Forget Occidental Petroleum — Buy This Magnificent High-Yield Energy Stock Instead

Oil prices have been a bit volatile of late, sending stock prices down Occidental Petroleum (NYSE: OXY) down 25% from their 52-week highs. The stock’s yield is a mediocre 1.7%, despite the significant price drop. Most investors focused on energy stocks, and especially income-oriented investors, will be better off Enterprise product partners (NYSE: EPD) and its important distribution yield of 7.1%. Here’s why.

Occidental Petroleum is a perfect energy company

Most investors have heard the name ExxonMobil and Chevronwhich both rank among the largest integrated energy companies on the planet. Integrated energy companies have operations that span upstream (power generation) to midstream (pipelines) and downstream (chemicals and refining). That diversification of operations helps mitigate the peaks and valleys inherent in the highly volatile energy sector.

Occidental Petroleum wants to compete with these giants.

It’s a perfect plan, but it means Oxy, as it’s more commonly called, has to grow by acquisition. That’s where the story gets complicated. In 2019, the company bought Anadarko Petroleum, winning a bidding war with Chevron. of Warren Buffett Berkshire Hathaway he even got involved, helping finance Oxy’s bid. However, the business was very large, which required the company to take on material leverage. When oil prices fell during the coronavirus pandemic, Oxy’s dividend ended up being cut.

The dividend has recovered somewhat, but is still well below its pre-cash level as Oxy has focused on growing its business rather than rewarding investors with dividends. In particular, it recently closed a deal to buy oil and gas developer CrownRock. It was a smaller deal and should be easier to digest, but it also makes clear that Oxy’s drive today is to compete with energy industry giants and not return cash to shareholders through dividends.

Enterprise Products Partners pays in good times and bad

If you’re looking for an energy company that focuses on business growth before dividends, Oxy could be a good option. But if you want an energy investment that’s a little more reliable, then you should look at Enterprise Products Partners and its high distribution yield of 7.1%. This yield is very important to your overall profitability.

As a Master Limited Partnership (MLP), Enterprise is specifically designed to pass income to unitholders in a tax efficient manner. Meanwhile, the business is focused on the midstream segment of the industry, owning energy infrastructure (such as pipelines) that produces reliable cash flows. It charges fees for the use of those assets. The price of goods flowing through its system is not as important as the volume flowing through it. Even during times of low energy prices, energy demand tends to be robust because of the important economic role that oil and natural gas play in the world.

The story continues

This distribution is also strong when you look at financial metrics. For example, Enterprise has an investment-grade balance sheet and its distribution is covered by 1.7 times distributable cash flow. The distribution has been increased for 26 consecutive years at this point. The only problem is that growth is likely to be limited in the coming years, so high yield is likely to account for most of the return here.

If you’re a dividend investor, though, it probably won’t be too big of a deal for you. And all it takes is a distribution increase of about 3%, which is entirely reasonable, for the total return profile to approach 10%. That’s roughly what most investors expect from the broader market. And because highly reliable distribution will cover most of your yield, this is the kind of energy stock that will let you sleep well at night, no matter what happens to oil prices.

For proof, look at the chart above that compares the price performance of West Texas Intermediate (WTI), a key benchmark for US oil, with the price performance of Oxy and Enterprise. Oxy fell along with WTI, while Enterprise continued to move. Conservative investors and those looking to live off their dividends will probably be much better served owning Enterprise.

Oxy is not a bad company, but it is a volatile one

Occidental Petroleum bit off more than it could chew with the Anadarko deal, but it appears to have learned a lesson after being forced to cut its dividend. Still, it’s an energy company focused on growth in a highly volatile industry. It’s not for the faint of heart even after a 25% drop in share price. Most investors will probably be happier holding a boring income stock like Enterprise if they want exposure to the energy sector today.

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Reuben Gregg Brewer has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Berkshire Hathaway and Chevron. The Motley Fool recommends Enterprise Products Partners and Occidental Petroleum. The Motley Fool has a disclosure policy.

Forget Occidental Petroleum — Buy This Magnificent High-Yield Energy Stock Instead was originally published by The Motley Fool