The Best, and Worst, Dividends in Big Oil

Brett Owens, Chief Investment Strategist
Updated: February 5, 2016

At first glance this looks like a terrible time to buy energy stocks. Oil prices are at historic lows, demand has pulled back, inventories are climbing, and global manipulators like OPEC and Iran are doing little to help.

But contrarian investing is successful because we invest against the herd and simple “first-level” notions. I warned you to stay away from big oil when the goo was trading 50% higher, and I hope you listened. But oil prices will eventually find a bottom – and it’s almost time to get our big oil shopping list ready.

The S&P 500 pays just 2.3%, but the firms I’m talking about pay from 3.9% all the way up to 8.7%. And these management teams take their dividends seriously – they continue to reiterate their commitments to keeping their payouts. ConocoPhillips (COP) CFO Jeff Sheets recently said that “Our top priority is the dividend. A compelling dividend is a core element of our value proposition and we think it is still appropriate.”

Unfortunately for Mr. Sheets, bad economics trumped his top priority. Yesterday, Conoco announced it lost $3.5 billion in the fourth quarter – and it’ll be slashing its dividend by more than 60%.

Who will be next to drop the dividend? I’ve got a few likely candidates in the sector. But first, let’s talk about the safest payout even today…

Exxon Mobil Corporation (XOM) reported brutal fourth quarter earnings this week. Revenues fell 31.5% and earnings plunged 58% lower. That’s an earnings decrease of $501 million versus the prior quarter.

In the fourth quarter of 2014 the company realized a price of $63.30 per barrel of crude and $3.72 per cubic foot of natural gas. But last quarter, Exxon only received $34.36 and $1.80 respectively for the same fuel. That’s a 45% lower for crude and a 51% lowered in natural gas.

Lower profits mean less cash, and Exxon has tapered its share buyback program, reduced its capital expenditures by 25%, and shored up its financing. This will help the firm fund its dividend and acquire cheap assets. The company added six new major start-ups in 2015, and plans to have six more in 2016.

Exxon CEO & Chairman Rex W. Tillerson commented: “The scale and diversity of our cash flows, along with our financial strength, provide us with the confidence to invest through the cycle to create long-term shareholder value.”

Exxon pays a $2.92 dividend – good for a 3.9% yield. The firm has increased its dividend to investors for 33 consecutive years. Even last year, the company increased payouts by 6.7%.

The stock sits below $75 a share and is just 20% lower than last year – impressive resilience given the energy price crash.  This is the most secure dividend in big oil. Exxon’s 61% payout ratio represents its highest since 2002, and it’s higher than the 50% I normally require, but this dividend is in the best shape of any. The next three companies are all losing money at the moment, which means they boast negative payout ratios…

Chevron Corporation (CVX) announced a fourth quarter loss of $588 million. That’s not surprising given its average realized price for crude was $38.71 for the quarter versus $68.32 for the same barrel a year earlier! That’s a 43% sales haircut.

The real story behind Chevron is a number of larger capital projects coming online and a repositioning of the firm’s assets and portfolio. The first shipments of LNG from its Australian Gorgon facility will start soon, while three additional major projects at Chuandongbei, Lianzi, and Moho Nord came online last quarter. Now these projects can start making money instead of being capital drains.

Chevron’s total spending for last year dropped 12% to $61 billion and the firm expects to cut outlays another 18% in 2016 with the completion of these projects. Chevron’s stock is down 22% from its high last February and currently sits at $81. The company pays a $4.28 dividend for a 5.3% yield.

At the last quarterly conference call Chevron’s Chairman and CEO John Watson said: “Our number one financial priority is to maintain and grow the dividend. We have a strong balance sheet for precisely transition times like this.”

Problem is, as long as the company is losing money, these payouts are likely to be funded by additional debt. I respect the dividend dedication, but I don’t like to see unprofitable firms sharing profits that are non-existent. Until Chevron gets its finances in order, investors should avoid this yield mirage.

BP plc ADR (BP) delivered an even uglier fourth quarter report. Net income dropped 90% to $196 million. BP currently pays a $0.60 quarterly dividend, yielding 8.3%. Surprisingly, the company announced that it will maintain the dividend for the first quarter of the year.

BP has taken a number of aggressive restructuring charges over the last five quarters totaling $1.5 billion with another $1 billion planned for 2016. The company’s cost measures have helped decrease operating costs by $3.4 billion, mostly in efficiency savings. Additionally, the company will slash 7,000 jobs this year.

It seems that BP was barely out of their Horizon Deepwater oil spill disaster – which has cost the company upwards of $65 billion – when they were hit with a crumbling oil market. However, the fear of the litigation costs and global scrutiny these past few years may have given the company a jump start on belt tightening.

Of the major oil producers, BP is in the weakest financial shape. To be honest, it should have cut its dividend already. Over the last 12 months, it lost $2.49 per share while paying out $2.40 in dividends.

How’d it bridge the gap? With $5 billion in additional long-term debt.

The Royal Dutch Shell plc ADR (RDS.A) and BG Group plc ADR (BRGYY) merger, which looked liked such a win-win for everyone has grown a bit complicated as the deal nears completion. The premium has shrunk, as have the benefits of the merger with prices under $90 a barrel.

However, there are still some takeaways for investors to breathe easier about. First, Shell has never cut or suspended its dividend in 40 years. That includes the late 1980s when oil was at $10. And despite a 56% drop in fourth quarter profits, the firm has reiterated it will maintain its dividend for 2016.

The firm has delayed capital expenditures and cut spending. It plans to slash another 3% of its employees this year after the merger.

The Shell BG merger increases Shell’s reserves by 25% and its output by 20%. More importantly, it makes Shell a well positioned producer of LNG – a segment that is growing internationally as oil declines.  The merger takes Shell from third to the second largest public oil producer by capitalization after Exxon.

Shell currently pays an 8.4% dividend. The merger only improves the bottom line and its ability to pay dividends as BG is profitable. But as with every energy firm not named “Exxon” I’d wait for the dust to clear on this one.

Safer 7% Yields You Can Buy NOW

Oil is an absolute necessity in every corner of the globe and the sector will certainly be ripe with buying opportunities once prices stabilize. Until that happens, I’m raking in much bigger – and safer – yields in another sector that’s capitalizing on the biggest demographic shift in U.S. history.

You see, no matter what happens to the price of oil, the outcome of year’s election, or even China or the Fed, there’s one sure economic bet in America: The country will be older in the future than it is now and demand for healthcare services is set to skyrocket.

In fact, by 2024, national healthcare expenditures are expected to climb to $5.43 trillion, that’s about 20% of our GDP.

This growth is fueled in large part by the Baby Boom generation. They make up 28% of the U.S. population and number 77 million strong.  10,000 of them turn 65 every single day and will continue to do so every day for the next 15 years.

I’ve uncovered three particularly solid healthcare plays that are set to reap massive profits from this demographic shift.

They pay yields of 7.1%, 7.7%, and 7.9%, and all three are increasing earnings and their dividends annually. Click here for the names of all three and discover exactly how we’re playing the biggest demographic shift in U.S. history.