Eric Nuttall, partner and senior portfolio manager, Ninepoint Partners

FOCUS: Energy stocks 

MARKET OUTLOOK:

We remain bullish on the outlook for Canadian energy stocks as we expect oil to trade in a roughly US$70-$80 West Texas Intermediate (WTI) band (assuming no geopolitical risk premium). The addition of new takeaway capacity in 2024 via TMX (Trans Mountain Expansion) and LNG Canada to shrink pricing differentials and rapid debt paydown allow for more and more companies to return more free cashflow incrementally back to shareholders.

Despite a 20-per-cent rally this year, the energy sector oddly remains out-of-favour with energy funds experiencing negative funds flow and investors preferring to chase other sectors trading at much less attractive valuations.

We remain optimistic that as the false narratives around a rapid adoption of alternative energies continue to crumble, as can be seen in faltering EV demand or the abandonment of offshore wind projects, that consensus will see what we see. Meaning the demand for oil will continue for many, many years and being able to buy decades worth of free cashflow for five times cashflow or 10 per cent plus free cashflow yields is highly attractive. 

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TOP PICKS:

Crescent Point Energy (CPG TSX)

Crescent Point Energy (soon to be renamed Veren) has done an exceptional job of repositioning the company into plays (Montney and Duvernay) with deep inventory lives allowing for more meaningful return of capital. The company is trading at a free cashflow yield of 15 per cent/18 per cent in 2024-25 at $80 WTI and returning 60 per cent of free cashflow back to shareholders. We see the company trading well below fair value which we assess at five times EV/CF or a 10 per cent free cashflow yield = $19 price target = 74 per cent potential upside at $80 WTI.

Baytex Energy (BTE TSX)

Baytex has fallen out of favour for a few reasons. This includes a misunderstood acquisition last year that created a temporary share overhang, a tax reassessment from CRA that will take years to resolve, and a modest reserve writedown on non-operated land in the Eagleford and some conventional Canadian assets which they were not being actively drilling. Why do I remain bullish on the name? The stock trades at a 17 per cent/24 per cent 2024-25 free cashflow yield at $80 WTI, has a very capable CEO with high-quality assets, is returning 50 per cent of free cashflow back to shareholders via share buybacks, is drilling top quartile Eagleford wells on their acquired lands, and continue to make several conventional heavy oil discoveries in Canada. Given how badly the stock price has lagged YTD, we think it could rally in the near term. We think fair value is a 12 per cent 2015 free cashflow yield = $9.50 at $80 WTI = 89 per cent potential upside.

Precision Drilling (PD TSX)

Over the past six months we have bought 9.9 per cent of Precision Drilling at an average cost of ~$80.50, believing the stock to be meaningfully mispriced. Given the quasi-oligopolistic land drilling market we believe that PD and its competitors will better be able to maintain pricing, allowing for sharper recovery once the price of natural gas firms in the second half of the year. Even with what we believe to be conservative assumptions on drilling activity and pricing, we estimate the stock to be trading at a 27 per cent/32 per cent 2024-25 free cashflow yield, and believe the company should return half of that back to shareholders in the form of buybacks. We think fair value should be a 14 per cent free cashflow yield = $220 target price = 140 per cent potential upside.