After the kind of volatility we’ve seen in the stock market lately, it’s natural to look for good buys on the dip. Lately, I’ve been receiving a lot of questions about the energy sector, in particular.
With a glut of supply in the global oil market and even more crude about to come online from Iran, commodity prices have been in freefall. This, of course, has weighed on energy stock prices. But it’s starting to look like we might have hit a bottom. This week alone, energy stocks across the board have staged an impressive rebound. That has some wondering if the energy sector is precisely where they should be looking for their next bargain. If you’ve been asking yourself the same question, I’ll give you the answer you’re looking for in today’s blog.
Let’s start with one of the largest energy producers on the planet, Exxon Mobil (XOM). Like most energy companies, Exxon’s main claim to fame is its substantial dividend. In fact, Exxon has steadily raised its dividend for 33 consecutive years, including a 6% dividend increase for 2016. This “easy income” is precisely what makes its stock so attractive to investors. But Exxon is pushing its luck right now by trying to raise dividends yet again while crude oil prices remain low.
Exxon Mobil’s dividend currently represents a staggering 115% of its forecasted 2016 income. That’s up from an already substantial 75% of its income in 2015. Clearly, these kinds of dividend payments are not sustainable. Even though, without its substantial dividend, Exxon is nowhere near as attractive of a stock as it has been to investors.
Of course, much of the decision about whether or not Exxon will cut its dividend has to do with the company’s credit rating. If the rating agencies (Fitch, Moody’s and S&P) continue to cut the credit ratings of energy-related companies, Exxon won’t have any choice but to cut their dividend payments to preserve cash flow as well. This could potentially protect their credit rating so they can continue borrowing in the bond market at more favorable interest rates. However, once that dividend gets cut, the very thing that makes Exxon such an attractive stock will immediately disappear. I don’t think you want to get caught holding the bag on that one. XOM is a C-rated Hold in Portfolio Grader.
Unfortunately, Exxon Mobil is not the only one facing these problems. Let’s not forget that Anadarko Petroleum (APC) has already announced a major dividend cut. And this puts Anadarko in the same category as Chesapeake Energy (CHK), ConocoPhillips (COP), Kinder Morgan (KMI) and Marathon Oil (MRO) as a group of major energy producers that have recently eliminated or substantially cut their respective dividends. If you own any of these stocks I urge you to look them up in my Portfolio Grader tool right now.
The bottom line is that energy does not appear to be a sector you want to be invested in right now. What may seem like bargain buys are actually bottom of the barrel stocks right now. This is truly a case where you get what you pay for.