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Opportunity in Canadian Heavy Oil

With concerns over pipeline capacity subsiding, Canadian heavy oil producers such as MEG Energy are poised to benefit from the significant narrowing in differentials.

David McColl: Today, we want to provide an update on the Canadian oil market--in particular, as it relates to heavy oil producers such as MEG Energy (MEG), Suncor (SU), Imperial Oil (IMO), and other large-cap producers.

Over the past year, we've seen a significant change in the dynamics within Canada. Where pipeline-capacity constraints once were a big issue, we're now seeing rail volumes exceeding 170,000 barrels per day with capacity over a million barrels per day. In other words, we see little risk that Canadian oil could be impaired. In fact, we see significant opportunities as Canadian heavy oil and light oil are going by rail to tidewater, being loaded onto ships, and making its way to Europe now. But what we've also seen is a significant collapse in oil prices globally.

Fortunately for Canadian producers, they have been able to weather this storm a little bit as heavy oil differentials have narrowed significantly. Looking back over the year, heavy oil differentials are currently at $21 a barrel versus $24 a barrel a year ago--similar timeframe. But what's really interesting is differentials are now at $14 a barrel, and we think that that's going to continue throughout the rest of the year, creating opportunities for heavy oil producers in Canada.

In particular, we point people's attention to our best idea, MEG Energy. MEG Energy is the most levered to heavy oil production in western Canada within our coverage list. And they have access to rail, pipeline, and barge. We think investors should take a very careful look at MEG in addition to other Canadian heavy oil producers. 

David McColl does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.