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Disclosure: The following represents my opinions only. I am long TNZ.TO
I wasn't planning on writing a note after last night's tuck-in acquisition by Tenaz Energy (TNZ.TO, last at $2.55) where it basically doubled its stake in its Netherlands gas and infrastructure portfolio, but a mere 9% rise on the news left me wondering if the market fully appreciates the nuances of what's transpired, so here I am to give my take. I've said before that I believe that TNZ represents one of the best risk-rewards I've ever seen in the market and I'll double-down on that statement today. When its most recent acquisition closes (expected in Q3), TNZ will have positive working capital of around $65 million, or about $2.35/share, which means that at today's closing price of $2.55, the market is valuing TNZ's pro-forma production base of ~2,800 boepd at only 20 cents per share, or about $5.5 million. That is not a typo. TNZ's asset base will generate run-rate cash flow of something in the neighbourhood of $35 million per year, $10 million of which will be free cash flow in 2023... and the market is valuing that cash flow stream at just $5.5 million. For those who prefer to think in terms of cash flow multiples, TNZ is trading at an EV/CF multiple of 0.16x. Also, not a typo. This is in a sector where dirt cheap would be 1.5x EV/CF and a "normal" multiple might be around 3-4x EV/CF -- and just to say it again, TNZ is trading at 0.16x EV/CF at today's closing price of $2.55.[urcr_restrict]
Now, obviously Exxon isn't in the habit of just handing ~500 boepd of production, a 10.1% interest in a key natural gas pipeline system, and $61.8 million in cash to companies for no reason. In exchange for getting these goodies, TNZ has assumed the decommissioning liability associated with them, which today has a present value of $29.2 million. To that end, of the $61.8 million of cash that is within the entity that TNZ is acquiring, $15.3 million of it will be pledged as a decommissioning security deposit when the deal closes, leaving TNZ with an extra $46.5 million of dry powder. Add that to the net ~$18 million that TNZ already has on its balance sheet and you're looking at net positive working capital of $65 million on closing. This is where all you Warren Buffett fans should perk up, because TNZ is giving a MasterClass in non-dilutive financing here.
By taking on these producing assets, and the liabilities that go along with them, TNZ has been able to capture both cash flow and straight cash today in exchange for paying a decommissioning liability that is 13 years in the future. Thirteen years. That is a market eternity. During those 13 years, Mr. Marino and his team get to use the excess $46.5 million in cash as they see fit; which in this case will be to finance future acquisitions. At this stage, TNZ's total dry powder of $65 million is enough to take on a $100 million acquisition without having to issue a single share if I assume a 65/35 cash/debt split. This is how you build value per share folks...
What TNZ is doing is not totally unlike what Berkshire Hathaway does in the insurance business. In that case, Berkshire takes on a calculated future liability in exchange for insurance premiums collected from its customers today, and then it invests that money in the meantime. It gets to use that cash, for "free", to generate equity returns that accrue to its shareholders. This is not a game for people who don't understand insurance (or the energy business in TNZ's case), but if you have a management team that knows what they're doing, the value creation can be epic. Look no further than Valeura Energy's (VLE.TO, last $1.83) deal in Thailand in December to see an example of that. After VLE announced its acquisition, the stock rose 400% over the next two months, not in a day. Relative to what VLE bought, TNZ's assets have a longer life and better margins, but that's not the point. The point is that it takes time for the market to figure out what's going on. You probably know about TNZ because you read about it from me, but the broader market is totally asleep on this one. Market efficiency breaks down in the small caps which is why it's where I focus most of my time -- and it's where I've had my biggest wins when I'm patient.
Most people have never heard of TNZ, but from some of those that have who don't own it, I have heard "too small", "too illiquid", "too boring", and "I'm dying a death of a thousand cuts out there, so I'm not adding names" as excuses to not to own TNZ. And I do mean excuses... because none of those are valid reasons to me when there's money on the table. Is there some other business out there with a pristine capital structure trading at around 1/10th of the multiple of the cheapest companies in its group, run by one of the most experienced and connected teams in its industry, that has $100 million of firepower for its next sure-to-be-accretive deal? Too small? It'll grow. Too illiquid? It will be until it isn't. Too boring? Just watch. Getting your head slowly handed to you in the market? Here's a newsflash, I hear that from almost everyone -- so either react to new information and ideas, or underperform... your choice. This is the summer doldrums folks, and I think it's a great time to keep an eye out for the TNZ's of the world while everyone else is "bored". With just 27.6 million shares out, TNZ shareholders have serious leverage to the value that management rolls up along the way... and roll it up they will.
This is the nature of Tenaz's snowball. It starts small, but every revolution -- every deal -- makes the snowball significantly larger than the last go-around. After just a few turns, the weight starts to pile up quickly, and before you know it you're looking at a substantial piece of business. Last Thanksgiving, who would've thought that TNZ would have the capacity to make a $100 million acquisition without issuing a single share of stock just less than a year later? And yet that's where we stand today. TNZ's deep industry connections allow it to access a wide range of deals in its quest to grow to 50,000 boepd through thoughtful, and accretive, acquisitions. That's a very real competitive advantage. Finding deals is easy, but finding the good deals is where TNZ shines. TNZ has now staged a veritable war chest for its ongoing M&A strategy and I expect the company won't ease up on that front given its most recent statements about the status of its transaction pipeline. TNZ is a buyer at a time when everyone is just kind of "meh" when it comes to energy stocks. That's exactly when you want them to be a buyer, not when everyone has energy as their top sector pick of the year, right? Enough said.
With its $2.55 close today, TNZ is trading at ~0.2x EV/CF (that's me rounding up from 0.16x). At just 1x EV/CF, the stock would be $3.60. At 1.5x EV/CF, the stock would be $4.25 and would arguably still be very cheap given the optionality it represents. Where do you think the stock will be after TNZ pulls off an acquisition of a $100 million plus asset? With only 27.6 million shares out, 25-cent moves in the stock move the market cap by less than $7 million, so I have to laugh when I see buyers and sellers sparring over nickels and dimes on a name like this. I have little doubt that smart institutions and high net worth individuals will recognize this in time, and relieve less thoughtful holders of their stock with little regard for even a 50-cent move in the share price -- because when you want/need size, paying up is a sure way to get it when the sellers run out at a given level. Once the mid-2's are cleaned out of what I can only assume are myopic sellers (sorry, but if I'm long and you're a seller at 0.2x EV/CF with A+ management, you get that label), I think the stock moves/melts up into the mid-$3-4+ range while the market waits for TNZ to roll another asset in.
At some point, this story is going to get critical mass and start rolling downhill on its own due to gravity; and once a snowball is rolling down a hill under its own power it just gets bigger, and bigger, and bigger. I'll point out that since the start of the year, roughly 50% of TNZ's outstanding shares have traded hands at an average cost of about $2.25, so for those who think they've missed it, I would suggest that is not the case. TNZ made a very savvy move with this deal, and it undeniably sets the stage for much bigger things in the future. I don't think this lasts in the mid-$2's, but we'll see...
Happy hunting.
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TNZ.TO
Disclosure: The following represents my opinions only. I am long every stock mentioned in this post (Image credit to Ice Tea on Unsplash)
Recession, recession, recession. You can't go a day without reading about it, and yet the charts on the Dow, Nasdaq, and S&P look pretty hopeful. The market is geared for one more quarter-point rate hike to come out of the FOMC meeting on May 3rd and after that, it's up to the economic data that follows. With the SVB "event" highlighting the vulnerabilities of certain kinds of collateral (for one, long-dated paper issued at negative-to-near-zero rates) under a rapidly rising interest rate environment, I think that the Fed knows that it needs to take a wait and see approach over the summer. I'm seeing a growing chorus of "3-4% inflation is the new 2%" in this new world of reorganizing/onshoring supply chains, so we'll have to see if the Fed starts to adopt that stance. Markets aren't cheap by historical standards, and yet the index charts look buoyant, so I'll be keeping an eye on the March lows as a gauge of overall sentiment. Generally speaking, this still feels like a stock/sector picker's market to me. I haven't forgotten the Mark Mills presentation on the material realities of the energy transition that I linked to earlier this year, so metals and energy still figure prominently in what I'm most interested in theme-wise, along with my favourite "special sits" which I think can perform under most market conditions -- as long as I can be patient with them.
Oil
No change here. Oils are cheap as a group and not many believe in the return of $100 oil. All projections suggest that H2 2023 will see a real tightening in the oil market and when I look at US rig data, I'm not fearing big U.S. shale growth in the meantime. OPEC's recent production cut may suggest that they aren't fearing U.S. shale either. Time will tell. My interest is in companies that are either event driven, or just really cheap, so I'm good with just about any oil tape.[urcr_restrict]
Tenaz Energy (TNZ.TO, last at $2.05)
Still waiting. No change here. TNZ is trading at about 1x EV/CF in the low $2-range, which I think represents one of the best risk-reward setups in the energy sector. Sure the market cap is small and the liquidity is low, but I own a good chunk of Tenaz with the belief that it'll be small until it isn't -- and there's a deeply-experienced management team in place that is fully capable of making that transition. Boredom is the enemy here. Once you decide that you're good to bet with management, patience is the only requirement. The company buys stock back just about every day and directors have been buying lately, with the most recent buy being a 50,000 share purchase ($105,000) by director John Chambers, who knows a thing or two about energy as former head of GMP First Energy. One day, TNZ is going to capture something that the market will pay attention to, and when it does, these little wiggles in the low 2's will seem insignificant... or at least that's the plan.
Tag Oil (TAO.V, last at $0.64)
TAO put out a tweet on Monday saying that the fracture stimulation of the vertical BED 1-7 well was completed successfully and that over 100 tons of sand and 4,000 barrels of water was injected at high pressures and pump rates. That's music to my ears as it suggests that the frack was successful in opening up significant connected reservoir volume in order for the well to take that much sand. Recall that frac sand is pumped into the target horizon (the ARF in this case) with fluids under high pressure in order to induce fractures that fill with the sand/water mixture. Once the pressure pumping is complete, the well is flowed back in order to recover the frac fluid, leaving the sand grains wedged in the newly formed fractures within the target horizon. This is how fracture stimulations increase the connected surface area/volume available for hydrocarbon production. Now, with what sounds like a successful fracking operation behind them, it's all about flow rates. It should take a couple of days of flowback to recover the load fluid (water pumped in with the sand), after which TAO will be measuring oil flow rates in the field. Companies in western Canada often put out test rates in new plays after 1-2 weeks of testing, but IP30's are always preferred. Perhaps TAO will end up with a shorter term update, followed by an IP30... I'm not sure. Therefore, my timeframe for when the market might see flow rates is anywhere from 7-30 days from now. I'll have more to say after some flow rates come out, but for now I'm just happy that the fracture stimulation went according to plan. The first time you do something in an area where it isn't often done, it always takes a little longer, but TAO's operational experience at BED 1-7 will be invaluable when it comes to planning a multi-stage completion in the first horizontal well this summer. After a long wait, this one is just getting ready for showtime. If I see a good vertical test rate (say, ~200 bopd from a single frac), I'll just hold on with both hands for the journey because the writing will be on the wall for the horizontal. Remember that all of the infrastructure needed for production is right there. If this play works, it's going to be some highly economic oil and it will have a very short path (and low cost) to production.
Cardinal Energy (CJ.TO, last at $7.58)
No change here. I love CJ for its leverage to WCS pricing, its clean balance sheet, its outsized tax pools, its beefy 6-cent monthly dividend, its low decline rates, and its carbon-negative ESG chops. The best knock I've heard against CJ is with regards to its future well abandonment liabilities, but management has that very clearly built into their business plan, so I don't spend any time worrying about it. I do however spend time dreaming that my chunk of CJ and I will see a $100/barrel oil environment again, because special dividends and share buybacks are both on the menu when it comes to enhancing shareholder returns going forward.
Valeura Energy (VLE.TO, last at $3.12)
The deal that seemed to be too good to be true actually closed at the end of March -- insert golf clap here -- and kudos to management for generating big value for shareholders with that one. Wow. With a financial update now out to the market (net working capital increased by US$105 million on closing) and updated reserves volumes (and values) released, the market has had a chance to see what it thinks VLE is worth... and today's close says that number is $3.12. It's cheap on a CF multiple basis, but the abandonment liabilities and newness of the asset will take some time for the market to digest. I think VLE will find a new level here over the next few weeks/months where its share price will consolidate its meteoric rise from obscurity. After that, it's up to the oil price and execution on these and other assets (e.g., Wassana and Rossukon). Ignoring any future additional deal-making, I think that VLE has a few levers to pull which could take its production to >25,000 bopd in the not-too-distant future, so there's story to be written here yet. For me though, the easy re-rate trade has now happened (remember that not long ago VLE was trading at 75% of its cash value and no one cared) so I've booked some profits and will look to add back on weakness if the market gets bored with this one over the summer.
Parex Energy (PXT.TO, last at $27.61)
PXT has been good to me. The market's dislike for Colombia keeps high-quality PXT as one of the cheapest companies by most metrics on industry comp sheets. Meanwhile PXT trades just a little over its PDP NAV with three big Exploration (with a big "E", i.e., high-impact) wells planned for this year. One of those wells, Chirimoya, is drilling right now and should TD this quarter. A hit there, or on either of the other Exploration targets (these are big targets), could send PXT higher -- even if it is in Colombia. With PXT, I think I'm getting a free call option on high-impact exploration upside in a very well-managed and fundamentally cheap company, so I own it.
Vermillion Energy (VET.TO, last at $18.45)
VET also screens as being one of the cheapest companies on the comp sheets these days. I can't say that I totally understand why, so I own some and will let the quarterly earnings reports tell me if I'm crazy or not. VET has excellent leverage to European energy prices, windfall taxes and all, and it historically keeps a stable of high quality assets that are capable of generating sustainable free cash flow. Sometimes I like underdogs, so I've got some VET back in the boat at a cost just a little lower than here. The $16.50 low on the chart shouldn't break based on where VET trades on fundamental metrics, so I'll keep an eye on that level for signs of trouble.
Africa Oil (AOI.TO, last at $2.83)
The first Venus appraisal well is currently drilling offshore Namibia (Total is the operator), following up on what has been touted as possibly being the largest offshore oil discovery, ever. I'd expect results sometime over the next month or so. AOI has an indirect 6% interest in the discovery through its 30% ownership of privately-owned Impact Oil and Gas, which owns 20% of Venus. At these levels, AOI can't be called expensive and I think I get a free call option on Venus here, so I still own it.
Natural Gas
No change for me here. I'll come back to gas in due course, but for now, I'm still on the sidelines. If I had to play some way, Arc Resources (ARX.TO, last at $16.59) might fit the bill due to its significant condensate production stream kicker.
Lithium
Critical Elements (CRE.V. last at $2.05)
CRE has fallen with the rest of the sector as lithium prices in China came under pressure at the same time that the broader market indexes did (smells to me like momentum money leaving). Importantly, CRE's project has little to do with the lithium market in China because CRE's lithium is not bound for China. If I'm right about the play here, CRE's lithium should be bound for a battery factory somewhere in North America, with those batteries being used in EVs bound for North American or European markets. I recently read that the US wants something like 2/3 of new car sales to be EVs by 2032 while Canada has an equally ambitious goal of 60% by 2030. Combine that kind of government inertia, with government funding, in the midst of an "onshoring" theme for critical minerals and little CRE starts looking pretty tasty. With permits, low impurities, a choice location/jurisdiction, and impressive base-case economics I don't worry about CRE's future as a lithium supplier. Not all projects are created equal and I think that CRE gets funded and built in this cycle, so I continue to own it for exposure to the EV theme and have added recently despite the terrible chart. The stock is sitting on its 200-day moving average here, so a guy like me could believe/hope that level will act as support until CRE finds a dance partner.
Copper
Copper is just hanging around $4 trying to pick a direction. I'll act accordingly when it does. The charts are looking hopeful and most mainstream names are still well off their prior highs, but mixed economic signals make the short term direction unclear. In the meantime, Hudbay's (HBM.TO, last at $7.26) out-of-the-blue bid for Copper Mountain (CMMC.TO, last at $2.75) last week brought me some joy. I think the deal is good for HBM and I'm happy to take also-discounted HBM paper. I think there's big value to unlock if HBM were to figure out a way to split its precious metals production from its base metals production given the low multiple that HBM trades at, despite having a good-sized gold company buried inside it (HBM is projected to produce >300,000 ounces of gold per year in 2023 and 2024).
Other names of interest for me in copper include Capstone Mining (CS.TO, last at $7.21), Faraday Copper (FDY.TO, last at $1.09), Arizona Sonoran (ASCU.TO, last at $1.95), Surge Copper (SURG.V, last at $0.13) and Ascendant Resources (ASND.TO, last at $0.24). CS is the only producer in that bunch, but I think that the rest have projects that are all worthy of going into production if each management team delivers on their business plans.
I'd be remiss in not mentioning Arizona Metals (AMC.TO, last at $4.39) here after the company's last drilling update. AMC's high-grade and high-tonnage Kay deposit in Arizona already looks attractive as a development project, but exploration drilling to the west is suggesting that there may be more VMS mineralization to find in a folded repeat of the same rock layers. I don't own AMC right now, but it's on the shopping list should I find myself wanting more copper; especially if drilling at the western target starts hitting long intercepts of massive sulphides (so far stringer and semi-massive have been reported, suggestive of proximity to a VMS orebody).
Uranium
It has been dead money at best. No change in my view here, but that doesn't move markets. I've seen that G7 nations want to cut Russia from the (zero carbon) nuclear fuel supply equation... perhaps at some point they'll also realize that the supply of the raw material that goes into the fuel production is equally important, and equally unsecure.
Gold
My relationship with gold is complicated. I like it when it's going up, but I hate it when it's going down. Lately, it has been going up and the charts all look good again, with many a golden cross shining through (50-day moving average crossing up above the 200-day moving average). Maybe that means it's time for another gut punch in the golds or maybe this is the time that gold goes for one of those runs that leaves everyone in the dust. I'm not sure. What I do know is that most gold stocks are still way off their prior highs, despite gold itself recently having the longest closing streak over $2000/oz, ever. I'll also point out that the gold equity indexes like the GDX.US, GDXJ.US, and XGD.TO have all broken out to the upside from a textbook example of a cup-and-handle reversal pattern with initial upside for each targeted around 25% higher than current levels, if you believe in the dark art of technical analysis.
I've upped my gold exposure because I still think the sector is under-owned and I see no signs of gold fever out there. There are undercurrents in the currency markets (e.g., BoJ policy re: the yen, and the BRIC+OPEC concept of accepting currencies other than the dollar for trade) that could be dollar-negative and I've got to think that the Fed at least pauses after the May meeting. Throw in healthy U.S. government spending and the prospect of lower tax receipts (i.e., a healthy deficit) and I could see how the dollar could continue its slide. Honestly, I have no idea, but the market is speaking to me when I look at the gold charts. They're a little overheated in the short term, and the fact that I'm writing about it is probably a bad sign, but the charts remind me of the how the oils looked before they really took off a couple of years ago, so I'm not going to ignore my ever-optimistic intuition. I'm also not going to take my eye off the exit, because remember... I only like gold when it's going up.
Not being one to discriminate when I'm laying on a "sector" bet, my gold list is long, lightly researched, and varied:
Producers
I own New Gold (NGD.TO, last at $1.78) and Calibre Mining (CXB.TO, last at $1.61) because both screen cheaply and both should give good torque to a rising gold price. I've got Agnico Eagle (AEM.TO, last at $76.71) as my gold-standard in the sector with its low jurisdictional risk profile. Osisko Development (ODV.TO, last at $7.21) and GoGold (GGD.TO, last at $1.99) both made their way into my holdings as well. The former made the cut on the hopes that its freakishly high grade Tintic mine is connected to a (much) bigger mineralizing system, with the latter screening as one of the cheapest silver stories out there for no obvious reason. My attachment to each of these names is weak, but at this stage I just want to get chips on the gold table with some appreciation for value and/or upside through the drill bit. I can pick favourites later if the gold trade builds momentum; which is not a given at this point.
Developers
My developers list includes companies that are either financed to production or at (or close to) a stage where I think that they are capable of being financed to production. In no particular order, Ascot Resources (AOT.TO, last at $0.65), Troilus Gold (TLG.TO, last at $0.79), Prime Mining (PRYM.V, last at $2.43), Minera Alamos (MAI.V, last at $0.41), Heliostar Metals (HSTR.V, last at $0.34), G Mining (GMIN.V, last at $1.00), and Vizla Silver (VZLA.V, last at $2.09) all seem attractive for one reason or another, including the fact that all are cheap relative to peers and offer unique paths to upside. AOT (British Columbia) and GMIN (Brazil) are both funded to production with start-ups scheduled next year. Historically that's a good time to capture a developer-to-producer valuation re-rate and hopefully I own them long enough to see that. VZLA is one of the bigger independently owned silver resources, so that's one way I'm going to play silver. TLG is big and somewhat boring -- but so are a lot of gold companies -- and TLG has 8 million ounces of bulk-tonnage gold that is the subject of a feasibility study due to be completed in the back-half of this year. It's a brownfield project in Quebec and keeps growing with drilling. TLG is overdue for a resource update, but it's already a biggie. PRYM is a well-backed developer in Mexico which ironically now has a higher market cap than little MAI, who sold PRYM its asset a few years back, and still has a decent development project or two of its own in the pipeline. HSTR isn't really a developer yet, but the re-imagination of the Ana Paula project as an underground mine focused on the high-grade core of the deposit is interesting to me, especially because the high-grade resource can be expanded upon. Ana Paula has produced some eye-popping results in the past and expansion drilling is sure to turn up at least a little more of the same. If the gold tape is good while little HSTR starts reporting big holes from the soon-to-begin-drilling (supposed to be this month), this story could have a nice little run. There is the minor issue of 92 million 22-cent acquisition-financing shares coming free trading in mid-July, but that's three months from now -- also known as a market eternity these days. Last but not least, I still own some Anacortes Mining (XYZ.V, last at $0.43) which has a binding LOI with respect to the intent to merge with Steppe Gold (STGO.TO, last at $1.10). Given that STGO is a producer with assets in Mongolia, this deal might seem odd to some people, but STGO just put an asset into production with very similar characteristics to XYZ's Tres Cruces... and STGO has producing assets in Mongolia... and the private company that bought Lagunas Norte (adjacent to XYZ's Tres Cruces) also has producing assets in Mongolia. Hmmmm. I like the STGO team and their paper is as cheap as XYZ's so I'm happy to put an end to the XYZ saga with this deal. Maybe a phoenix will rise from the ashes.
Nickel
No change here. Magna Mining (NICU.V, last at $1.08) and Premium Nickel Resources (PNRL.V, last at $1.35) are my ways to play, and if I have to pick one, it's NICU.
Zinc
Fireweed Metals (FWZ.V, last at $0.83)
No change. Big Zinc. Big Tungsten. Big backers. Located in the can-do territory of the Yukon. FWZ will be drilling the most this year that it has ever drilled, so there should be a lot of news flow. One day I hope to see FWZ turn into two companies, one for the zinc-lead-silver and one for the tungsten. We'll see.
It's getting late, so I'll saw it off here. Today I leave you with a different kind of Bay Street gold... the immortal Copper Mountain theme song, Anything is Possible. Enjoy.
https://www.youtube.com/watch?v=lw3P-NPML9I
"Anything is Possible" - Copper Mountain Mining Corp
Happy hunting.
[/urcr_restrict]
AEM.TO|AMC.TO|AOT.TO|ARX.TO|ASCU.V|ASND.V|CJ.TO|CMMC.TO|CRE.V|CS.TO|CXB.TO|FDY.TO|FWZ.V|GGD.TO|GMIN.V|HBM.TO|HSTR.V|MAI.V|NGD.TO|NICU.V|ODV.TO|PNRL.V|PRYM.V|PXT.TO|STGO.TO|SURG.V|TAO.V|TLG.TO|TNZ.TO|VET.TO|VLE.TO|VZLA.V|XYZ.V
Disclosure: The following represents my opinions only. I am long every stock mentioned in this post (Image credit to Jack Ansty on Unsplash)
They say that markets climb the Wall of Worry, but hand-wringing has never been much of an investment strategy.
I've been intentionally quiet. Mostly because there are a lot of crosscurrents out there, but also because sometimes there's just not a lot new to say. Markets go up, markets go down, and when I started writing this note weeks ago, most commodity stocks were at higher levels -- so much so that I stopped writing for a while because I felt a pullback would make for a better time to talk about longer-term names and themes that I like regardless of the broader market tape. The CEO of CPP, John Graham suggests that the 2020's will be "the decade of alpha", where just owning "the market" won't work the way it used to... Translation: investors will get paid for being right, as opposed to just being there.
To that end, I strongly suggest that readers take the time to watch this presentation by Mark Mills (click here to link to the Youtube video) on some hard truths about the “energy transition” that gets so much press these days. Seriously, take the time to watch it — remembering that an investor is only as good as the ideas that they can generate within the context of the information with which they are presented. I think this Mark Mills talk should be mandatory viewing for the entire population, as it realllllly lays out what the reality of the energy transition looks like in physical material and energy terms. In forty minutes, Mr. Mills makes clear, simple, and well-supported arguments that will leave you with some very clear conclusions, including:[urcr_restrict]
So, while everyone tries to figure out what they are worried about — be it interest rates, recessions, wars, inflation, deflation, or spy balloons — I’m just going to stick to my knitting and run through some companies where I think I have something to say. While the market winds try to sort out a direction, I’ll stay focused on the fundamentals of what I own and why I own it; because I think the multi-year backdrop looks just fine.
Oil
When I look at what I own, oil figures prominently. Maybe it's because global demand for oil has gone up just about every year for the last 100+ years. Maybe it's that this year, demand is expected to set a new high at 101.7 million barrels per day, rising to another all-time high of 102.2 million barrels per day next year. And maybe it's the fact that this is happening against a backdrop of an industry that is hesitant to spend at the levels that it may have in prior cycles; as returns to shareholders and ESG chops have become far more sacred than growth any cost. Even if we are headed into a recession, I think that the associated wobble that oil might experience pales in comparison to the longer-term problem of ever-increasing oil demand with limited industry emphasis on new discovery and long-lead development projects. And remember that oil demand growth doesn't come from Europe and North America anymore, it's the other 7 billion people on the planet who drive that bus now.
Tenaz Energy (TNZ.TO, last at $2.39)
Energy stocks are generally cheap, but I think Tenaz is at the ridiculously cheap end of that spectrum. Recall that TNZ is an acquire-optimize-develop asset roll-up vehicle run by one of the most experienced, and most disciplined, management teams out there. Anthony Marino and Mike Kaluza were instrumental in building both Baytex and Vermillion and now they, and their equally experienced team, are going to build a company from scratch. TNZ's corporate objective is to get to 50,000-100,000 boepd through acquisition and development projects over the next 5 years, with a focus on the international arena. That might seem like a tall order given that TNZ's 2023 production is expected to be about 2,300 boepd from its existing assets, but as I've seen on multiple occasions, one acquisition can change everything. Consider the fact that when TNZ closed its Dutch North Sea acquisition in December, TNZ's 2023 cash flow estimates went from $0.50/share to $1.30 per share, without issuing a single share. Now, that was a small deal, but on bigger deals, whatever value TNZ is able to capture is going to be spread across a very low share count -- even assuming that TNZ issues equity along the way when it pulls the trigger on something more substantial.
As it stands today, TNZ should end Q1 with around $1/share in cash, which means that the company is trading about about 1.1x EV/CF… 1.1x!!!!!! The average market multiple for a Canadian-listed energy stock on the comp sheets these days is just under 3x EV/CF. So the question I ask myself is, "Should a vehicle whose biggest shortcomings are simply its small market cap and lower trading liquidity, trade at such a large discount to the group?" The answer depends on your perspective. As an investor, in the Warren Buffett sense of the word, all of the ingredients are there for the building of a great company, so the company is a steal at this valuation. As a trader, TNZ stock represents something with an unknown holding period, with an unknown catalyst of unknown timing -- so there's a chance of getting bored before getting paid. With this company, with this team, at this price, I'm firmly in the "investor" camp. I can have a lot of patience for a name like this. I've let too many like it slip through my fingers over the years by not thinking like an owner. Not this time. Even at 2x EV/CF, TNZ would be trading in the mid-$3 range and I could make the same argument that I've made here again about it being too cheap.
Simply put, TNZ is a vessel, waiting to be filled with assets that are vetted by an A-Team which is 100% focused on creating value per share. With only 28 million shares outstanding, TNZ shares have massive leverage to value accretion from its future acquisitions, which are sure to materialize as larger companies rationalize their asset portfolios. I’ve pounded the table enough on TNZ and now I’m just going to sit tight and be right. Sometimes a little bit of patience is all it takes.
Tag Oil (TAO.V, last at $0.62)
Speaking of patience, I've been waiting for the day that I get to see what TAO tests from its BED-1-7 well in the Badr oil field in the Western Desert of Egypt and it's finally getting close to showtime. The company said they would be fracking the vertical well near month-end and this is the last week of February, so there you go. Once fracked and cleaned up, the IP30 clock will start, meaning that investors could get a look at results around the end of March.
Recall that TAO is fracking a carbonate source rock that is known to have sourced most of the oil in this particular basin. The targeted Abu Roash F (ARF) horizon is comparable to the Eagle Ford shale in terms of organic content and rock properties, and four historic vertical tests in the area prove that the oil is there. TAO's resource report from RPS says there are 27 million barrels recoverable (risked) at 400 metre well spacing, but at 200 metre spacing, 54 million barrels would be on the table. Unrisked NPV on the 27 million barrel case (33.5 million barrels unrisked) is US$423 million. That is considering just 1/3 of the acreage that RPS evaluated (about 170 million barrels of OOIP (original oil in place) out of over 500 million barrels of OOIP on the license according to RPS). On success, the development program would be "capex-light" (i.e., mostly just drilling costs) as TAO is operating in the middle of a producing oil field with all of the tanks and pipelines that are needed for gathering, processing, and transporting their oil to market. The test coming up is a vertical completion, involving a the fracking of an old well that previously produced oil from the ARF without a frack. The vertical test data will set the stage for a horizontal well (to spud in May) where one could expect 5-8x the vertical IP30 test rate.
With $30mm cash in the bank, I think that TAO could ramp up the drill program on success. The wells can be tied in almost immediately. This is my favourite “exploration” story in that I don’t need TAO to find the oil -- it's known to be there. It's just about TAO unlocking it with the same fracking technology we have been deploying in North America since the shale revolution started. It's getting close to showtime and the ARF could be a company-maker play, so here's hoping for an IP30 of something in the neighbourhood of 200 bopd...
Africa Oil (AOI.TO, last at $2.83)
I like Africa Oil for its strong cash flows, clean balance sheet, Brent pricing, and indirect 6% ownership of the Venus discovery offshore Namibia -- which has been billed as potentially being the largest offshore oil discovery, ever. AOI's investment in Prime, its 50%-owned Nigerian offshore operating company, was very well-timed (Jan 2020) and it continues to pay dividends (literally) to AOI. AOI had US$207 million in cash as of the end of Q3 2022 (which is about CDN$0.50/share) and the debt in Prime has come way down since the acquisition. I think that the Nigerian assets (operated by Chevron and Total) are worth CDN$3/share, Kenya is maybe worth CDN$1/share, and that AOI's 30% holding in Impact Oil and Gas (Impact owns 20% of the Venus discovery linked above) comes as free call option on something that could be worth $1-2-3+ per share; depending on the results of the Venus appraisal drilling program which is starting this week. I'm not necessarily looking for multi-bagger returns here, but the company pays a small dividend, has an active stock buyback program in place, and I think it has enough value levers to keep the market interested. AOI is also on the M&A hunt, so you never know what they could land in that department.
Cardinal Energy (CJ.TO, last at $7.22)
Honourable mention to ol' CJ here. With its 6-cent monthly dividend, CJ's yield is hovering around 10%. To me, that's an attractive level for a company that has reduced its debt to an afterthought relative to cash flow and has some of the lowest decline rates in the industry. CJ also offers reasonable leverage to WCS spreads, which some smart cookies (like Ninepoint's Eric Nuttall) expect to contract over the coming year and beyond. Given that 1) a refinery in Ohio that takes Canadian heavy oil is reopening soon after an extended outage, 2) Mexico is planning to phase out exports to the U.S. Gulf coast refineries, and 3) the opening of the TMX pipeline will ease the Western Canadian oil export bottleneck -- the idea is that those factors should act together in order to close the Western Canadian heavy crude discount that has been dogging the industry for years. Seems reasonable. Those WCS spreads were pretty wide in Q4 2022, so that may pinch a bit in the Q4 results (CJ also noted some increased power costs in Q4), but looking forward, the outlook for CJ seems more stable than its 10% yield would imply.
Valeura Energy (VLE.TO, last at $2.13)
Nothing new here, but the market is clearly on edge waiting for VLE to close its "too good to be true" acquisition offshore Thailand. I haven't been given any reason to be nervous, so I'm placid, but the stock chart tells me that some folks are getting jittery. VLE has guided to that deal closing in Q1, so the wait can't be too much longer, right? If the deal does close as expected, I think VLE holders will have quite a nice day as its future would look cash-heavy, especially if oil prices take flight in the back half of this year as expected. VLE is on the verge of being a legitimate >20,000 boepd producer and the market knows it... but until it's actually a done deal, nerves will be a factor -- and a lot of momentum money had chased it higher. Part of me wants to add to it here, but for now, I'm content to just sit on what I've got and wait.
Natural Gas
While I still love Advantage Energy (AAV.TO, last at $7.93) and Arc Resources (ARX.TO, last at $14.50), gas is totally broken for me in the short term. A warm winter at home and across the pond has brought North American natural gas prices right back to the basement and we'll have to see how next winter shapes up. To be clear, long term, I like AAV and ARX, but right now there are too many other places where I see potential, and I only have so many dollars to invest. I'm sure I'll buy these names back at some point down the road, maybe even at higher levels, but for now I'm a spectator. When LNG Canada comes on stream in 2024 or 2025, I think that it will have a significant impact on western Canadian gas pricing and drilling activity, but right here and right now, gas is a pass for me. Note that AAV's Entropy subsidiary has recently set a new benchmark for carbon capture efficiency. It's a remarkable accomplishment and one that the market appears to be overlooking right now, though I'm not sure why. The world wants CO2 solutions and Entropy has just served up something that would enable reasonably-priced, guilt-free power generation from widely available and easily-scaled gas plants. It should be front page news, so Canadians should ask themselves why it isn't. Dogmatic opposition to hydrocarbons is starting to become pervasive in society, but solutions like the one that Entropy has developed are the key to actually solving the problems at hand. Something's gotta give...
Lithium
Lithium is hot and continues to hold the eye of the market. I don't have a lot new to say, but Critical Elements (CRE.V. last at $2.70) remains my main horse in the lithium race. And when I say race, I mean it. Manufacturers are scrambling to secure lithium supply, with industry-giant LG Chem even going as far to say that securing supply is more important than worrying about price. The EV revolution is in full swing and uncommitted supply within advanced and permitted projects is hard to come by. The setup for CRE would seem to be quite attractive, so I'm still sitting on a good-sized position while the market continues to value it at a discount to its peers on a NAV basis. CRE is a high-quality project in Quebec and one of these days you just know that some car or battery manufacturer is going to come knocking, right? Tick, tock...
Copper
Copper stocks weren't a lot of fun if you held them through all of last year, and most are still below their 2022 highs, even though they've been trending higher since July. With copper around $4.20, metal buyers appear to be more worried about lack of access to material than they are about a recession. Some of the heat in copper prices has been due to the drop in the dollar, and some of it is just due to the fact that metals markets have never been tighter according to the CEO of Trafigura, but what do they know... right? Then there's the longer-term theme of electrification, which is on a multi-path collision course with aging copper mines, increased demands from governments and workers, a lack of new mines/investment, and increased construction costs and timelines. The only way to resolve the longer term supply issue in a world that is going to pull harder on copper in its push for "green-ness" is price. Increase demand for copper --> increase the price of copper --> increase the supply of copper to moderate prices... that's pretty much what needs to happen and it hasn't happened yet. Keep in mind that most investors can't even name a copper stock outside of Freeport if they can even name that one. If/when I start seeing copper stocks regularly discussed on financial news and see regular articles on CNBC about it, I'll know the end of the run is near, but for now I'm going to say that the trend is your friend until it ends. When I say that, I mean that I want to see evidence of buying support on bad days in the broader market (like yesterday), because that's when would-be institutional resource buyers could be expected to step in. On stocks, that buying support should come in at levels like major moving averages (50-, 100-, 200-day) and I wouldn't expect RSIs to drop much below 40 on pullbacks if this move has legs. I'm no technician, but for trading positions, these are the kinds of things that I watch for in what can be a very volatile sector. My copper exposure includes Copper Mountain (CMMC.TO, last at $2.10), Capstone (CS.TO, last at $5.90), Arizona Sonoran (ASCU.TO, last at $1.79), and some Surge Copper (SURG.V, last at $0.13) in the penny stock category. I've been nibbling at Ascendant Resources (ASND.TO, last a $0.255) because it seems like a reasonable "smallish" project that could get bigger with a little luck from the drill bit at its well-located project in Portugal.
Uranium
We have had the answer to virtually limitless, cheap, emissions-free power for well over 50 years, and yet the misguided fears of weak governments and a vocal minority have led us to where we are today — afraid to deploy the single, most realistic solution to CO2 emissions from power generation that the world has ever had. Between their breaths of unfounded general fear-mongering, nuclear’s opponents love to point out that nuclear power plants are expensive and take a long time to build. Is that really a surprise given that the intellectual capital of the sector has been decimated? How many of you studied anything about nuclear power in school, ever? Today’s reactor designs are incredibly safe, reliable, and long-lived. Nothing is regulated more stringently than the components of the nuclear fuel cycle. There are no untracked emissions, no untracked materials or waste, and no other power source that has a lower pound-for-pound environmental footprint. If your entire life was powered by nuclear power, it would take a lump uranium metal that is about the size of an egg (once turned into fuel rod material, that expands to something about the size of a can of Coke). Think about that next time you see an egg, or a can of Coke. All of the energy you would use… all of the heating, the air-conditioning, the driving, the flying, the consumer goods — all of it, for your entire life -- powered by a lump of uranium that would fit in the palm of your hand. There's no change in my favourite names here so use the search bar on the website to find "uranium" if you're interested. I would add Uranium Energy Corp (UEC.US, last at $3.51) to that list based on its U.S. market exposure, dynamic CEO (Amir Adnani is someone who can really carry the torch for the industry), and relatively short runway needed to increase production given its focus on in-situ recovery methods.
Gold
I'm just not sure what to do with gold right now, so I'm doing a whole lot of nothing. I own a handful of golds with the largest position being in Agnico Eagle (AEM.TO, last at $61.50). I'm about ready to barf when I look at the AEM chart, so that's probably a good sign... right?
Nickel
There are only two nickel stocks that I really care about, which makes my life simple in this sector. Nickel inventories keep plumbing new lows, but I don't see a lot of chatter on it anywhere. Given what's going on in other battery metals, I think that nickel will have its turn in due course. Magna Mining (NICU.V, last at $1.19) and Premium Nickel Resources (PNRL.V, last at $1.70) are all I need in this sector right now. NICU smells like the second coming of FNX Mining with its high-grade historical Ni-Cu resource with footwall Cu-PGE exploration upside. They have a mill permit and a great team in place. I'm not aware of a new nickel project that could be up and running sooner than NICU, in one of the best nickel mining jurisdictions in the world, so it's a must-own in the sector for me. The other name is PNRL, which is also a brownfield situation, in Botswana. PNRL has a theory that two old mines, separated by kilometres of strike, are actually continuations of a multi-kilometre prospective trend. Within that trend PNRL has identified numerous conductors, some of which correlate with known, high-grade, Ni-Cu mineralization. If PNRL starts hitting good grades and thicknesses at depth where the modelled conductors are, the tonnage could build very quickly here. If I had to pick one, I'd probably pick NICU, but PNRL adds the kind of long-tail exploration upside to the mix that's hard to find in the sector.
Zinc
This note is already so long that boring old zinc gets just a few words. Fortunately, those few words carry a lot of oomph if you care about Big Zinc -- like the kind that Fireweed Metals (FWZ.V, last at $0.83) has in the Yukon. CEO Brandon MacDonald has persevered after years of hard, sometimes thankless, work and attracted a sizeable investment from the Lundin family. More importantly, FWZ will now have access to the Lundin rolodex as they look to advance not one, but two monster projects in this can-do territory. FWZ likely has one of the largest zinc resources in the hands of a junior at its Macmillan Pass project, but that will be more clearly defined after a resource update is released later this year which will include years of successful -- but as yet "uncounted" -- drilling. The company also owns a freakishly large and high grade tungsten project called Mactung that would benefit from staged-development with Macmillan Pass. Tungsten is a critical mineral, so the Lundins may be playing for a couple of different angles here. In any case, FWZ will see more drilling this year than it ever has, so there should be plenty of activity to track as the company looks to peel the cover off "Mac Pass" and take it for a spin.
I can never cover it all and there's always next time, so good luck out there. In markets like these, I think there's a real temptation to "do something", but sometimes the best thing to do is to just take a step back, think about the bigger picture, and worry less about the headline-driven gyrations when the news cycle is so active on so many different fronts. There are multi-year themes at play in many of the sectors discussed here and that presentation that I linked to at the top of this note really drives the point home in terms of what's to come if the electrification push and energy complacency continue. It's like a train coming down the tracks -- it'll get here when it gets here; but as Tom Petty said so well, the waiting is the hardest part.
Happy hunting.
[/urcr_restrict]
AAV.TO|AEM.TO|AOI.TO|ARX.TO|ASCU.V|ASND.V|CJ.TO|CMMC.TO|CRE.V|CS.TO|FWZ.V|NICU.V|PNRL.V|SURG.V|TAO.V|TNZ.TO|UEC.US|VLE.TO
Disclosure: The following represents my opinions only. I am long VLE.TO and TNZ.TO (Image credit to Harry Shelton on Unsplash)
As I watched Valeura Energy (VLE.TO, last at $1.58) soar 125% yesterday on the news of its >20,000 bopd acquisition in Thailand, something really crystallized for me. The concept of larger companies divesting of oil assets for ESG or portfolio rationalization reasons is well-established, but finding quality teams, capable of optimizing, running, and eventually decommissioning those assets is a different animal altogether. Any quality asset seller will want to sell to a quality buyer in order to minimize the risk of, in the future, being accused of laying off assets just to get them off the sheets. It's the seller's responsibility to ensure that the buyers are qualified and capable, both financially and organizationally, to carry on the business to the same or better standards. As a result, sometimes divestitures may be less about the headline sales price and more about simply finding good homes for non-core holdings.
When I first read VLE's news, I have to admit that disbelief was my first reaction. I understood that there must have been some decommissioning liability that came with the asset, but it was clear there was going to be a lot of torque to the equity. As it turns out, the decommissioning liability in VLE's deal is about US$214 million, but that's where things start getting interesting. [urcr_restrict]VLE believes that the fields and facilities that they plan to purchase have the potential for optimization/extension which would push those decommissioning liabilities further out in time, giving VLE more time to invest its cash flows to generate returns for shareholders. For example, say that you take on a field with a decommissioning obligation that is scheduled for 2026. In that case, the seller has this liability on their balance sheet that reads like a bond that matures in 2026. You come along and say, "Hey, that bond isn't due in 2026... if I optimize this and/or drill these wells to extend the field life, the bond doesn't come due until 2030, or 2032, or..." -- you get the point. All of a sudden you get years of additional cash flow by investing a little more in order to extend the field life, while leveraging a capital asset that's already in place.
None of this is of interest to the sellers -- as they are in "divest mode" -- nor does it concern them. What concerns the sellers is finding good homes for their assets, while the buyers focus on extending the field lives. The best part is that the buyers are effectively getting very low cost debt financing, from the sellers, by paying a lower headline purchase price, plus assuming the decommissioning liability. There's no need for any debt (other than operating/bridge debt) within this kind of deal structure and it gives a massive amount of torque to the underlying equity of the buyer, as any additional asset value creation, on a big production base in this case, accrues to the buyer's shareholders. Hence the big pop in VLE. I expect that management will have more to say about the plan over the coming weeks and months (this hasn't been "marketed" to institutions yet), but the deal is expected to close in Q1 2023 and it will vault VLE into a completely new size category. Congratulations to Sean Guest and his team -- and cue the golf clap. Quite a deal. I've read two analyst reports with targets of $4.50 and $8.25, so take your pick. I'll use them as goalposts for now.
Okay, so what have I learned from this?
My big takeaway action? Hold onto my Tenaz Energy (TNZ.TO, last at $1.46) with both hands and just stay the course. One day TNZ will find an asset... I'm just not sure when that day will come. Based on what I've just seen with VLE though, when that day does come for the TNZ team, I'm feeling like it will have been worth the wait. I've written about TNZ quite a bit in the past, so I won't rehash it here, but quality management is hard to come by and TNZ has it in spades. It's also worth pointing out that TNZ only has about 28 million shares outstanding, so the leverage to shareholders could be significant if they too are able to pull a rabbit out the hat.
Time will tell.
[/urcr_restrict]
TNZ.TO|VLE.TO
Disclosure: The following represents my opinions only. I am long TAO.V, TNZ.TO, and VLE.TO (Image credit to Pawel Nolbert on Unsplash)
Long ago, in a far away galaxy, investors once cared about junior international energy stocks. There was a diverse ecosystem of analysts and institutions investing in international energy stories as the world demanded more oil in response to the massive growth in Asia, particularly China. There was a whole sub-sector of international Canadian-based independent champions in just about every major oil producing region you can think of, and the shares were widely owned and traded by institutions and retail investors alike. Financings were announced and oversubscribed, capital was deployed, risks were taken. Fortunes were made and lost, and through all of it, more oil and gas did make it to market as a result. After the 2008 implosion, gradually, the light faded; and eventually only a shadow of the sector and its investors remained. Now, fifteen years after the GFC, I'm feeling like 2023 could see the return of the J.E.D.I. -- the Juniors who Explore and Develop Internationally -- in terms of small cap market interest. In Q4 alone, I have seen Jedi-like deals for three of my junior hopefuls -- Tag Oil (TAO.V, last at $0.55), Valerua Energy (VLE.TO, last at $1.70), and now, Tenaz Energy (TNZ.TO, last at $2.00). I think that all three of these companies have the ability to inspire hope in a sector that has been lost for years... and they all will begin their journeys in earnest in the New Year.[urcr_restrict]
Tenaz is the the most topical today, since they announced their entry into the Dutch North Sea less than 24 hours ago. The deal isn't that big, adding about 5 million cubic feet per day of gas to TNZ's production base from a private company seller, but man is it accretive on a per share basis -- and this is just the 'ante'. The press release suggests that this deal is indicative of where the market could/should expect to see TNZ focus some its attention in terms of future acquisitions as Tony Marino and his team continue on their quest to build a 50,000-100,000 boepd company.
TNZ's deal reads as a "starter kit" -- though it includes pipeline interests, production, and a future carbon-storage project too boot -- and savvy readers will have noticed that (a) the asset purchase has already closed, and (b) it was fully funded without issuing a single share of equity -- meaning that TNZ as just increased 2023 cash flow per share from around $0.50/share to about $1.30/share. That means that at yesterday's closing price of $2.00, TNZ is trading at around 1.5x EV/CF on 2023 numbers... I'll let you decide if a 1.5x EV/CF is an appropriate multiple for a company that just grew its cash flow per share by 160% in its first deal. If you're starting to wonder if the last two sentences are typos. They are not... this is the beauty of pristine capital structure and the resulting per share leverage. TNZ has just a little over 28 million shares outstanding -- with no warrants, and only a modest option pool -- which means that today's 25% jump in the share price increased TNZ's market cap by just $11 million. Before today's deal, I had outlined what I thought was a very defensible fair value of $2.50/share for TNZ, and the stock isn't even at that level yet, so I think the value argument just got much more compelling. With TNZ's unrelenting focus on generating value per share, I'm quite content to wait to see what additional deal flow in 2023 will bring as management executes on their acquire-optimize-develop strategy. Magical things can happen when a good management team is given a clean balance sheet, a tight capital structure, a fertile deal environment, and a little bit of time. Sometimes, it just doesn't need to be more complicated than that.
I wrote recently on Valeura's new deal and I don't have much new to add, but I can summarize my understanding of what 2023 looks like for the company. According to UK-based Stephane Foucaud at Actus Advisors, VLE would end 2023 with some US$200 million of cash in the bank based on a $100/bbl average 2023 Brent oil price (Stephane has a C$4.50 target on VLE). I know that may sound like a bit of a stretch on Brent crude prices, but even at $80/bbl, VLE's YE2023 net cash number would be at least US$100mm by my envelope math, which is roughly equal to the company's current market cap. With multiple opportunities to extend the lives of the acquired fields (by several years at least) through additional drilling, VLE thinks it can bring big dollars to the bottom line in the process -- and defer decommissioning -- as its annual cash flows are substantial. The acquisition is expected to close in mid-February, and cash flow from the operations has been piling up in escrow since Sept. 1, 2022; meaning that there will likely be a nice accounting adjustment on closing. An updated comprehensive reserves report should be available by late February-March which will be enlightening. VLE's deal continues to mystify anyone who looks at it, but from my work on it, it really does look that good. VLE has a good capital structure with 86.6 million shares outstanding, with a modest option pool, and no warrants. UK-based Baillie Gifford remains VLE's largest shareholder. The company plans to market the deal more actively in Q1, so, despite the move in the stock, I think the market is still in the "discovery phase" on this one. VLE could exit 2023 at 25,000-30,000 bopd...
I'm short on time, but Tag Oil rounds out my holy trinity of JEDI stocks for 2023. The vertical well re-entry and frack of the ARF formation is expected to get underway in mid-January and should take about 15 days in the field, followed by 30 days of production before news on the well is released. TAO will begin with a well that intermittently produced a total of 20,000 barrels of oil decades ago, so there is zero doubt that there is oil at this location. The only question is what it will flow after it's fracked and what kind of IP30 (first 30-day flow) rate the well will deliver. TAO is loaded with cash and has its ducks in a row in terms of how to unlock the value of the ARF play, so once this story gets rolling it should gather steam like a snowball rolling downhill. The vertical test rate will be very informative for the horizontal well that is to follow, both of which would set the wheels in motion towards a >50++ million barrel recoverable resource with success. First things first though, let's see that vertical test -- fortunately the wait won't be long.
All three of the above names are small in terms of market cap. Tenaz's market cap is just $56 million, Tag's is around $80 million, and Valeura weighs in at about $145 million. Despite their small statures, I believe that all three have the potential to inspire investment in the junior international sector at a time when the majors are leaving a void in non-core optimization, exploration, and development projects. As a guy who invests in mining a lot, I continue to be mystified by the valuations that the market will pay for mining assets that have no hope of producing a dime of cash flow for 5-10+ years if they are lucky, while a story like TNZ sits at 1.5x EV/CF, but that's the market for you. In that context, I think my holy trinity of international juniors represents a very interesting type of value proposition if I'm patient. I fully believe that any or all of these companies could carve out $500+ million market caps with market support and solid execution. Will 2023 see the return of the JEDI? Time will tell, but I think that the odds look good.
May the force be with you.
[/urcr_restrict]
TAO.V|TNZ.TO|VLE.TO
Disclosure: The following represents my opinions only. I am long a lot of TAO.V (Image credit to Tom Podmore on Unsplash)
Sometimes I like to look back on what's worked for me in the past in order to try to repeat it in the future. Two years ago, I wrote a note on Transglobe Energy in Egypt. At the time, it was apparent to me that the stock would eventually trade materially higher once the market realized the significance of its then-newly renegotiated contract terms, and I was right. I'd followed Transglobe for the better part of fifteen years at the time, so I was uniquely positioned to recognize Transglobe's potential while it largely flew under the radar of the market due to its sub-$100 million market cap. The stock was $1.14 when I wrote a note like this one about it, and it was as high as $6.50 about 18 months later -- eventually being taken out by Vaalco Energy (EGY.US, last at $5.20) for about $5 per share earlier this year. It was a great investment, even if I didn't hold it until the end. All it took was for me to buy some stock and sit on my hands while the market digested (and appreciated) what Transglobe was saying. While the oil price tailwind didn't hurt, I was sure about Transglobe's value in pretty much any reasonable oil tape. I was sure because I knew the assets, I knew what they were worth, and I knew why it was cheap -- it just needed some time for the market to realize what it would become.[urcr_restrict]
So now, as I sit and ponder Tag Oil (TAO.V, last at $0.59), I can't help but feel a little nostalgic. Since announcing the signing of its deal on the Badr oil field in Egypt in late September, TAO has 1) closed a $25 million 40-cent financing at the beginning of November, 2) released a resource report quantifying the company's Abu Roash F (ARF) opportunity for the first time, and 3) is set to get active in the field in December. If TAO was slow to start, it's making up for lost time now. While the stock is up 19 cents from the financing price, I'm of the view that TAO may have a lot farther to go.
I should be clear about the fact that my TAO investment is different from Transglobe in that Transglobe had producing reserves, while TAO has "2C development pending contingent resources". The latter is a more speculative category. Those resources will convert into reserves only when their economic viability is proven by development. Fortunately, the folks at independent energy consultancy RPS Energy were kind enough to give an indication of what those contingent resources might ultimately be worth if TAO's pilot development program proves the viability of the ARF play. RPS modelled 20 wells covering about one-third of TAO's acreage, yielding 27 million barrels of recoverable oil (gross) with a risked net present value (NPV10) of US$339 million using an 80% chance of development (US$423 million unrisked). On the current share count, that's about CDN$2.90/share risked and CDN$3.60/share unrisked... the stock closed today at 59 cents. The difference between the share price and RPS' NPV numbers gives me some sense of what kind of reward might be on the table here at the start. Why italics on "at the start"? Remember that the report only covers about one-third of the evaluated licence area where the best well control is... and the implied ~400-metre spacing (that's me squinting at the well layout on the TAO website) is conservative relative to what one might see in a commercial development scenario. That means that those 20 well locations included by RPS could ultimately turn into 2-3x that number, with 2-3x the reserves, and a chunky bump up in the NPV, without even considering the other 2/3 of the evaluated licence area. Under that lens, I'm currently looking at the RPS report as more of a "starter kit", and that's what gets the speculator in me dreaming -- seeing a potential five-bagger from a "starter kit" evaluation... and that's even after I account for modest dilution along the way.
While I've been patient for two years to get to this point, fortunately I won't have to wait much longer for some very key information from the Abu Roash F (ARF) horizon. TAO's first operation, planned for December, involves re-entering an existing well, fracking it in the ARF, and then flowing the well back to get a sense of initial productivity and reservoir performance. As a general rule, a medium-length horizontal well could test at as much as 5-8x the rate of a vertical well in an unconventional resource play. So, when the results of TAO's first vertical fracked well come back, it's going to be very informative for anyone who's been paying attention. I wouldn't expect that TAO would release a flow rate for at least 30 days, which might put those numbers in the hands of the market by the end-of-January-ish. When those vertical test results come back, assuming they are positive, I think that will be the day that TAO will really catch attention. For now, with its $80 million market cap, TAO is below most institutional mandates and radars, but I think it's going to draw a much larger audience with just a whiff of success given what is on the table; especially under this management team.
Even the best bets are still bets, but I know that if I want to make multi-bagger returns I need to be willing to go up the risk curve. I rationalize taking that risk by knowing that this kind of story is right in the middle of my sphere of knowledge -- meaning that my view of risk can sometimes diverge from that of the market. In a sentence, based on every bit of information given to some of the brightest independent experts in unconventional reservoir evaluation, the prevailing technical view is that the ARF is a prime candidate for the same kind of unconventional resource development that we have been extensively employing in North America for the better part of two decades. The ARF is a proven source rock, having sourced most of the oil in this particular basin. It is 25-50 metres thick in the area, oil-prone, in the oil window, has porosity and permeability as good as the Eagle Ford with comparable (brittle/frackable) lithology/mineralogy, shows evidence of natural fracturing (good for flow and storage), and the zone appears to have very limited mobile water, with good boundary zones above and below for frack containment. Combine all of that with the fact that the ARF has historically tested oil from four vertical wells which were drilled for other conventional horizons within the area of interest -- with two of those wells recovering 20,000 and 70,000 barrels of oil from the ARF via unfracked partial completions -- and things start getting pretty interesting. There is good well control and seismic coverage, with all of the pipes and facilities needed for oil development and transportation already in place, aside from future infield tie-ins. Operating costs are expected to be around US$6/barrel, with wells costing US$5-6 million modelled to recover 1.35 million barrels each in a mid-case. To be sure, I could have less risk by waiting to see the vertical test result, but the spread between the share price and the RPS-calcuated NPVs is what draws me in, as I think my odds of success are better than what the market is implying (right now the market is implying a 20% chance). Usually, unlocking a big NPV -- US$423 million in this case -- requires a lot of capital , but RPS estimates just US$104mm of capital to develop the 27 mmbbls of gross reserves in their mid-case estimates. Low capital costs, short time to production, and everything you could ask for in terms of the kind of unconventional reservoir that you get to be the first one to test-drive. Will the ARF deliver as hoped when it's hit with a frack? If the zone acts as it should, it will; but there's only one way to remove that "if" -- and that's what TAO's initial capex program is all about.
Two-and-a-half years ago you could go down just about any road and make a pile of money in the oils, but these days I think that making a big win will require heading down some roads less traveled. I've made my case -- and my bet -- and now it's just about seeing where this one goes. With over $30 million in the trunk, TAO has enough cash to expand its drilling program if the initial vertical test and subsequent horizontal well(s) are encouraging. If that comes to pass, TAO will have no lack of access to capital and TAO's pace of development could accelerate quickly. Dare to dream.
The Eagle Ford of Egypt. That's the prize... and it may be a big one.
Happy hunting.
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TAO.V
Disclosure: The following represents my opinions only. I am long every stock in this post (Image credit to Sam Schooler on Unsplash)
Over the years, I've spent a lot of time, looking at a lot of companies, in a lot of jurisdictions, covering a broad swath of the commodity complex. Sometimes I feel a bit like an antique hunter who goes through the back shelves of thrift stores looking for hidden treasure... and when I think I may have found it, I'll take it home, polish it up, and see if it's the real deal. When the antique store is busy, it gets harder to find those treasures as more shoppers pore over the same shelves. When it's quiet, quality finds can linger on the shelves for what seems like forever... but alas, a guy can only carry so much at a time.
You can probably see where I'm going with this analogy. We all know the market hasn't been kind to most investors this year. Even the bullet-proof "60/40" crowd has had a religious experience in 2022. Market participation and willingness to speculate are both anemic, leaving the TSX Venture, arguably the ultimate measure of speculative appetite, down about 35% year to date. With that in mind, how well picked-over do you think the junior resource stocks are right now? From my perspective, there are so many interesting things in the bargain bin that I'm feeling about as hopeful as I was in May of 2020. Many junior stocks are right back to where they started their last runs, or below, some deservedly so; and some not so much. Based on my experience, the market's ability to differentiate between well-founded speculation and wild-ass speculation is questionable at best, so when the juniors are in the dumps, I sharpen my focus to see what I think is being overlooked. To be sure, companies that do not deliver on their plans earn their declines, but those who do deliver -- or just haven't delivered "yet" -- and have been punished anyway is where I'm focusing my energy.[urcr_restrict]
The silver lining in bad markets is that they breed opportunity. Recognizing the opportunities is an art -- not a science -- and trust me, I haven't perfected the process yet. The U.S. dollar appears to have peaked in the short term, and the Fed is probably going to start declaring victory soon as year-over-year price comparisons moderate thanks to the base effect. The world is generally 1) short on energy and energy investment, and 2) lacking the metals capacity to fuel the Green Transition; and portfolio managers are woefully light in their energy and commodity allocations. Companies, and countries, are starting to rethink their approaches to resource management and security of supply, be it in terms of materials or industrial capacity. So, while paying 20x revenue for a money-losing company isn't probably going to be cool again any time soon, Goldman's Jeff Currie might just be right about his "revenge of the old economy" call a while back. Energy and materials companies stand out as beacons of balance sheet strength and free cash flow at a time when companies like that are hard to come by and, if the Fed starts to moderate its tone, I think that hard assets could have a nice rally... and of course, if China starts getting competitive about "securing supply" of energy and materials, look out.
With that in mind, I've been deploying capital. The selection below covers a handful of special situations which I think are both interesting and timely.
Tag Oil (TAO.V, last at $0.43)
TAO will soon close its oversubscribed 40-cent financing, leaving it with around $35 million in cash and no debt. This quarter, the company plans to re-enter a vertical well to carry out a pilot frack and test program in its potential-company-maker Abu Roash F (ARF) play, which will aid in the design of the first "ARF" horizontal well early in the new year. A successful result on one or both of those wells would see the formal introduction of what could be dubbed the "Eagle Ford of Egypt", to both the industry and the market. Given the people involved and the significant marketing program the company did after they landed the Badr oil field deal, I think that TAO already has the market's attention; so now it's just about delivering. TAO's ARF play is one of the most exciting new plays that I am aware of globally and I'm certain that industry hawks will be paying attention; so drill baby, drill.
On success, TAO's short timeline to cash flow should become readily apparent, because operating within an existing oilfield offers significant advantages when it comes to getting new oil on stream quickly. TAO checks all the boxes for me -- management quality, share structure, timing, balance sheet, project materiality/scale, and jurisdiction... I like it all. I can wait for years for a situation like TAO to arise, and while it's not my only stock by a long shot, it's definitely one of my favourites. Being a true penny stock, it's important to understand that TAO comes with a fair amount of risk, but most will know that I'm willing to go pretty high up the risk curve if I think that the market's level of perceived risk differs from my own -- especially when I think multi-hundred percent upside is in play with a modest amount of patience and just a dash of luck.
Goliath Resources (GOT.V, last at $1.39)
I have checked for awareness of this name in about two dozen corners of the market and aside from Quinton Hennigh (Crescat Capital), a couple of junior mining circuit/conference types, and Eric Sprott, it would appear that no one is really following it. I don't actually mean no one, but not many of my contacts could even tell me the ticker, let alone anything about the project. To me, that indicates that Goliath's Golddigger project is still flying under the radar of the institutional community and popular brokerages. Just for fun, I interviewed myself on the name below. You get the first question...
You: So what? Lots of things fly under the radar. I've got a list as long as my arm of things that are "under the radar", and I hate gold...
Me: Everyone hates or has very little exposure to gold right now. If gold was popular, GOT wouldn't have a 1-handle on it. Now, on your list, how many wide-open, 6 to 8 million ounce "blue sky" gold deposits with tidewater access, located just south of Stewart, B.C. in the southern corner of the Golden Triangle, with clean metallurgy do you have?
You: Wait a minute, 6-8 million ounces? What's the market cap?
Me: About $100 million.
You: So this is trading at less than $20/oz?
Me: Maybe. No mercury, no arsenic, 38% gold recovery on gravity alone, 98% overall, no cyanide required. Yours for less than $20 per napkin ounce.
You: What's a napkin ounce?
Me: The kind of ounce that has been figured out on the back of a napkin, assuming fairly consistent grade and thickness.
You: How do you know it's 6-8 million ounces?
Me: I don't, but simple math says that much could be in play, and an initial resource estimate based on the past two-year's drilling should be ready in the first half of next year. The company has drilled off a 1.6 square-kilometre "panel" and the aptly-named Surebet zone is present everywhere they drill. They hit 24 of 24 holes in the 2021 discovery season and they just completed a 26,000 metre program this summer which results are pending. Goliath hit on every hole (68 out of 68) that they drilled within that 1.6 square-kilometre area this year. Recent press releases suggest that average zone thickness has increased relative to last season, so I've assumed an 8-metre average thickness for the zone overall. The average grade from last year's drilling was about 6 g/t Au equivalent. The specific gravity of the rock is around 2.9 tonnes per cubic metre. That's potentially around 30 million tonnes of 6 g/t material contained in a sheet-like, shear-controlled zone of alteration and veining. The Surebet zone is remarkably predictable thus far, but grades do vary within it. It's early days in terms of knowing what the deposit actually looks like. Tweak grade or thickness a little and you can move the numbers around, but it looks big regardless, and is still open to expansion. I expect that the deposit will have thicker and/or richer chutes within it, so assays will be important in order to see how grade distribution evolves.
You: Assays? When are they expected?
Me: I'm not sure. The company has guided to some time soon-ish. Assay data may come in batches, or all at once. I'd prefer batches, but if the grades are good, I don't care how they do it.
You: You said Sprott is a holder? And Crescat?
Me: Yep, Eric Sprott bought GOT at 55 cents last February before GOT had drilled a single hole into the Surebet zone. Crescat owns 20% of GOT. Insiders own 10% and are essentially "unknown" as far as Bay Street is concerned. Quinton Hennigh is the biggest champion of the stock by a mile and his most recent video is worth watching if you want to learn about the project from someone who knows it better than anyone. The video link is indexed to start where the Goliath discussion starts. (https://www.youtube.com/watch?t=2944&v=9_D0KgMZbJE&feature=youtu.be&themeRefresh=1)
You: Thanks, this does sound interesting.
Me: Only thank me if it works out. Good luck with your research.
Critical Elements Lithium (CRE.V, last at $1.83)
If this isn't the next lithium mine in Canada, something has seriously gone off the rails. While CRE is still waiting for its provincial permit -- having received the Federal one about a year ago -- there is optimism in the air that the wheels of bureaucracy continue to grind ahead. The hold up appears to be with either the COMEX committee, or the Provincial Administrator to whom that committee makes its recommendations. In any case, the minutes of the most recent meeting are to be published on November 4th. While the minutes will not include the contents of the committee's recommendation, they should indicate whether or not a recommendation to the Provincial Administrator was made. Clear as mud? Good. There's not much more to say here. This is a highly economic lithium project, of good scale, in a great jurisdiction, that should be very a appealing investment/offtake target for automakers who are literally scrambling for supply. Canaccord recently launched coverage on CRE and Beacon Securities has been vocal and active on the name, so those are a couple of places to go for those wanting to learn more about it. Most targets on CRE are in the $4 range, but lithium-price optimists can get much higher numbers. Once the permits are in hand, CRE should rock.
NG Energy International (GASX.V, last at $0.93)
It's been 16 years since a company named Pacific Stratus drilled its La Creciente-1 gas discovery well in Colombia. The well hit 642 feet of gas shows within the Cienaga de Oro sandstone and tested at a rate of 29 million cubic feet per day. I remember that story well, as it was one of the first stories I covered as an analyst. Well, fast forward to last week and I hadn't seen anything like that in Colombia since -- that is until GASX put out a release outlining 680 feet of potential gas pay in the Cienaga de Oro sandstones with an additional 103 feet of potential gas pay in the shallower Porquero formation in its Brujo-1 exploration well. That's quite a gas column by anyone's standards. Flow testing at Brujo is happening right now, followed shortly after by the drilling of the next well in the exploration program, Hechicero-1. Earlier this year, GASX drilled the shallower Magico discovery in the same formation within the same trend of structures. Having success at Magico (shallow) and Brujo (almost twice as deep) de-risks the remainder of this cluster of prospects for me. In total, prospective resources in the >1 TCF range could eventually be discussed. GASX recently took on some share dilution when it punched out a convertible debenture on the back of the Brujo discovery news, but it did so to ensure continuous news flow and drilling activity. As a newcomer to the story I don't mind that because it got me a good entry around 90 cents. GASX owns 72% of the SN-9 block, which is "across the road" from Canacol's producing block. I'm not sure how this all plays out, but a large onshore gas discovery, adjacent to a gas transportation corridor, in a country that's trying to pivot to gas as a power source, seems like a tempting morsel for a more established producer once the exploration phase is complete. For now, the cycle of drilling and testing should keep the wires busy on GASX.
Eco Atlantic (EOG.V, last at $0.60)
EOG is almost certainly at or near total depth at its 50%-owned Gazania-1 in the nearshore of NW South Africa and the stock closed up 15% on high volume today. Hmmmm. The pre-drill dream target size was estimated at some 300 million barrels, but I'm not sure if that's in place or recoverable. It's a nice target from a technical standpoint, located up dip of a well with live, light oil indications a little deeper in the basin. For now, it's sufficient to say that this is a big well that will be highly material to EOG if it is successful. I'm riding a small position, but could add on success if I like what I read and the market is slow to react. News must be imminent here either way. Ever play red-or-black in roulette? This is it.
Cardinal Energy (CJ.TO, last at $9.26)
CJ is starting to get up to the levels where I sold it earlier this year, but its imminent debt-free status and massive free cash flow, paired with very low production declines, make me think that the dividend could go a little higher still. CJ will report its Q3 results in November. I don't expect to see much that I don't like in that report, so I'll stick around this time and see what the quarter brings. CJ is just such a clean story for those who like yield.
Tenaz Energy (TNZ.V, last at $1.57)
Sellers continue to lean on the TNZ quote. Honestly, I'm not sure where these people come from, but I'm going to be very clear here -- TNZ is trading way, way below its fair value. In December of 2019, when oil was only $50/barrel, Tenaz (which was then named Altura) sold a 12.5% interest in its Leduc-Woodbend asset for $7 million to a private entity. With oil at $88 now, where I come from, that means that the other 7/8ths of the Leduc Woodbend is worth no less than $50 million today, full stop. That also happens to be about the same as the estimated NAV of TNZ's 1P reserves for those who like second opinions. TNZ has no debt and about $20 million of cash, so that brings the real, tangible, fully defensible value up to $70 million. There are 28.5 million shares outstanding for TNZ, meaning that anyone selling TNZ below about $2.45/share is clinically impatient. Look, I'm well aware of the fact that waiting around on TNZ for years not making any money isn't for everyone, but it's that or blow it out at mind-blowingly stupid levels into a thin market as the company (hopefully) stands on the threshold of finding an accretive acquisition target (backed by its banking syndicate)... take your pick. From these levels, the stock could go up 50% just to get to what might be considered fair value, with nothing priced in for what Tony Marino and his team bring to the table in terms of clout and capability. Think about that for a minute -- fifty percent. Debt is non-existent and the production base has a nice, predictable, low-cost structure with plenty of spare infrastructure capacity. From my perspective, TNZ looks a lot like a heavily discounted call option that never expires, trading with one of the best risk-reward balances that I can think of, but hey, that's just me. For anyone who cares about fundamental value and has the patience to stick around for a couple of quarters, I think TNZ is a serious small cap contender for the "why-didn't-I-buy-that-stock-when-it-was-in-the-dumps" award. Recall that TNZ hopes to be a 100,000 boepd company within the next five years through an acquire-and-exploit business model. One day TNZ will land a deal... I just can't tell you when.
Advantage Energy (AAV.TO, last at $10.11)
AAV continues to buy back stock and pay down debt as it makes its way to becoming a free cash flow cow... and while I may have come for the gas business, I'm staying for the carbon capture. Entropy provided an update recently that they ran the industry standard CO2 solvent in their carbon mousetrap at Glacier for long enough to get to steady-state operating conditions at which point they measured a heat-duty of 3.3 GJ per tonne of CO2. If that means nothing to you, don't worry, I've got you covered. Current industry standard carbon capture heat-duty ranges from 3 to 5 GJ per tonne of CO2, with some "hoping" to get below 3 GJ per tonne of CO2. A lower number is better as it means less energy is needed to capture the CO2. Got it? Good. Now Entropy will put its super carbon capture juice into its Glacier plant, get it to steady state operating conditions, and see what happens. Ideally, Entropy will come back with a heat duty that is below 3 GJ per tonne. In the meantime, AAV will continue to buy its own stock back as its finely-tuned gas business sails the seas of free cash flow. AAV's Entropy subsidiary has obvious and massive political tailwinds that could take the stock a lot higher than conventional E&P analysts might expect. It all depends on who comes to dinner after the Entropy23 results come back, so stay tuned.
As always, this is just a sample of what bubbled to the surface today. I still like uranium (see my September 2022 note), I still like nickel ((PNRL.V, last at $1.60) and NICU.V, last at $0.325) in particular), and I have my eye on some rare-earth stocks (MP.US, last at $31.49 is the easiest) just in case China decides to use the rare-earth-element lever to pressure the U.S. over its recently imposed semiconductor sanctions. My copper exposure is low right now, but coppers are on the shopping list if I can only figure out the "when"... they're all cheap enough if copper is over $3.50.
Overall, for whatever reason, I'm feeling more optimistic now than I have for a while. I think that feeling is going to last for as long as my stocks don't start taking out their most recent lows. 2022 has been a tough year across the board, but success is not unachievable in a bad tape; it just takes a different perspective... just like a silver lining.
Happy hunting.
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AAV.TO|CJ.TO|CRE.V|EOG.V|GASX.V|GOT.V|MP.US|NICU.V|PNRL.V|TAO.V|TNZ.TO
Disclosure: The following represents my opinions only. I am long AAV.TO, AOI.TO ARX.TO, CRE.V, EOG.V, ITE.TO, GOT.V, LAC.TO, PNRL.V, SWN.US, TAO.V, TNZ.TO, CCO.TO, NXE.TO, DML.TO, GLO.TO, CVV.V, EFR.TO, U.UN.TO, and XYZ.V (Image credit to Christoffer Engstrom on Unsplash)
I've been quiet, but it hasn't been because I suddenly lost interest in the market -- I just haven't had anything new to say since I battened down the hatches in early July, focussing on a narrower selection of companies that I felt could perform regardless of what "the market" did. Very little has changed in my outlook, or holdings for that matter, as the market gyrates between headlines. There are so many crosscurrents in the market right now that, for me, the day-to-day happenings are blending together into a kind of noise. Worries about inflation, central bank rates, recession, the bond market, energy prices, energy supply, food supply, Russia-Ukraine, climate goals, and China's zero covid stance generally dominate the news. Of all of that, if there's one thing that the market seems to be most fixated on, it's the Fed... look no further than Wednesday's market action for confirmation of that. I'm not sure that's the most productive of fixations, because if it's simply "rates up = stocks down" and vice-versa, then historical stock market performance must be a perfect reflection of the fed funds rate, right? Nope. Not even close. If it were only that easy. Coming out of the 2020 lows, the indexes were consistently bid because of TINA (There Is No Alternative (to equities)) thinking under the umbrella of negative-to-zero-yield bond market. Now, the bond market has started to price in higher interest rates, which directly impacts risk appetite, certain kinds of business activity, and funds flows (as known as "the tide"). As a result, I think we are in a stock (or sector) picker's market. There's always a party somewhere, but investors better know what they own and why they own it, because only the best stories (or sectors) can attract and hold attention when "the market" isn't cool.[urcr_restrict]
If the market is the ocean, with its ebbing and flowing tides, the stocks I'm favouring these days are the lakes and rivers that feed into it. They have lives of their own and are somewhat isolated from the tidal forces moving the large caps. Got lithium? Happy days. Gas or oil? Not too shabby. Uranium? All smiles. Every sector/stock has a story and I've just listed three sectors that have outperformed over the last month or two. In my universe, uranium and lithium both rank highly on the "favourites" list of the investment banks. Energy stocks remain cheap, which reflects a lack of market conviction in the staying power of these oil and gas prices, but I remain a bull on the "old school" energy sector given the value proposition that it represents. You can wish upon a star all you want, but the world needs more energy every year and, like it or not, something like three-fifths of that energy currently comes from hydrocarbons (that's excluding coal). While the supermajors scale back, something has to fill the production void. I wouldn't count on state-owned enterprises to grow production much, so where does the needed oil come from? I'm not sure, but I'd suggest that the responsibility has to at least partially fall on the shoulders of the mid-caps and the juniors, right? It's something to ponder. Innovation and discovery are two great drivers of value and it's where junior companies can really excel; regardless of which way the market tides are flowing.
I'm not sure that the names I'll talk about below will include many new ones, but the passage of time has brought some names right to the forefront in terms of my level of interest. Most of what I own has the potential for positive catalysts in the short term, with what I think are reasonable risk-reward balances.
Lithium
Lithium gets to go first because it's the hottest. Lithium carbonate prices continue to hit records and I'm holding two companies to play the sector. The first is Lithium Americas (LAC.TO, last at $36.68). LAC is well-covered and well-owned, and I own it for exposure to its first-class lithium operations in South America and its Thacker Pass lithium project in Nevada. As it stands today, LAC looks cheap based on its South American operations alone. Thacker Pass is at a bit of a "free call option" at this point and, as the largest lithium deposit in the United States, it could represent a windfall if given the go-ahead. There's been some opposition to the project, but things seem to be leaning in LAC's direction. It's either approved, or the U.S. will loses a chance to begin countering China's dominance over the EV supply chain -- place your bets. I'm not trying to be a hero here, so I'd probably stop myself out of this if it fell much below its 50-day moving average, which is somewhere around $35.
My other lithium name is Critical Elements (CRE.V, last at $1.71). While it's true that the company is still waiting for its provincial permits in Quebec, there has been a lot of chatter about "EV supply chain" projects in la belle province and CRE is, without question, the cheapest, most advanced, best-return hardrock project out there -- with all of its boxes checked. If I was a betting man -- which I am -- I'd bet that little CRE makes its way onto the front page of a business section or two between now and Christmas. I say this because approvals can only take so long and management has had a lot of time to lay the groundwork for what comes after the permits are in hand. I'm pretty optimistic when it comes to CRE these days, even if I might be a touch nervous about the broader market.
Uranium
I'm not going to make the case for nuclear here. Oliver Stone just did that. Only an illogical or irrational person can argue against the benefits of nuclear power on an empirical basis, and that reality continues to express itself in countries like China, Japan, India, Turkey, Finland, Korea, and the United Kingdom to name a few (all are building and/or have recently commissioned new reactors). Even Germany has started to see the light. Recent events continue to highlight the vulnerability of U.S. uranium supply, as much of it is sourced from the downblending of "secondary supplies" (warheads being decommissioned) from, you guessed it, Russia. Recall that nearly 40% of U.S. uranium used in reactors comes from Russia and Kazakhstan. Hmmmm, maybe it's just me, but that seems like an uncomfortable situation.
I fully believe that nuclear scale-up will be necessary to have any chance at decreasing global CO2 emissions and it feels like the market is starting to get that. In the uranium sector, I own Nexgen (NXE.TO, last at $5.25), Cameco, Sprott Physical Uranium Trust (U.UN, last at $15.20), Denison Mines (DML.TO last at $1.58), Global Atomic (GLO.TO , last at $3.67), Energy Fuels (EFR.TO, last at $8.03), and Canalaska (CVV.V, last at $0.495) in that order. Peruse them at your leisure, but in a sentence here's a place to start:
Nexgen - Arrow is a world class deposit in the Athabasca Basin with ridiculous economics, and it is a "must-own" for any miner that is serious about mining uranium and making money doing it. Arrow is a King Maker deposit, full stop.
Cameco - It's the "go to" name for generalists. It's as simple as that.
Sprott Physical Uranium Trust - I figure that if I'm long uranium, I should probably own some actual uranium. Better yet, I'll let the good folks at SPUT take care of the uranium for me, while I just own shares in it.
Denison Mines - Its Athabasca Basin deposits and processing capacity -- with an emerging in-situ recovery angle -- makes Denison the runner-up to Cameco when it comes to "go-to" uranium names. Arguably DML has more torque than CCO, and I love torque when I'm bullish.
Global Atomic - The next uranium deposit that I know of that is going into production. GLO has a great asset in Niger, and reminds me of Manta Resources last cycle, though that name was in Tanzania and close to a park if I recall. Mantra sold for over a billion dollars to the Russians which is probably a fair starting price if someone was going to take a run at GLO, which I think happens some day.
Energy Fuels - It's the best pure-play on U.S. uranium and an evergreen champion for the U.S. industry. If uranium really gets going, the U.S. investors love EFR and I want that U.S. exposure, even if the assets aren't as exciting as some others out there.
Canalaska - A tiny position for me at this point, but I'm going to perk up when they start drilling again this winter. CVV has about a $50 million market cap based largely on its highly prospective West McArthur project in the Athabasca Basin. CVV has some serious in-house expertise and its recent blind hit of 9m of 2.4% U308, hosted in basement rocks 100 metres below the unconformity has me paying attention. Naysayers will say that it's too deep, but the reality is that it won't matter if it's big enough. CVV was either very lucky to hit on the blind target they drilled earlier this year or the target is very large. When the drills start up again with a proper directional drilling setup, CVV should produce some interesting results as they step-out from known basement-hosted mineralization towards where the mineralized structure intersects the overlying sandstone (a prime exploration target as well). The story is high risk, but could change quickly, so it's best to be paying attention.
Oil
Let's just all agree that the market kind of jumped the gun when it predicted oil was "over". It's clear that we're going to need to find more oil for some time to come, and someone is going to need to find it. The multiples are low, the free cash flow yields are high, and the discipline is remarkable in the sector. I'm not sure why the market doesn't want to believe that higher energy prices might be here for a while, but with many companies trading with >25% free cash flow yields, my sense is that the bulls haven't even arrived yet. Q4 will be telling as winter hits and the U.S. looks to start refilling the SPR.
Cardinal (CJ.TO, last at $7.47) gets to be first because it’s the easiest one to talk about. The monthly dividend is going to 6c (starting in October) and they’re already talking about increasing it further as CJ continues to pay down its debt at a rapid pace. With a mid-9% yield, an industry-leading annual decline rate of about 10%, scope 1 negative carbon emissions, and $1.4 billion in tax pools, CJ is an easy hold for me. They might even bump the dividend again in Q4 depending on the oil price. CJ's drilling in new plays has yielded better results than expected, so this story could get a growth boost if that continues. CJ is my sleep-well-at-night-and-get-paid oil dividend stock and I like it a lot.
While I marvel at my own patience in waiting for Tenaz Energy (TNZ.TO, last at $1.69) to get a deal — hopefully by year-end — my other favourite minnow put out some very interesting news this week. On Tuesday, Tag Oil (TAO.V, last at $0.465) reported that it has secured the rights to develop the Abu Roash F horizon in the Badr oil field, located in Egypt’s Western Desert. The Abu Roash F (ARF) is the primary source rock for the oil found in much of this particular basin. It is a dolomitic limestone which management compares to the Eagleford in Texas in terms of rock properties. The Badr oil field consists of a series of stacked pay intervals divided into horizons using the alphabet. The “ARF” horizon is apparently what caught TAO's eye some time ago. Armed with the analysis of existing data and decades of industry experience, management believes that the ARF is amenable to development using horizontal drilling and multi-stage fracture stimulation… potentially unlocking a significant oil resource in a field that already has all of the infrastructure (built by Shell) in place to produce it. Having infrastructure in place means that if TAO is successful, it can get oil onstream and start cash flowing very quickly from this asset, which is a big positive.
TAO’s plan isn’t a total science experiment. Over the years, a handful of historical vertical wells in the field were completed in the ARF zone (none were fracked), testing at rates that TAO characterizes as "considerable". As a result of the tight nature of the ARF zone, these historic wells declined quickly, just as vertical completions in similar zones in North America did until industry figured out how to develop these kinds of reservoirs. Given the proven existence of mobile oil in the ARF, combined with reservoir properties that compare well with known resource plays here at home, I like TAO’s set up here quite a bit. Anyone who knows the oil industry and this team will recognize that the company could be onto something material with this play, but time will tell. I continue to add to TAO at these levels as I’m not fussed about the dimes when I think dollars are on the table.
To be sure, there are a lot of details yet to be flushed out for TAO (PSC terms, scale of the resource, timing of operations, potential well economics, and budget to name a few), but my trust in management’s ability means that I’ll just sit back and let them execute. In this market I’m not sure that shouting from the rooftops does much, but count me as shouting from the rooftops on this one. There’s a marketing roadshow starting next week and management will be out telling the story for the first time. I think that the theme of exporting North American knowledge abroad in order to squeeze more oil out of proven fields -- utilizing existing infrastructure -- is very good one. Here's hoping that Abby has a tiger by the tail again.
That was a lot of TAO, but there are two other junior exploration stories that I like given that both are imminently drilling on material oil prospects. They are i3 Energy (ITE.TO, last at $0.35) and Eco Atlantic Resources (EOG.V, last at $0.49). ITE is in the North Sea and its Serenity well (currently drilling, 75% ITE working interest) is fairly low-risk as far as exploration wells go. ITE is looking to prove a theory that a thin oil column encountered in a previous nearby well is in fact connected to a much larger oil pool that hugs the edge of a structural high just to the north. The company's interpretation makes the drill target look pretty straightforward and, if successful, Serenity would represent a major discovery and growth wedge for the company. ITE even pays around a 5% yield from its existing ~20,000 boepd of North American production, so Serenity is a bit of a free call option. The other one, EOG, has no production, but it has a lot of exposure to emerging hydrocarbon fairways in offshore West Africa. In the near-term, EOG's most relevant asset is its Block 2B exploration target in the nearshore of South Africa's northwest coast. The company is about to spud the Gazania-1 well in order to test its theory that a historical down dip oil discovery extends substantially up dip, potentially holding some 300 million barrels of oil. EOG has a 50% interest in the well and it's the kind of well that will attract attention if it hits, maybe even before. On success, I think either stock could see a step change in valuation, so I own them both in moderation. And yes, I still own some Africa Oil (AOI.TO, last at $2.53) as I think it's just too cheap not to own.
Gas
My main gas names are Arc Resources (ARX.TO, last at $17.38), Advantage Energy (AAV.TO, last at $10.06) and Southwestern Energy (SWN.US, last at $6.78). I own ARX for value, quality, condensate exposure, and western Canadian gas exposure (ARX is well-positioned if Shell gives the nod to building out Phase 2 of its west coast LNG project). AAV, same old. We could see carbon capture news out of Entropy soon-ish, but in the meantime the company is cheap relative to peers, is buying back stock like crazy, and its debt is evaporating in real time. SWN is simply a way for me to play the U.S. LNG theme. SWN hasn't had much respect for a long time, but it used to be well-liked. I bet a few more quarters of $8 nat gas would do wonders for SWN, especially as its horrible historic hedges continue to roll off.
Gold
I still own Anacortes Mining (XYZ.V, last at $0.56) as a play on a very nice gold resource in a very favourable region, but it's not making me any money, nor is anything in the sector. One that I'll flag here with results expected to start rolling in the next month or so is Goliath Resources (GOT.V, last at $1.27). GOT's Golddigger property is just off the infamous Red Line in B.C.'s Golden Triangle and they have been doing a lot of drilling with descriptions of visual mineralization. Assays have been slow in coming, but last year's results showed good grade consistency. Now GOT is showing real tonnage potential at its "can't miss" Surebet discovery (I'm not sure that many, if any, holes have missed the zone, which bodes well for any future miner). Despite the stink on gold right now, the contrarian in me likes to have something like GOT in the mix.
Nickel
Premium Nickel (PNRL.V, last at $1.58) stumbled out of the gate, but so did the whole market. Since the business combination closed, I've seen more information about this asset package (the Selebi and Selkirk Mines, both in Botswana) and I like it a lot. This looks to be a world-class nickel sulphide asset already and the EM targets identified in borehole geophysical surveys of old holes could ultimately take the tonnage potential here into the high tens of millions of tonnes. There are some big step-out holes pending, so keep an eye out for those. If PNRL can prove that those EM plates correlate with unmined sulphide ore, it'll be happy days. Remember that PNRL has infrastructure in place that would cost hundreds of millions of dollars to replace today and its deposits are fully permitted for mining... that's a rarity.
I own more names, but this covers the ones that I think make for relatively easy digestion with a dash of spice. I think that most of these names have the potential to attract market attention even if the broader tape is a bit squirrelly, but I'll see if that's the case in due course. Good luck out there in what's turned into a pretty tricky market.
Happy hunting.
[/urcr_restrict]
AAV.TO|AOI.TO|ARX.TO|CCO.TO|CRE.V|CVV.V|DML.TO|EFR.TO|EOG.V|GLO.TO|ITE.TO|NXE.TO|PNRL.V|SWN.US|TAO.V|TNZ.TO|U.UN.TO|XYZ.V
Disclosure: The following represents my opinions only. I am long AAV.TO, ARX.TO, CRE.V, EOG.V, TAO.V, TNZ.TO, AOI.TO, SEI.V, NSE.V, and XYZ.V (Image credit to Markus Spiske on Unsplash)
A little over a year ago, I drew on the wisdom of Kenny Rogers with good results, but remember that The Gambler tells you that you need to know when to hold 'em... and when to fold 'em. If I've learned anything from my trips to Vegas over the years, it's that the tables will always teach you about the importance of humility should you ever get too confident in your ability to predict random future events. To that end, I've played shoes of blackjack where it literally didn't matter what I did; I just couldn't lose. Likewise, I've played other shoes where, no matter how 'skillfully' I played, I just couldn't win. Trust me when I say that coming to the end of the "can't lose" shoes always has you thinking about how much more you should've/could've bet, while the "can't win" shoes will make you wonder how it's even possible that a stack of random cards could be so cruelly organized. To that end, ask any blackjack player about the concept of "streaks" and I guarantee you'll get some stories. The fact that streaks happen doesn't somehow fly in the face of statistics, but when they do happen, they definitely feel "unnaturally" good or bad... and they will evoke all of the emotions from glee to despair. I bring this all up because, from the 2020 lows, the market was one giant "can't lose" shoe. It didn't really matter what you owned coming out of those market lows from two years ago... a monkey could've made money throwing darts in that market. Heck, people were paying $300,000 for cartoon pictures of monkeys (not even real ones) before the streak broke. It went something like this... First, the meme stocks broke, then the SPACs and unicorns, then crypto, then just tech stocks in general, then the indexes -- and now, the market malaise has finally caught up with energy and commodities. As a group, energy stocks are down around 25-30% from their June highs, while most metals stocks (copper, uranium, lithium, take your pick) have been nearly cut in half since their April highs. That's likely an unfamiliar feeling for folks like me who have benefited from the resilience of commodities since the broader market peak six months ago, which brings me right back to where I started this paragraph -- humility. Things had become pretty heated in the commodities square, and pullbacks are inevitable, but it seems like it's probably a good time to take stock of where the market stands.[urcr_restrict]
In hindsight, Dr. Copper started dropping well before energy stocks showed any signs of weakness -- and copper did earn its nickname as a result of its predictive abilities when it comes to the state of the global economy. At this stage, I can't even guess if oil or copper are going to go up 20%, or down 20%, or maybe both, in the coming months. Sure, I can make a lot of fundamental arguments for why oil should be "higher for longer" (and/or how Russia could squeeze it if they chose) and why copper will continue to be in high demand for the "green transition", but that's all in the market already, right? So when your market narrative doesn't line up with what the tape is saying, it's time to reevaluate your narrative, not to assume that the tape is wrong (even if you think it might be). The tape says that the market is worried about a recession... heck, I read an article over the weekend suggesting that the U.S. is already in recession. What that actually means in terms of the physical oil or copper markets is hard to say, but the impact of that worry on short term sentiment and money flow is akin to seeing a "check engine" light flashing on your dashboard... it puts you on edge -- and you'll probably be less likely to rev the engine too hard until you figure out why that caution light is flashing.
Despite trading at what I would consider "very cheap" multiples (even at lower commodity prices), the hard-asset appeal of energy and commodities (including gold) is tarnished in the face of a hawkish Fed, a strong U.S. dollar (check out the DXY chart), and now a feared recession. In addition to my "don't fight the tape" comment from late May, I'd add, "never underestimate the ability of the market to overshoot to both the upside -- and the downside -- when it comes to its embedded herd mentality". The 1970's saw wild swings in commodity prices throughout the decade and I expect nothing less from the 2020's. Arguably, a brief recession would set the stage for the next run in the "green-transition-linked" commodities, but that could be in two months, or two years. With the ECB and the Fed hellbent on getting inflation "under control", they are likely to plow ahead until they break something, which would set the stage for them to slow down, pause, or even reverse course. To me, none of this changes the fundamental appeal of future-facing commodities, but it does mean that my loose (aka "beta") bets are off the table. Generally speaking, I'll play fewer hands, but will know them better, and I'll keep a healthy stack of chips in my pocket waiting for a better narrative to emerge.
One of the nice things about running my own money is that I don't have to be fully invested all of the time. Over time, I've found that my best returns have come from making bets that others aren't making, which usually includes 1) small-cap "special situations" and 2) buying when everyone else has pretty much given up on a sector, company, or better yet, the market. A few days ago, a friend pointed me towards a Globe and Mail article that was titled something to the effect of, "Canadian energy stocks are a no-brainer". Hmmmmm... that's odd, I thought they were a "no brainer" when they were trading at fractions of current levels... so can they still be a no brainer? I'm not sure, but it makes me uncomfortable to read that in the Globe. Don't get me wrong, the Canadian energy stocks do look really, really, really cheap. Too cheap. It's spooky (**spooky enough that while I was in the process of writing this post, oil dropped $11/barrel!**) When it comes to be broader market, sure, some stocks really do look oversold to me, so I could envision a bounce, but then what? Does the market just keeping chugging along as cash keeps flowing into it on the back of higher liquidity and strong earnings growth? Where is that money/liquidity going to come from if everyone is worried about a recession? And does anyone really expect strong earnings growth in the stocks that make up the indexes? Would earnings growth be rewarded or would it just provide a chance to sell the rally? Hmmmm. A lot of investors have lost a lot of money in a lot of sectors at this point and the easy-money market appears to have left the building. This isn't to say that money can't be made in any market, but I think that at this point I'm more likely to get paid for "being right" as opposed to just "being there". Bottoming is a process; and there's a lot of damage to repair before people start thinking about how much money they can make again, especially while the losing part is still so fresh.
A year or two of market interest isn't enough to fill the materials and energy holes that a decade of neglect has created, so I'm going to have positive bias towards those sectors until I see some evidence of a real supply response. The balance sheets of the miners and energy companies are as strong now as I've ever seen them and they are getting stronger by the day, even at current, or lower pricing. M&A has been fairly muted so far, but a lot of companies have a lot of cash and paper deals are a relative game, so just because stocks are down, it doesn't mean that companies stop thinking about M&A to fill their development pipelines with high-return projects. Meanwhile, in Dividendland, more energy companies are likely to roll-out plans for getting money into their shareholders' pockets and one of the best ways for them to do that is by increasing, or reinstating, dividends. Not too long ago, I laid out the case for Cardinal Energy (CJ.TO, last at $7.04) and gave some ranges for where the stock would settle at varying yields and that's probably a reasonable way to look at most of the "mainstream" oils at this point. Find out what these companies are going to pay out in terms of sustainable dividends, at say, $70 oil, pick a yield that is high enough relative to the market's blue-chip yields, and calculate the associated share price. When it comes to the smaller caps, I think that discovery and growth will still have the ability to attract market attention in names with good old-fashioned "catalysts" (drill bit discoveries, mergers, take-overs, asset acquisitions, operational milestones, etc.), but I'm fairly selective on those.
Tenaz Energy (TNZ.TO, last at $2.10) and Tag Oil (TAO.V, last at $0.32) both made the cut in terms of what I am willing to pack deep in my saddlebags, as I lead the stubborn mule that is my portfolio across a raging river, in the middle of a thunderstorm, at midnight. Both names have essentially no correlation to the market and, as would-be acquirers of assets, they should benefit from the negative price action in the energy square. Other less-travelled international energy stories that I will keep toes into include Africa Oil (AOI.TO, last at $2.03), Eco Atlantic (EOG.V, last at $0.51), Sintana Energy (SEI.V, last at $0.10), New Stratus (NSE.V, last at $0.68), and i3 Energy (ITE.TO, last at $0.365). All have catalysts expected in H2 2022, mostly drill-related, and I think that the catalysts are all big enough to attract attention in a tough market. I guess we'll see. I've still got my Anacortes Mining (XYZ.V, last at $0.80) as I wait for the day that the market realizes that high-grade oxide gold projects with multi-million ounce underlying sulphide resources -- in mining-friendly areas -- don't grow on trees. For now though, it's a dormant houseplant. I'm still keeping a candle burning for Critical Elements (CRE.V, last at $1.29) and its high-quality Rose lithium-tantalum project in Quebec, but the flame is being buffeted a lot by market winds... and they are still waiting for provincial permits. Meanwhile, North American Nickel (NAN.V, halted, last at $0.58) has become a favourite joke in the office as "the best performing stock in the market". That's because it's been halted since the middle of February as the company finalizes its merger/go-public deal with privately-held Premium Nickel. I know that base metals aren't cool right now, but this nickel deposit is somewhat special and I think that it's one that is worth keeping tabs on given its potential for both grade and scale. Nexgen Energy (NXE.TO, last at $4.50) is still the go-to for me when it comes to uranium, but it's anyone's guess as to when the market cares on that name again as the chart, like a lots of charts these days, is holding onto its lows by its fingernails. Lastly, Advantage Energy (AAV.TO, last at $8.04) is still an office favourite for its emerging CO2 capture prowess and gas-heavy production mix. Folks in our office prefer natural gas stocks over oil stocks heading into winter and my three favourites in Western Canada are AAV, ARX, and BIR.
So, for the most part, I'm in a waiting mode these days. Until I see signs that the resource stocks and sectors that I like have put in a bottom, retested that bottom, and are starting to exhibit signs of increased money flow/improved sentiment again, I'm in no hurry to deploy any of the cash that I've raised. The ECB and the Fed still have some rate hiking to do, there's some economic/recession worry yet to roll through the market, and it's not clear to me when this pain party will be over. Past market corrections like this have taught me that it's best to just take a step back and give the market some time to find its footing again. There's a reason why they say "don't catch a falling knife" -- it's because you're simply better off to stay clear and watch it hit the floor. At that point, you can just calmly pick it up, dust it off, and get back to work. To me, this idea that markets ebb and flow like runs of cards is a freeing thought, because it means that if you don't like the market you're in, all you have to do is wait for a different market...
Happy hunting.
[/urcr_restrict]
AOI.TO|ARX.TO|BIR.TO|CRE.V|EOG.V|ITE.TO|NAN.V|NSE.V|SEI.V|TAO.V|TNZ.TO|XYZ.V
Disclosure: The following represents my opinions only. Assume that I am long every stock in this post. (image credit to Pixabay)
They say that history doesn’t repeat, but often rhymes. When it comes to the market, you see that all the time. Talk to someone who has been around for a few market cycles and you’ll often hear them reference market conditions or events from decades long past in order to put current events in context. Now, I wasn’t even around in the early seventies, but anyone who knows anything about gold and commodities will tell you that it was a remarkable period for “stuff stocks”. I found this summary on the commodity boom of the early seventies online a couple of weeks ago and I think it’s definitely worth a read if you’re at all a student of the market: link to the paper here.
Along the same lines, there’s a great interview with Jeff Currie from Goldman Sachs on the Odd Lots Bloomberg podcast about what he calls the “Volatility Trap” (search for that at your leisure). Currie cites a few past commodity bull markets, including the 1970’s, and goes on to describe the “capital light” decade that has set up the market that we find ourselves in today. As we stand on the threshold of the Great Energy Transition, investors in general are still grossly underexposed when it comes to energy and commodities. This is because investors, and banks, have little faith in the earnings sustainability of “old economy” stocks, which means that the capital needed to ensure the adequate supply of the commodities of tomorrow is hesitant to commit to the long term investments needed today. Currie suggests that until this attitude changes, price backwardation (near term prices being higher than future ones) and shortages will persist, which makes for a strong case for commodities.[urcr_restrict]
Seeing strength in commodities and gold prices in conjunction with a strong DXY (the U.S. dollar index is floating around 100) should raise eyebrows in general, as it suggests that the commodity price strength has nothing to do with U.S. dollar weakness. While the dollar is maintaining its strength relative to other currencies, it is losing its purchasing power relative to a broad basket of commodities as too many dollars (from all around the world) chase too few goods in a world that just saw the biggest step change in global money supply, ever. Before all is said and done, we might see some real mania in commodity stocks by the time this cycle comes to an end. A commodity investor can always hope, right?
I’m not going to drone on about macro views, but I really encourage people to read more, listen more, and study more about past market cycles, what caused them, and how they resolved. I would argue that the shock effect of the oil embargo of 1970 closely resembles the one that we are seeing today as a result of the Russia-Ukraine conflict. In both cases, the sudden loss of oil supply sent energy prices soaring, with ripple effects throughout the economy given the “embedded” nature of energy in, well, everything. The oil shock of the early seventies ended up setting off a massive energy investment cycle in OECD countries as they looked to establish some sense of independence from Middle Eastern supply. For a variety of related and unrelated reasons, things like copper, gold, fertilizer, and soft commodities (food) all ripped higher in the years that followed, which led to some very hot inflation numbers throughout the decade.
In order to bring persistent inflation under control, Paul Volcker was eventually appointed as the Fed chair in 1979 and jacked interest rates up to 20% by 1981; from 11% just two years prior. That caused a lot of pain for people and companies that were carrying too much debt on the back of too few earnings. Unemployment spiked, and people walked away from houses with mortgages that they couldn’t afford. Now, given that Fed chair Jerome Powell considers Volcker as a bit of a hero, folks would probably be wise to consider the endgame for the Fed this time around. The market is already prepared for the Fed to implement a 50 basis point hike in May, followed by steady “data dependent” hikes over the balance of the year. Those carrying large debts or buying stocks on margin should consider themselves as having been put on notice at this point. I don’t say that to fear-monger, but rates have only one direction to go in the near-term, and that is “up”. Whether it’s a soft landing, or a hard landing, I don’t know, but the Fed has pointed the nose of plane downwards and eased off the throttle, so fasten your seatbelts.
Just because rates are going up, it doesn’t mean that the sky is falling — but it probably means that most investors are going to find the sledding a lot harder now. With a lot of supply chains still reeling from the effects of covid, adding rising food, energy, and materials costs to the mix isn’t making it any easier for businesses or consumers. The energy shock that the western world is seeing has lit a fire under the (extremely-materials-intensive) decarbonization/energy transition movement. This is where things like lithium, copper, nickel, manganese, uranium, vanadium, and rare-earth elements really start to look like secular investment trends as opposed to just cyclical commodity trades. Meanwhile, with most analysts now calling for a protracted battle for the future of Ukraine, the energy trade seems likely to have some legs to it. Oil closed at US$106/barrel and natural gas at US$7.30 on Thursday. OPEC is telling the world that they cannot fill the hole left by the loss of Russian exports and the U.S. is pledging to ship as much LNG as it can to Europe for the foreseeable future. Lithium is in the stratosphere, copper is hanging out at $4.70/pound like it’s no big deal, the nickel market is on tilt, and uranium, rare-earths, vanadium, and manganese look like they are not far behind. So, when I say that I think most investors are going to find the sledding a lot harder, I only say that because a lot of investors only have a vague understanding of commodity stocks and most still don’t appreciate why they might want to bulk up (I’m talking a few percentage points) on the sector in light of the changing market landscape. And, while gold is quietly being taken along for the ride, even the gold bulls barely believe in their gold stocks with gold at US$1975 per ounce. The gold and commodity squares are very small ones relative to global bonds and equities, so even minor allocation changes by large asset managers will feel like a tsunami of buying if that’s what comes to pass. Dare to dream.
When I look at what I own, it covers a broad swath of the commodity complex. The more I read and see, the more I find this to be a very unique market. As in, this could be a “seventies” kind of commodity market for papers to be written about in the future. I’ll try to cover a lot of bases in not a lot of words as there’s a lot to think about out there.
Oil
Oil is on everyone’s lips. Believers are being manufactured daily by the buybacks, rapidly improving balance sheets, earnings growth, and free cash flow yields offered by the oil stocks. Even with China in its own version of covid lockdowns, oil has barely budged. Summer driving season in North America is coming and the Russian “situation” isn’t going to improve any time soon (that is a huge hole to fill). At this point, I haven’t met a lot of oil stocks that I don’t like. I happen to currently like Cardinal (CJ.TO, last at $7.23), Africa Oil (AOI.TO, last at $2.27) and Yangarra (YGR.TO, last at $2.92) the best, but that’s just me trying not to pick what everyone else already loves. CPG, TVE, BTE, WCP, MEG, you name it… I think they’re all priced for about $80 right now, so every day above $80 is a good day — and every day over $100 is a very, very good day for holders of oil stocks. I’d throw an honourable mention in here for Vermillion (VET.TO, last at $27.47) because of the company’s direct exposure to European energy markets. I’m not sure if that’s going to end up being a good thing or a bad thing in the end (“windfall tax” risk?), but right now, VET looks set to mint a lot of free cash flow, for years to come, based on strip pricing.
CJ is easy because it’s about to start paying a dividend and should have a lot of room for increasing it if oil stays strong. CJ is Scope 1 negative in terms of CO2 emissions, so it’s hard to argue with its “low-decline + ESG” chops. CJ, not typically known for new discoveries, has been showing success in new areas as of late that are worth keeping an eye on. CJ also has one of the bigger tax pool holders out there, with $1.2 billion of tax loss carry-forwards. CJ is almost as clean as a story comes and its top two holders are smart cookies (Murray Edwards and Eric Nuttall).
AOI is very simple for me. I listened to their year-end call not long ago and came away with the following in terms of value… Kenya is worth a buck. The giant offshore Namibia discovery (via Impact Oil and Gas) is worth a buck. The rest of the minority-equity portfolio is maybe fifty cents right now, but that could grow with drilling. Offshore Nigeria is worth no less than two bucks, and maybe as much as three or four bucks. That means that AOI is trading at half of my most conservative estimate of its value in an $80 oil world. As a result, I see little reason not to own it given its first-class management team and the Lundin Group’s global resource prowess. I think the market wanted a bigger dividend and was maybe surprised about some of AOI’s hedging losses, but that’s water under the bridge now and oil is still over a hundred bucks, so I’ll own it while it's on sale. I do own a little bit of Sintana Energy (SEI.V, last at $0.145) and Eco Atlantic (EOG.V, last at $0.58) as side-bets on offshore Namibia and South Africa exploration respectively. SEI is an “area play”, while EOG for me is specifcally about the Block 2B target in South Africa that should be drilled in the back half of this year.
No change in view for me when it comes to Tenaz Energy (TNZ.V, last at $2.40) or Tag Oil (TAO.V, last at $0.295). I’m waiting very patiently for both to capture deals. Both are clean conduits for assets with very strong financial and market backing when the time comes. Oddly, as buyers and/or conduits of energy assets, both of these vehicles could arguably benefit from an oil price drop. I would be shocked if both of these companies haven’t secured deals by the end of this year. When that happens, I think I get a step-change in value. That’s my thesis and I’m sticking to it.
Gas
Two names Advantage Energy (AAV.TO, last at $10.25) and Arc Resources (ARX.TO, last at $17.90) dominate my gas exposure. For me, ARX is easy to own right now. It consistently screens as the “cheapest of the biggest” gas-weighted producers despite the fact that it is very well managed, has excellent condensate exposure, and high-quality gas assets. ARX has an active buyback in place, pays a modest dividend, and may have some “overhang” as the market wonders what ARX is going to do with respect to its somewhat-capital-intensive Attachie development. For value-focused fund managers panicking because they don’t have enough energy exposure, I think ARX looks like a port in a storm. It’s familiar, its fundamentals are defensible as an asset manager, and it’s highly liquid. It’s an easy holding for me at these levels.
I’ve made my case on Advantage before, but since then something BIG has happened. AAV recently disclosed that Entropy’s financing partner from the end of last year and it turned out to be Brookfield Renewable Energy Partners. It doesn’t change the fact that the initial deployment of Entropy’s tech at Glacier hasn’t happened yet, but it is like being called up to the NBA from your freshman year and getting a personal endorsement by LeBron James before your first game. No pressure. That’s maybe a little dramatic, but Brookfield is, without question, recognized as “smart money”, maybe the smartest money, and their interest in Entropy should be a wake up call for anyone thinking about how to capitalize on the nascent carbon industry. If Peleton can get a $50B market cap for bikes with iPads attached to them, what’s the world’s most readily deployable carbon capture tech — that makes money at a $40/tonne carbon price, and with Brookfield behind it — worth? Well today, the market assumes Entropy is worth around $300 million, and at that valuation, AAV screens as one of the cheapest gas stocks out there. AAV will be debt free this year and has an active share buyback program in place. I wouldn’t be surprised to hear people speculating on dividends come this fall. Aker Carbon Capture ASA has a C$2B market cap over in Oslo, and from my perspective the Entropy story is more compelling… hmmmm.
A quick comment on the carbon capture industry. There are two main kinds of carbon capture in the news; 1) direct air capture (e.g., giant stacks of power-hungry air-fan-suckers in Iceland) and 2) point-source capture (i.e., get the CO2 at the flue stack, before it enters the atmosphere). In my humble opinion, mechanized direct air capture of CO2 is pure folly unless you are on Mars and need the CO2 feedstock to manufacture rocket fuel. Look, the atmospheric concentration of CO2 in the atmosphere is around 412 parts per million (ppm). That means 999,588 ppm of the atmosphere is a big zero from a carbon capture perspective. Think about that for a second. Why on Earth would anyone ever spend any energy trying filter the CO2 out of the atmosphere at 412 ppm as opposed to capturing as it comes out of a gas or cement plant flue stack that is pumping out anywhere from 80,000-140,000 ppm (8-14%) CO2? To put it another way, would you rather (a) corral cattle as they come through a feedlot gate in an orderly fashion or (b) let the cows out into your 50,000 acre ranch and then go about trying to round them all up? If you chose option (b), I can’t help you. But what about the cows that escaped before you realized you shouldn’t have let them out? We should try to deal with those, right? Sure. Hmmmmm, if there was only some kind of self-replicating device that would take CO2 from the air and store it in a useable, ecological, and attractive form while only running on solar power and water… you know, like trees. There, now all you direct air capture folks can spend your time, engineering talent, and capital somewhere else. Or at least spend that time and money on planting trees and making sure they make it to maturity. Geez.
Meanwhile, the point-source capture folks like Entropy say that they can deploy a ready-to-go solution that would/could stop 90% of the CO2 from almost all existing large-scale industrial sources, starting as soon as you can get enough engineering and manufacturing talent deployed. While some climate "purists" consider carbon capture technology as an (unwelcome) “enabling” technology in terms of our continued reliance on the hydrocarbon industry, I would ask them this -- "If you could, today, eliminate 90% of the CO2 from the largest global emitters before it ever reached the atmosphere, would you?". Obviously the answer is yes. So, while the world chases down enough materials and labour to build, install, and manage enough solar panels, windmills, batteries, and power lines to electrify everything, a point-source carbon capture story like Entropy should be front-of-mind when it comes to making a difference in carbon emissions. Here's hoping that Entropy can walk the walk when Glacier starts up because I'm clearly excited by the talk.
Uranium
The stars have aligned for uranium and we have some big uranium believers in our office, myself included. Just read the news. Increased competition for LNG is pushing Japan towards more restarts, Europe is talking about restarts and new-builds, and the U.S. has recognized uranium as a critical strategic mineral (took them long enough). Recall that 38% of uranium used in U.S. reactors comes from Russia and Kazakhstan. India and China continue to build new reactors in order to try to limit coal-fired capacity and rational logic is now creeping into the nuclear debate in the context of the world’s decarbonization plans. No change for me in terms of my exposure… U.UN, NXE.TO, DML.TO, and UEX.TO, in that order. I want to own EU.V, and I’m looking hard at GLO.TO as I think it will be bought out by the Chinese at some point, but I can’t dance with all the girls all the time. This paragraph might be the shortest, but I think that uranium could be on the cusp of an epic move and it’s hard to see the price of the commodity falling much given the massive supply shortfalls which are projected by the end of the decade without new discoveries and a big injection of capital into the sector.
One “nuclear” play that has nothing to do with uranium itself that I own a bit of is NuScale Power (https://www.nuscalepower.com) via Spring Valley Acquisition Corp (SV.US, last at $10.98). I’d read about NuScale’s reactors before, but I didn’t realize it was going public until a friend pointed it out. The company focuses on a technology known as the small modular reactor (SMR) and there’s a vote to approve this SPAC deal on April 28th. SMRs are exactly what they sound like. They are small-scale, modular, nuclear power plants that can be sited in greenfield or brownfield settings. An example of a brownfield deployment would be where an existing coal-fired power plant is retrofitted with a SMR, thus eliminating coal as the boiler's heat source while saving the rest of the power plant machinery and its existing grid connections. NuScale has two cornerstone investors… the global powerhouse Fluor Corp and the Japanese government via Japan Bank for International Cooperation, who recently bought stock off of Fluor, who arguably would have held too much of the equity post-deal.
Gold
Two words. Stealth. Bull. Gold is within spitting distance of the psychologically important $2000 level and yet not many people own much of it or talk much about it. I like it. Gold bulls might not be fully convinced of the move (Charlie Brown syndrome), but the gold charts are saying otherwise. I own Agnico Eagle (AEM.TO, last at $83.01) and Barrick Gold (ABX.TO, last at $31.79) in good size, kind of like how I own ARX in natural gas… even if I’m wrong about gold, AEM and ABX are great gold companies trading at reasonable valuations. Newmont (NEM.US, last at $84.77) led the breakout and ABX and AEM followed suit. Everything else is following as well. The GDXJ.US (last at $51.03) chart looks equally encouraging, so count me as optimistic on the whole sector.
My favourite small cap pre-production play is still Anacortes Mining (XYZ.V, last at $1.45). With its 2.6 million ounce resource in Peru (capped by a 630,000 ounce leachable zone), XYZ looks very cheap relative to peers. What most excites me about XYZ is the exploration upside at depth as this fully-preserved epithermal system hasn’t been drilled since 2008 and is barely scratched below 300 metres where high grade feeders are likely lurking. Long time readers will know I’ve banged the drum on this for quite some time and haven’t made much money, but now the drill is about to turn (at long last) and I think that’s the key. The market loves drill results and I don’t think that XYZ will disappoint. Anyone who knows me knows XYZ, but most of the rest of the market has no idea it exists. Kerry Smith at Haywood recently launched coverage on XYZ with a $2.75 target, so I know he gets it, but I’m hoping that drill results will bring this one into the cool kid’s club.
I still have some Osisko Mining (OSK.TO, last at $4.52) as a high-grade, well-drilled, multi-million ounce gold deposit in Quebec. I think it’s a takeout target, but time will tell. I’ve put a modest bet on Galway Metals (GWM.TO, last at $0.54) ahead of the company’s pending resource estimate on its Clarence Stream gold project in New Brunswick. GWM has been a lot higher in worse markets, so I’m bargain hunting with it on the eve of its resource estimate in the hopes that it reignites the stock. Alamos Gold (AGI.TO, last at 11.38), Dundee Precious Metals DPM.TO, last at $7.97), and Equinox Gold (EQX.TO, last at $11.22) all met my hurdles last week for “too cheap, well managed, and liquid” for some of my pure beta exposure to gold and I’ll own them as long as they don’t bite me.
North Peak (NPR.V, last at $1.95) was a rocket for me earlier this year but has come right back to Earth recently. I’m not sure if the stock’s recent drop from $5 is based on anything real, but NPR has a very tight share stricture (and low float) and if its handful of followers go on a buyer’s strike while some aggressive sellers lean on the stock, you get a correction like the one that NPR just saw. I still own this one and am waiting to see what drilling turns up at the Black Horse property in Nevada. This could be another Allied Nevada in the making, or not, but the low share count means there’s a lot of leverage to success if it comes.
While talking about North Peak, I have to mention Rupert Resources (RUP.TO, last at $5.64) and its high grade deposit in Finland. No one cared on RUP for a long, long time; until discovery hit them at Ikkari and the stock never looked back. RUP is on the road to a >5 million ounce open-pitiable high-grade resource at Ikkari and there’s substantial exploration upside in this one on the rest of its land package, both outside of the Ikkari resource area and at depth below it. It seems like a very natural fit for Agnico to take over at some point (AEM owns a mine that is not far away, but shares many similarities… i.e., orogenic gold). The chart is very encouraging and while I don’t own it now, I’ve got my finger on the trigger. My only problem is not being able to own them all, all of the time.
Lithium
I’ve mentioned Critical Elements (CRE.V, last at $1.67) before and I won’t rehash it here, but CRE’s Eric Zaunscherb recently gave a presentation on CRE where he pointed out that CRE was trading at 0.36x NAV (the stock was at about $1.35 at the time). That looks very cheap relative to peers who average something closer to 0.75-0.8x NAV. Usually there would be a reason for that, but in CRE’s case the only reason that I can see is boredom. CRE has power lines crossing its property, good access, a partnership with the Cree First Nation, is in Quebec, and has its federal permits. The only missing piece of the puzzle is the provincial permits and I can’t think of any reason why they wouldn’t come. This project checks all the boxes and will be an integral part of the Quebec Battery Complex supply chain. European automakers prefer hard rock lithium sources over brines from an ESG perspective, so I expect CRE will get interest from someone across the pond. U.S. automakers may also has some interest in getting involved given the proximity to U.S. markets. Time will tell, but I feel like CRE is down to the short strokes with the provincial permit and that once it is in hand, it will trigger a waterfall of events with respect to financing and lithium offtake. That should make for a good re-rate for the stock, so it’s my favourite lithium horse right now.
Fertilizer
I sold my Nutrien (NTR.TO, last at $141.34) for a nice profit and as a result, Verde Agritech (NPK.TO, last at $9.40) is now my only real fertilizer exposure. I’ve written on it before, but NPK is now tossing around some gigantic blue-sky numbers. For now, the market is entranced, so I will play along. What I will say is that current events are VERY favourable for NPK. Not only does the NPK’s project represent a significant source of fertilizer in a highly agricultural region in Brazil, but it delivers an ESG drop-kick to conventional fertilizers in terms of K-Forte’s superior micronutrient content, chlorine-free nature, and slow nutrient release characteristics. This is the definition of the forefront of regenerative agriculture.
Manganese
This is the “M” in NMC batteries. You haven’t heard of it much yet, but you will in time. I have two good ways to play which I've written briefly on before… Giyani Metals (EMM.V, last at $0.42) and Euro Manganese (last at $0.38). EMM is in Botswana while EMN is in the Czech Republic. I like and own a little of both, and I expect these will require patience. This note is getting long, so read up on both for when you start hearing about manganese prices going nuts…
Vanadium
This is a neat one. Renewable power needs grid storage backup for when the sun isn't shining and the wind isn't blowing. Lithium ion batteries are a pain in the ass when they catch fire, so best it's not to have too many around each other... and their power density means they are better used in applications where size and weight matter. Enter the vanadium redox battery (aka, vanadium flow battery). Read up on those at your leisure, but they are ideal for grid storage applications. Sprott has been pitching a Physical Vanadium Trust product, like the Physical Uranium Trust, that would own the vanadium that goes into vanadium redox batteries for grid storage. In order to bring down the cost of the batteries, the SPVT would own the vanadium in a utility-scale battery deployment, but allow the user to use the vanadium metal until it was time for the battery to be recycled. Yes, that’s right, VRB’s can be recycled, because they are mostly just a tank of vanadium solution from which the vanadium can be recovered and reused at the end of life. Nothing like that exists for lithium batteries, so that’s a big plus for large scale grid storage projects. It’s something to think about. I own a little Largo Resources (LGO.TO, last at $15.38), one of the world’s only primary vanadium producers, which also plans to invest in the SPVT as part of its foray into the vanadium redox battery industry.
Copper
The world needs more copper for the green transition, full stop. So what can we develop? Arizona Metals (AMC.V, last at $6.62) and Foran Mining (FOM.V, last at $2.62) for existing deposits moving towards production in Arizona and Saskatchewan respectively. Bell Copper (BCU.V, last at $0.475) and BCM Resources (B.V, last at $0.30) for go-big-or-go-home exploration. Maybe some Hudbay (HBM.TO, last at $9.53) as a cheap producer. That’s about all I’ve got to say this deep into the note as I can't cover it all.
Nickel
Just the tickers please that this point, I know. North American Nickel (NAN.V, currently halted) is an office favourite that could be a very large nickel sulphide resource in Botswana (that’s good jurisdiction in my books). It should have results sometime in late spring or early summer. Soon NAN will represent a 100% interest project under the NAN banner, but first the deal needs to close. Watch this space. This is a very impressive nickel asset.
Magna Mining (NICU.V, last at $0.52). The microcap dark horse. If friendly partner Mitsui helps NICU along the way a little more, then this minnow could grow into a healthy king salmon. It has a good share structure, an A-team, an existing project at Shakespeare, and a mill permit. That’s right, a mill permit… in Sudbury. Anything new that is going into production is going to need a mill, right? It would seem that at least a few roads could lead to little NICU. I think this is one to watch in the nickel space for a 1+1=3 event. I say this because the CEO, Jason Jessup, has indicated in past presentations that if a small, high-grade deposit (within trucking distance) was bolted on to the Shakespeare project it could be materially accretive to the project economics. With Mitsui in the background, you've got to think there are bigger plans in the works here.
Rare Earth Elements
If anything in this post is the Easter Egg, it could be Commerce Resources (CCE.V, last at $0.28). This is the largest, highest grade, rare earth deposit in North America that has produced a proven, commercially attractive rare earth carbonate sample for evaluation by potential industry partners. The economics for this project will be impressive when they come out late in 2022 or in early 2023 and, given their critical role in permanent magnets, rare-earths are going to be very important in the green future that we are driving towards. It's a long-shot, but if CCE can catch the market's eye, there are few, if any, projects that will outshine Ashram on a comp sheet. CCE trades at around 2% of its estimated project NPV from a decade ago. The project economics will be updated with the publication of a new pre-feasibility study in Q4 2022 or Q1 2023 and I would expect that its NPV has gone up, not down. The fact that CCE has produced a saleable rare-earth carbonate should not be glossed over. That is a significant achievement and speaks to the established nature of the processing steps required for turning Ashram's mineralization into cold, hard cash.
As always, thanks for the interest and happy hunting.
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AAV.TO|ABX.TO|AEM.TO|AGI.TO|AMC.V|AOI.TO|ARX.TO|B.V|BCU.V|CCE.V|CJ.TO|CRE.V|DML.TO|DPM.TO|EMM.V|EMN.V|EOG.V|EQX.TO|EU.V|FOM.V|GLO.TO|GWM.V|HBM.TO|LGO.TO|NAN.V|NEM.US|NICU.V|NPK.TO|NPR.V|NTR.TO|NXE.TO|OSK.TO|RUP.V|SEI.V|SV.US|TNZ.V|U.UN.TO|UEX.TO|VET.TO|XYZ.V|YGR.TO
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