had struggled so much leading up to the recent energy bull market. In fact, prior to its recent meteoric rise in price, the company had lagged behind the broader index in terms of returns by significant margins. Now? It's outperforming the TSX Index over the last decade.
With natural gas facing significant pressure in late 2022 and 2023, Tourmaline has dipped in price. This seems overdone, as the company is still going to be generating a significant amount of cashflow for patient investors.
The company now has free cash flow yields in excess of 13% and is expected to continue that FCF yield into 2023. It plans to generate over $15B in cumulative free cash flow over the next 5 years, which would work out to be over 75% of the company's current market capitalization.
If we look forward to Fiscal 2023, analysts are estimating this company is going to see a dip in both revenue and earnings. This makes sense, as the price of natural gas dictates the earnings this company can turn out.
However, we feel this dip in earnings has long been priced into Tourmaline, which is trading at only 7.6x its expected 2023 earnings. This is a company that has, over the last 5 years, typically trading at 9x earnings.
Overall, this is a strong Canadian natural gas stock, but as a pure-play, it is highly dependent on commodity prices, particularly natural gas. So, expect significant volatility in either direction.
Although Ovintiv (TSE:OVV) doesn’t have as much production tied up in natural gas as Tourmaline does, it is still a very heavy play on natural gas moving forward.
In fact, the company has continually hit the high end of its guidance in terms of total production over the last year. Ovintiv, formerly Encana, is a popular Canadian natural gas company that ended up packing up its headquarters and moving to Denver Colorado from Calgary Alberta in mid-2020.
The company stated the move was primarily for a “clean slate” in a country less stringent on the oil and gas sector. The move was supposed to bring renewed interest, especially among US investors.
However, COVID-19 caused a catastrophic price collapse for Ovintiv that resulted in it losing 73% of its value in March 2020. And to add to this, the company had already undergone a significant price correction after it rebranded itself as Ovintiv.
Fast forward to 2023 however, and Ovintiv has rebounded nearly 2300% off those lows. This is a company that is actively paying down debt and is in a strong position.
Analysts estimate that Ovintiv could post diluted earnings per share of $8.23 in 2023, which would be a significant turnaround from the company’s struggles over the last 5 years, and if it does end up hitting this mark, valuations on a forward basis are looking extremely cheap. In fact, this puts the company’s forward price-to-earnings ratio at 6.3 which is a large discount to the industry average of 8.9.
The company has a mid-2% dividend yield, one that is well covered by both earnings and free cash flows, and a dividend that was maintained despite catastrophic cuts across the oil and gas sector in 2020.
Overall, I do view Tourmaline as the better Canadian natural gas stock moving forward. But, this is still a very strong alternative for Canadians to look at.
Arc Resources (TSE:ARX)
ARC Resources is the largest condensate producer in the country and the third largest natural gas producer in Canada. The company's portfolio contains a well-diversified asset mix across North America.
The company is an independent energy company engaged in the acquisition, exploration, development, and production of conventional oil and natural gas in Western Canada.
The company produces light, medium, and heavy crude, condensate, natural gas liquids, and natural gas.
Production is expected to be 345,000 boe/day in 2023, and the company estimates that it holds approximately 879 million boe of proven and probable crude oil and natural gas reserves.
The company has also secured long-term LNG supply agreements in an effort to diversify. The company's main goal is to return 50%-80% of free funds flow back to shareholders, whether this be through a dividend or share buybacks.
The company is expected to post revenue of $5.47B and earnings of $2.76 in 2023.
Considering this, the company is attractively valued, trading at only 6.8x its expected earnings.
But first, why natural gas?
It is important to understand that although natural gas is indeed a hydrocarbon and gets lumped in with other fossil fuels, it is also the cleanest-burning hydrocarbon. The gas is extremely versatile, able to be shipped globally to energy-starved countries, and it is also very abundant, making for easy extraction and thus affordability.
For the most part, we utilize natural gas for generating both heat and electricity, with the vast majority of the global population using natural gas on a daily basis. It is important to note that even though it is the cleanest hydrocarbon it is certainly not as clean, nor is it a form of renewable energy.
Although commodities like crude oil are being targeted aggressively by countries whose goal is to reach net zero, there is likely a much longer timeline when it comes to natural gas and its use in our everyday lives. Investing in the Canadian energy industry is certainly a way to benefit from this.
Is there a Canadian natural gas ETF?
As of right now, there is a natural gas ETF here in Canada. However, with assets under management of only $11M, it is not very popular. That ETF is the Horizons Natural Gas ETF (TSE:HUN).
The fund seeks to replicate the performance of the Solactive Natural Gas Winter MD Rolling Futures Index. It doesn't contain natural gas exploration and producers like we will go over below. It is more of a option if you seek to track the actual price of natural gas.
If you're looking for a fund that holds actual natural gas producers, you may need to look to the United States for natural gas funds.
For the purposes of this article, I’m going to try and stick to pure-play Canadian natural gas companies.
Although many oil sands producers like Suncor Energy, Cenovus Energy, Canadian Natural Resources Limited, and Imperial Oil have natural gas production and storage as integrated oil and gas producers, this article is specifically reserved for companies whose primary revenue generation method is natural gas. I will also skip over pipeline and midstream companies like TC Energy and Enbridge.
With that being said, let's get started with our list of the best natural gas stocks.
Overall, all of these Canadian natural gas stocks provide solid exposure
I think the tale of these three stocks comes down primarily to valuation. Do you take what I feel is the best-in-class natural gas stock in the country in Tourmaline at a more expensive valuation, or do you take a flyer out on a company that is currently undergoing some changes, but is expected to have a large rebound over the next few years in Ovintiv? Or alternatively, do you look at the smaller company in ARC?
Ultimately, the choice is up to you and boils down to individual risk tolerances.
However, make no mistake about it, all of these companies will be heavily dependent on the price of natural gas. If the price of the commodity rises, expect companies like Tourmaline, ARC, and Ovintiv to rise at an even faster rate. This is just the nature of energy stocks.
However, if natural gas prices stall out or head downwards, it’s very likely these companies and the natural gas industry continue to underperform as they did for the better part of a decade before the current commodity boom.