Few investors realize that one sector of the heavy oil market is the most profitable oil in all of North America – it’s called cold flow heavy oil. Think of it as light heavy oil, thick and gooey enough that it needs a pump to get out of the ground, but no so thick that it needs expensive heating to make it flow – hence the name cold flow.
And the recent BP disaster in the Gulf of Mexico will only help Canadian heavy oil prices. If production from the Gulf is slowly curtailed, US refineries will look to Canada even more for supply.
When I say cold flow heavy oil is the most profitable, I mean that producers get more dollars of profit out for every dollar they put in to get the oil, than from other types of oil. For every dollar producers put in the ground to get the oil, they get anywhere from $3-$7 back (or more) – compared to $2-$4 for most light oil, generally speaking.
(This is called the Recycle Ratio – the netback over the finding and development costs. Investors should always ask the management teams what their recycle ratio is on their production!)
This profitability is due to two factors:
- The heavy oil in Canada is shallow so it doesn’t cost much to get out
- US refineries love Canadian crude as Mexico and Venezuela heavy oil production declines, and that strong demand – even before BP’s disaster – is keeping heavy oil prices in Canada strong
And Canada has more of this oil than anyone else in the world. There is thought to be enough heavy oil and bitumen in North America to rival Saudi Arabia – estimated at more than three Trillion barrels1. The graphic below gives investors a sense of the immense value in the ground…
click to enlarge
Chart reference: www.petroleumequities.com/HeavyOilReport.htm
Yet only a few junior and intermediate producers focus on cold flow heavy oil. I think that will change.
Like liquid rich or wet gas stocks I wrote about earlier this month, this sector of the energy market is not well understood or recognized by retail investors.
But unlike those stocks, heavy oil stocks are not unloved. The analysts and funds have discovered their high profitability, and these stocks are rarely cheap on a valuation basis. But they do get rewarded quickly for their growth.
As well, new technology is continually lowering costs and increasing profit margins; even a small per barrel savings will leverage into huge profits because of the colossal size of these deposits.
Investors will see many new opportunities for profit for many years as this massive Canadian resource gets developed.
Disclosure: No positions