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Getting Exposure to the Canadian Energy Industry

With oil prices falling to 52 week lows,  energy company stock prices are following suit with their own aggressive decline.  These low prices are bound to attract value investors like a number of readers that have recently contacted me. The main theme of the questions are: “how do I obtain exposure to the Canadian energy sector?”

One thing to clarify, any investor who has exposure to the Canadian stock market index has exposure to the Canadian energy sector. Approximately 25% of the TSX index are energy companies.  But what if you want  concentrated energy exposure?  There are a number of ways to get exposure to the energy index, they range from easy to a little more involved.

Energy Sector Investment Options

1. Energy Mutual Funds. The easiest method perhaps it to call up your favorite bank and ask them for a mutual fund that invests in the energy sector.  However, sometimes the easiest choice isn’t the best long term solution.  Studies have shown time and time again that mutual funds perform poorly over the long term.  In other words, most funds charge high fees to under-perform the index.  As you can see, I’m not a fan of the mutual fund option.  Avoid if you can.

2. Energy Sector Index ETFs. For investors who are willing to take matters into their own hands with do-it-yourself (DIY) investing with a discount brokerage (my comparison of brokers), ETFs are an easy and cost efficient way to get exposure to a particular sector.  Here are some ETFs that cover the Canadian energy index.

  • XEG The iShares S&P/TSX Capped Energy Index ETF is perhaps the most popular with the highest liquidity. Out of their 58 holdings,  their top five are Suncor, Canadian Natural Resources, Cenovus Energy, Encana and Crescent Point Energy.  Although the most popular energy ETF, it’s also the most expensive with a MER of 0.60%.
  • ZEO The BMO S&P/TSX Equal Weight Oil and Gas ETF has the second highest volume of traded shares.  This one is more concentrated with only 16 holdings.  The top 5 holdings are TransCanada Corp, Pembina Pipeline, Enbridge Inc, Imperial Oil, and Encana Corporation.  This one also has a hefty price tag of 0.55%.
  • HXE Horizons S&P/TSX Capped Energy Index ETF has the lowest volume of the bunch, but also the cheapest with a MER of 0.35%.  It follows the same index as XEG with the same holdings, but with a much lower annual fee.

3. Buying Individual Companies.  This third option of buying individual stocks is for the investor who is willing to take on a little more risk and has more time to manage their portfolio.  As a dividend investor, I typically buy companies that have a reasonable payout ratio,  a long dividend history, and a corporate mandate of increasing their dividend when possible.  A number of companies in the energy index fit the bill such as Suncor, Canadian Natural Resources, TransCanada Corp, Enbridge, Imperial Oil and Ensign Energy.  Here is an article explaining when to buy dividend stocks.

Those are some of my ideas on getting exposure to the Canadian energy sector.  What are your thoughts?  Have you been buying during this energy correction?

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FrugalTrader About the author: FrugalTrader is the founder and editor of Million Dollar Journey (est. 2006). Through various financial strategies outlined on this site, he grew his net worth from $200,000 in 2006 to $1,000,000 by 2014. You can read more about him here.

{ 12 comments… add one }
  • DanielC October 20, 2014, 12:13 pm

    Thank you for the post FrugalTrader.
    I have purchased XEG and it has gone down nearly 20% in the last 2 months. Is a sign for folks interested in the CAD Energy sector? This could be a significant margin of safety to go long in either ETF, for the long term.
    I know that I will be putting more $ in it.
    Cheers

  • Alan W. October 20, 2014, 2:27 pm

    This is a very good list for an energy Neo-phyte such as myself. Would “Energy” funds also look at Electrical Power providers (if they were suddenly un-nationalized), I wonder? Are there private Wind companies and Solar? I just don’t know, but it would be interesting to know.

  • FrugalTrader FrugalTrader October 20, 2014, 4:05 pm

    Alan, electrical providers would fall under the category “utilities”. There are a couple of ETFs that cover that sector as well. Here are a couple of Canadians ETFs off the top of my head.

    BMO – ZUT
    iShares – XUT

  • SST October 20, 2014, 9:07 pm

    There is a fourth avenue of energy sector investment: Private Equity.

    The three options listed are all, first and foremost, investments in stock markets. Private equity side-steps these markets and places your money directly in the energy companies themselves.

    By legal definition these investments are “high risk”, but many very solid, secure, and mature companies exist and are almost always more profitable to the investor than their stock market counterparts.

    I am invested in a private oil & gas management company as well as direct ownership of oil wells. I have eyes on a third ‘energy acquisition’ private company, but have yet to pull the trigger.

    @Alan — yes, there are definitely private wind and solar companies. In which province do you reside?

  • DanielC October 21, 2014, 3:22 pm

    SST could you provide some info’ on Private Equity in the energy market? (how to access it, where etc).
    Cheers

  • Jeff W. October 22, 2014, 3:24 pm

    Very helpful post Frugaltrader!

    For the last couple of days, it has seemed like the energy sector stocks had recovered or at least was starting to.

    Apparently, they have taken another hit today. Time for me to stock up on some. :)

  • Al October 22, 2014, 4:03 pm

    Yeah agreed, SST how/who/where can I get private direct ownership of oil/gas wells?

  • Travnik October 22, 2014, 7:38 pm

    SST you have peaked many ppl’s interest. I’m curious of the ones you’re actively involved as well as the other one you’re considering? What kind of numbers are we talking here from your experience?

    Frugal this is a great post as I have been contemplating this very same thing as a buying opportunity for a long term investment/investor.

    Cheers!

  • SST October 25, 2014, 12:20 am

    Great to see all the interest in Private Equity!

    To address everything in one fell swoop, there are basically two, maybe three, avenues to get into Private Equity: i) direct investment in the actual company, ii) invest in Exempt Market products, iii) invest in PE funds/stocks.

    i) It took me about three years of research and calling and more research to find my oil well direct investment (Canadian company with operations in the States). If you don’t want to spend a lot of time digging and working for the deal, then this probably isn’t the path for you. If you do, get an accountant and a lawyer who can help you get the right and profitable deal. If you are not skittish or faint of heart*, real Private Equity can be a real money monster.

    ii) EM is fairly new, 4-5 years I think. Now under government rule because before that it was unregulated. Lots of deals and dealers out there. My energy management investment is through the Exempt Market and has worked out fantastic: 16% annual dividend; initiated in 2010 with $6M in assets, closing in on $50M (~50% annual gain).

    My involvement in ii) was the gateway to my investment in i).

    iii) There are public stocks which invest in Private Equity. The big Canadian one would be Onex (OCX). Then again, you aren’t really reaping the full rewards of Private by investing Public, but it’s better than nothing — over the last 20 years OCX has gained 2,000% vs. 500% for the S&P 500. The CPP also invests very actively in PE but again, as a tax payer and perhaps eventual CPP recipient, you will see but a mere sliver of those great gains.

    My goal with PE investment is to avoid all the stuff which sways public markets and invest in companies, not markets. But more importantly, PE brings my money closer to the profit center.

    With i), I own the assets; that’s my money directly at work and I get paid for its production. My annual dividend is 55% (depending on oil price an exchange rate); any cap gains are above and beyond that.

    With ii), there is a single layer between me and the profit — I invested in the company not the assets, but in the end I will still see a large chunk of that 50% yearly gain (plus my 16% annual dividend). Forecasting, upon wrap-up, I can expect my annual total return to be in the 50% range.

    With iii), “public private”, there are now many layers between your money and the center of profit (not to mention all the other goop that gets all over public markets and the fact that you don’t actually own the assets or the company). Take OCX as an example, privately founded with $50M, went public four years later for $246M — a nice ~50% annual gain and something subsequent stock holders have never experienced even though they are supposedly invested in private equity.

    Overall, I would say management should be your primary concern, above and beyond business model or even the business itself.

    *(remember the crazy winter last year? The weather shut down the wells for all of December. And now oil has plummeted 25%! If you can’t handle hiccups like that, stick to ETFs)

  • Jay October 27, 2014, 3:51 pm

    The people are starting to speak: they want SST as a guest blogger.

  • Manish December 4, 2014, 3:01 pm

    Hi FrugalTrader
    The examples listed in this article are all either companies that depend on price of Oil or ETF of such companies. They will move in the same direction as oil price but not in 1:1 ratio.
    Is there any investment vehicle available which will track the oil price movement 1:1? My aim is to buy such an ETF (or ETN) when WestTexasIntermediate (WTI) price hits $60 and then wait for a couple of years for it to rise back to $90 and then sell it to get 50% profit. I looked at USO and OIL (one ETF and other ETN) and they both track the price of oil by trading oil futures in near and far months. I don’t have much idea of future trading so I am not sure if they track the price of oil in a 1:1 ratio.
    Do you have any insight on pursuing such a strategy?

  • FrugalTrader FrugalTrader December 5, 2014, 9:30 am

    Hi Manish, I do not have experience in trading commodities directly. However, the only two ETFs that I know of for oil are those that you mentioned, OIL and USO.

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