Three small-cap oil plays for the bold

published 4 June 2010

If you're looking for a diversified play on frontier regions, there are two stocks I'd favour. Heritage Oil (LSE: HOIL) has projects in Uganda, Russia, Iraq, the Congo and Mali, among others. Or you could invest in Cairn Energy (LSE: CNE), which is in frontier regions such as India, Greenland, Albania and Tunisia. But if you're happy to take the risk involved in backing purer plays and do be aware that it's risky, so don't invest money that you can't afford to lose here are my current top picks.

San Leon Energy (Aim: SLE). Following its recent merger with Island Oil & Gas, San Leon now has on-shore and off-shore exploration interests in the US, Ireland, the Netherlands, Albania, Sicily, Poland and Iraq. But its main hope is North Africa. Identified worldwide resources of oil shale and tar sand exceed those of conventional oil reserves by a factor of 5:1 and some of the biggest reserves are in Morocco. Work done by Shell in the 1980s indicated that Morocco has oil-shale reserves sufficient for a 50,000 barrels/day (b/d)production over 30 years. Now San Leon is aiming to extract this oil using In-Situ Vapour Extraction technology, which forces heated gas into the fractured, oil-yielding shale. Tests are being carried out this year, and the market will be watching results closely.

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Another major opportunity is the Zag prospect, part of the Paleozoic basin that stretches across North Africa. According to Algerian state oil firm Sonatrach, Zag could hold ten to 20 trillion cubic feet of gas and 500 million to 800 million barrels of oil. But while this potential has been confirmed by discoveries in Algeria, the Moroccan acreage is as yet untested. San Leon has completed an aeromagnetic survey and is now looking to upgrade its licence to pave the way for further development.

Although Rockhopper has been the first explorer around the Falklands to strike oil, Falkland Oil & Gas has the greatest potential. Its licence area of 49,000 sq kms is more than ten times the area held by Rockhopper or Desire, and is equivalent to 220 North Sea blocks. The firm has identified 100 prospects and estimates that its top ten hold ten billion barrels. Reserves at Toroa are estimated at 1.2 billion barrels, but whatever happens here, its partner BHP is committed to hiring a rig to drill at least two wells in the deeper waters of its licence area later this year. According to Falkland Oil & Gas, even a 100 million barrel discovery at an oil price of just $25 a barrel would be a commercial proposition. At last year's AGM it said that a 500 million barrel discovery could be worth £14 a share and a 3.5 billion barrel discovery worth £100 a share.

Tower has two other intriguing projects: licence interests in Western Sahara and a 15% interest in three blocks off Namibia, close to Sintezneftegaz's major gas find. Arcadia, which operates Tower's licences, says the latter structures could contain up to ten billion barrels of recoverable reserves, which would be a world-class discovery. Indeed, off-shore Namibia has already been referred to as 'the next Falklands'.

Tom worked as a fund manager in the City of London and in Hong Kong for over 20 years. As a director with Schroder Investment Management International he was responsible for £2 billion of foreign clients' money, and launched what became Argentina's largest mutual fund. Now working from his home in Oxfordshire, Tom Bulford helps private investors with his premium tipping newsletter, Red Hot Biotech Alert.