The world effectively shut down in the early days of the coronavirus pandemic, causing massive economic dislocations. Now, a snapback is taking place and you can see it clearly in the oil industry. Here’s why Chevron (NYSE:CVX), Enterprise Products Partners (NYSE:EPD), and Magellan Midstream Partners (NYSE:MMP) are still, for the right investors, good reopening stocks to consider in July.
1. The strongest industry giant
Chevron is one of the world’s largest integrated energy companies, with assets that span from the upstream (energy drilling) to the downstream (chemicals and refining) sides of the industry. When countries shut down to slow the spread of the coronavirus oil prices plunged and so did Chevron’s stock, given that its top and bottom lines are tied to that commodity’s price. Now that the world is starting to reopen, oil prices are rallying — and so is Chevron.
But the reopening story is really just beginning and that suggests there’s more upside for energy demand. However, there’s a more important theme here: During the downturn capital investment in the energy sector was curtailed drastically, including at Chevron. This, plus OPEC’s sustained efforts to curtail production, has some industry participants expecting solid ongoing industry fundamentals. And that suggests that energy prices will remain strong or even continue to rise.
Chevron, with the strongest balance sheet in its peer group, is already benefiting. But it’s worth noting that the oil giant bought a competitor in 2020 so it would emerge from the downturn even stronger than it entered it. So, as long as oil prices remain resilient, the good days at Chevron are likely to continue, noting that it announced a 4% dividend in April. That’s a clear sign that Chevron thinks the future continues to look fairly bright.
2. The diversified energy mover
Many in the world see a giant shift away from carbon fuels, but those in the industry continue to suggest that the world will likely need more of every kind of energy in the future. The reason is that the world’s energy demand continues to go up, so relying on clean energy simply won’t be enough. If that plays out, then Enterprise Products Partners’ vast and diversified North American midstream business should continue to see strong demand.
However, unlike Chevron, Enterprise isn’t really a play on energy prices because it largely gets paid fees to move commodities around. That’s a pretty consistent business that allows the master limited partnership to distribute huge amounts of cash to unitholders. Enterprise currently offers a historically high 7.3% distribution yield. And it increased its disbursement in both 2020 and 2021, despite the industry headwinds. In fact, the distribution was covered a huge 1.7 times in the first quarter, suggesting it is very safe. The real story here is that Enterprise’s reliable business is likely to be awarded a higher valuation as it continues to prove it can survive in hard times. The world reopening makes that story much easier to tell.
3. The riskier midstream option
Chevron and Enterprise are both diversified and financially strong energy names, so if the industry rebound stalls they should continue to be solid long-term investments. Magellan Midstream Partners, the final name on this list, is a bit riskier. Notably, it has been selling assets, effectively focusing more tightly around its oil and refined products pipelines. The asset sales, which pull cash flows out of the partnership, and a distribution coverage ratio of just 1.17 times in the first quarter suggest there’s a legitimate risk of a distribution cut in the future. Indeed, the partnership has committed to holding the payout through 2021, but is only targeting a 1.2 times coverage ratio in 2022 with no commitment to a specific distribution level. Risk-averse investors probably should avoid this name, at least until there’s more clarity on this front.
However, if the world reopening leads to strengthening demand for oil and the products into which it gets made, which seems likely, Magellan’s pivot could turn into a winning move. Note that air travel is only just starting to see some real strength and then only in some regions of the world. The key for the sustainability of the current distribution, and thus Magellan’s unit price, will be debt repayments and unit repurchases, which would help to offset the loss of cash flow from the asset sales. For more aggressive types, Magellan and its 8.4% distribution yield could be an interesting, perhaps slightly leveraged, bet on the reopening of the world’s economies.
Not for everyone
Investing in the energy sector via carbon-heavy names like Chevron, Enterprise, and Magellan isn’t going to make clean-energy advocates very happy. However, the world still needs oil, natural gas, and the various products into which they get converted. The economic reopening taking place will increase that demand and each of these energy industry names should benefit. Chevron and Enterprise are the safer plays, with Magellan’s increasingly focused business only appropriate for investors willing to stomach more near-term uncertainty.
This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium advisory service. We’re motley! Questioning an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.
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