Why Now's the Time to Consider Canadian Energy Stocks
Canada's energy sector is still home to promising growth stocks and a large number of dividend-paying securities that offer elevated yields.
On October 31, 2006, Canada's Finance Minister Jim Flaherty announced that his government would start taxing royalty trusts as corporations on January 1, 2011. A frantic sell-off ensued, wiping out about $35 billion worth of market value by the end of the next trading session.
The timing of Flaherty’s announcement and the severity of the subsequent plunge led market-watchers to dub the event the Halloween Massacre.
In the years leading up to the announcement, Canadian royalty trusts had become increasingly popular among income-seeking investors. Free from corporate-level taxation in Canada, these pass-through entities disbursed much of their cash flow to shareholders in quarterly or monthly distributions. Even better, the Internal Revenue Service classified these distributions as qualified dividends, ensuring that US investors paid a tax of only 15% on this income.
Memories of the infamous Halloween Massacre prompted many investors to swear off Canadian equities, a shortsighted move that overlooks the 48% total return posted by the S&P/TSX Income Trust Index from November 1, 2006, to December 31, 2010. In comparison, the S&P 500 generated a loss of 11.2% over this holding period.
Although most royalty trusts converted to corporations, Canada’s energy sector is still home to promising growth stocks and a large number of dividend-paying securities that offer elevated yields.
The country boasts some of the world’s largest oil reserves, from Alberta’s vast oil sands to emerging shale basins and a series of heavy-oil plays across western Canada. Our favorite upstream operators have the wherewithal to grow oil production significantly in coming years, while the surge in drilling activity and output has created opportunities in the midstream and oilfield-services segments.
And US investors shouldn’t overlook the benefits of exposure to the Canadian dollar. The nation’s financial system avoided the excesses that characterized the US credit bubble and emerged from the Great Recession in solid shape. Canada’s strong economy and fiscal strength should support the value of its currency relative to the US dollar and the euro—an appealing prospect for many of our readers.
Before we highlight one of our top Canadian energy stocks, here’s a quick review of the basic tax implications associated with equities that trade on the Toronto Stock Exchange: Investors in the US can claim the 15% withholding tax levied by Canada as a credit against their domestic tax liability. Even better, Canadian equities held in a tax-advantaged account such as an IRA or 401(k) aren’t subject to this 15% withholding tax.
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