Suncor Energy: Value or Value Trap?

Aug. 3.11 | About: Suncor Energy (SU)

Suncor Energy (NYSE:SU) is at an interesting juncture at $36.73 as it offers potential reward or some potential pitfalls for investors. The main pitfalls for investors are relatively easily identified as follows:

  • The price of oil declines, thus eroding profitability of Suncor making the barely sub 10 P/E on 2012 estimates of $3.70 a trap.
  • The general market continues to decline and investors toss out riskier assets (sell Suncor/buy Exxon (NYSE:XOM), etc.).

There are some more risks but ultimately those are minor compared to the price of oil and general market concerns. With the strategy outlined below, some of these are mitigated.

The potential rewards for investors include the opposite of the main pitfalls above. If one has concerns that the price of oil is going below the $70-80 mark for an extended period of time or that the S&P 500 is going below $1,000, one should not be looking for any type of long investment in my opinion. Suncor likely would revisit the mid-$20s if that is one forecast for market expectations going forward. At this time I think Suncor provides a better opportunity than broad market opportunities and easier trade set up.

Some possible trades that could be set up for a cautiously bullish investor is a 1:2 put ratio out in January 2012. The strike prices would be the $36-$34 1:2 put spread, which would fetch a net credit of $1.47 ($3.35 - $2.41 - $2.41). The $1.47 represents 4% of the current share price, or a 4% return through January 2012 if all of the options expire worthless.

One would not get long the shares of Suncor until $30.53 due to the $2.00 in profits from the $36-34 put spread and the $1.47 net credit. Another option would be selling the January $30 puts outright for $1.18 and having a cost average below $29, which would be putting Suncor back into the March 2009 lows. However, taking the risk in unknown markets could not be worth the 4.00% return (4.81% against the $30.53 average price) if the stock stays above $36. The $1.47 net credit could be used to purchase long call options either immediately or once the market gains more visibility.

For an investor concerned about future prospects of oil prices and the general economy, the trade could be executed but the $1.47 net credit should be reserved for future call option purchases. The downside is that the market and Suncor put in a low relatively soon; the investor may then be hesitant to buy calls at higher prices. More aggressive investors could go ahead and buy call or call spreads and risk losing the net credit if they are wrong about the current market conditions.

Investing ultimately always comes down to making well-timed positions and taking calculated risks. Personally I think Suncor has a bright future ahead if the global economy is going to have a bright future. However, at this juncture I don't think all is so bright to fully warrant long positions without taking some risk reduction measures.

However, I believe the future is bright enough on an economic basis (based on current conditions and information) that Suncor Energy at $30.53 represents a great long-term opportunity, and having the flexibility to deploy the $1.47 net credit ($32 cost average if you lose the net credit) into call or call spreads would allow one to return more than the 4.00% maximum return initially established by the January 2012 $36-34 1:2 put ratio.

Disclosure: I am long SU.

Additional disclosure: Disclosure: I have a net bullish delta in SU via various option expiries and strike prices.