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The price of oil has surged this year, along with investor interest in Canadian energy stocks. Kim Parlee speaks with Michael O’Brien, Head of Core Canadian Equities at TD Asset Management, about the outlook for oil prices and the impact on the energy sector.
Transcript
Kim Parlee: Well, as we all know, WTI oil is up more than 50% year to date. And while energy costs are raising economic concerns, it’s also led to renewed interest in energy stocks and Canadian energy stocks. Here to give us his take on what he is watching and what he sees ahead is Michael O’Brien.
He’s head of core Canadian equities at TD Asset Management. Mike, it’s always great to have you with us. I’m going to jump right in here. Let’s start with the price of oil. You know, it’s good for energy companies, in some ways, bad for consumers.
But we all know that there’s a bit of a supply problem when it comes to oil, which has been keeping those prices up. But at the same time – and this is the world’s longest question – if oil stays too high, you could actually have a demand problem on the other side. So where do you see oil going right now?
Michael O’Brien: Well, Kim, I think the supply/demand fundamentals look really, really solid to me. And like you hit on in the intro, supply is the issue. There’s just not enough of it. And you think back, really 2014 is when the industry hit its last peak in capex, and it’s been a pretty dry period since then.
So what we’re discovering is there’s just not a lot of extra supply to bring on, whether you’re talking about US shale, which they’re pushing really hard just to get up to 800,000 barrels a day increase this year, or in OPEC, I mean, I think we got a little complacent, always thinking OPEC had a little bit of spare capacity up its sleeve.
But if you look at the May numbers, they actually produced a million barrels under their quota per day. And that wasn’t because they didn’t want to cash in on $100 oil. It’s a lot of these countries are really struggling to hit those production targets.
Kim Parlee: It’s interesting, though, because the one thing – I mean, there’s many reasons why there hasn’t been a lot of investment in capex, which we’ll get into, part of it ESG, part of it oil prices, but there has to be, I’m sure – and you’ll tell me if it’s different – there has to be a belief that oil prices can sustain these levels to reignite interest in capex. Are you seeing that?
Michael O’Brien: So far, not. I think the industry is coming to believe that these oil prices, or at least more robust oil prices, are sustainable for a period of time, but I don’t think the industry, I don’t think management teams feel they have the permission of investors, if you will, to really increase spending.
I think the investors have made it very clear to management teams that they’re more interested in sending that cash back, as opposed to reinvesting it into the ground. And from the management’s perspective, it’s still very unclear from a longer-term perspective how the energy transition is going to work.
And so I think a lot of companies are very reluctant to invest in longer-dated projects, the types of things that take 5 or 10 years to develop, because they’re not sure what the world’s going to look like then.
Kim Parlee: So I don’t know if that’s a vicious circle or a virtuous circle. I think it depends on which side you’re sitting on right now. But so what is that going to mean, then, for less supply and oil prices?
Michael O’Brien: Well, and you’re right, it’s a vicious circle if you’re filling up your gas tank. It’s a virtuous circle if you’re clipping the dividend payments from some of these stocks.
I think, at some point, supply and demand, they always find an equilibrium. And I think you rightly pointed out probably the single biggest challenge that the oil market has right now is, if global growth really does stumble, that’s the one thing that could bring demand back down quickly. But I think what we’re probably setting up for is, at least the next few years, a pretty decent oil price environment.
Kim Parlee: So what is this going to mean for Canada, specifically? Because I mean, I mentioned ESG, which has constrained, I’d say, investment, which, of course, has shown up in prices. We also have energy security, obviously, with the taps – I wouldn’t say the taps turning off in Russia, but people moving away from Russian energy. I would expect Canadian energy again takes a bit more of the spotlight. How positive has it been, or has it?
Michael O’Brien: Oh, yeah. No, I think this is a real opportunity for Canada, for the Canadian producers. I think if we go back really up until the last 12 months, I think we had gotten a little bit overly enthusiastic about just how quickly the energy transition away from fossil fuels could be.
And obviously, Russia’s invasion of Ukraine and what that’s done to oil markets, that’s not the only reason, but it’s certainly driven home this point that we need a more balanced perspective in terms of, first, how quickly can the world transition off of carbon fuels, and secondly, where are we going to source that from?
And I think the actions of Vladimir Putin, really wielding natural gas and oil supplies for his European neighbors kind of like a strategic sword, that’s kind of driven home the point that, you know what, we really want to make sure that we’ve got a stable, safe, reliable supply of energy. And that’s where Canada fits in really, really well.
And if we can balance that with the industry, in conjunction with the provincial and federal governments, acting responsibly to produce to reduce the carbon footprint, then I think Canadian energy has a really important role to play.
Kim Parlee: Let’s talk about some names. Maybe kind of give us just a balanced view of a few of them. CNQ is one that we have here to talk about. Tell me what you see for them.
Michael O’Brien: Just best in class operators. If you look at what Canadian Natural Resources has been able to do with their operations over the years, extremely good operators. We have the utmost respect for management. What excites us about CNQ at this point in time is they went through that lean, difficult period when oil prices went to zero.
They survived, and they’ve come out, like I said, in fighting condition here. They spent the last couple of years getting their balance sheet in better order, paying down a lot of debt. And we’re really getting to the point now where, with the balance sheet in very good shape, a disproportionate or an outsized amount of the free cash flow being generated is going to come straight back to us as investors. Whether it’s share buybacks or whether it’s more dividend increases, the return to shareholders should be very attractive here.
Kim Parlee: And I would say the bear case on this, just to be balanced, would just be that, if oil prices come down, they, like others, would be susceptible to that.
Michael O’Brien: Absolutely. And any oil producer, they live and die by the commodity price. That’s one thing that they can’t control. So we like to focus on companies that what they can manage and what they can control, they do a good job. But at the end of the day, the oil price is the single most important driver of these stocks, no question.
Kim Parlee: Mike, always a pleasure. We’ll get you back to talk about a few more names. We’re just up against the clock. Thanks so much for joining us.Michael O’Brien: Thanks, Kim.
Editor’s Note: The summary bullets for this article were chosen by Seeking Alpha editors.
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