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Why High-Yielding Oil Stocks Are Soaring Today

By Matthew DiLallo – Jun 5, 2020 at 12:59PM

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Energy midstream companies are moving higher thanks to a sectorwide rally in the oil market.

What happened

Crude oil prices jumped today. WTI, the leading U.S. oil price benchmark, had risen about 4.5% by 11:15 a.m. EDT on Friday. That fueled a big rally in most oil stocks

One subgroup that surged along with oil was midstream companies, which are known for paying high dividends. Several rallied more than 10% by the midmorning, including Crestwood Equity Partners (CEQP -2.67%)Enable Midstream Partners (ENBL)EnLink Midstream (ENLC -4.42%)Noble Midstream Partners (NBLX), and ONEOK (OKE -3.75%)

A person holding a bag with the word dividends on it.

Image source: Getty Images.

So what

Fueling today's rally in the oil market was a report by Bloomberg that OPEC and its partners will extend the current supply curtailment rate until the end of July. The group had planned to curb its combined output by 9.7 million barrels per day (BPD) in May, the reduction to taper off to 8 million BPD through the end of this year. However, OPEC now appears poised to extend the higher reduction for at least the next two months. 

While OPEC plans to continue choking back production, many producers in the U.S. are restarting idled oil pumps thanks to the recent improvement in pricing. Meanwhile, with WTI approaching $40 a barrel, these companies could soon resume their drilling programs. Because of that, more oil should flow into midstream assets over the next few months, bolstering that sector's cash flow.

The expected improvement in market fundamentals is a welcome change. Conditions got so bad earlier this year that many midstream operators slashed their dividends so they could retain more cash and shore up their balance sheets in case things kept getting worse. For example, Enable Midstream and EnLink Midstream cut their payouts by 50% while Noble Midstream slashed its by 73%. Given the uncertainty in market conditions, investors worried that these companies might need to cut their payouts again and that Crestwood and ONEOK would need to join them by making deep dividend cuts. That's evident in their yields, which range from 6.5% at Noble up to 14% at Crestwood. 

However, OPEC's extending its deep initial supply cuts for another two months will take more pressure off the oil market, which should push prices even higher. That improved pricing should fuel a rebound in U.S. volumes over the coming months, which would bolster midstream revenue streams. Because of that, it's starting to seem less likely that these companies will need to make more changes to their dividends.  

Now what

The worst for the oil market seems to be over. That's welcome news for the midstream industry, since higher volumes from their producing customers will boost their cash flows and ability to pay dividends. 

However, yield-seeking investors still need to tread carefully in this sector. Risks to these high-yielding dividends remain, especially since the initial downturn so weakened some producers that they might need to file for bankruptcy this year. If that happens, they might ask to alter their midstream contracts, which could have a lasting impact on the sector's cash flows and dividend-paying ability. 

Matthew DiLallo owns shares of Crestwood Equity Partners LP. The Motley Fool recommends ONEOK. The Motley Fool has a disclosure policy.

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Stocks Mentioned

ONEOK, Inc. Stock Quote
$50.78 (-3.75%) $-1.98
EnLink Midstream, LLC Stock Quote
EnLink Midstream, LLC
$8.11 (-4.42%) $0.38
Crestwood Equity Partners LP Stock Quote
Crestwood Equity Partners LP
$26.02 (-2.67%) $0.71
Enable Midstream Partners, LP Stock Quote
Enable Midstream Partners, LP
Noble Midstream Partners LP Stock Quote
Noble Midstream Partners LP

*Average returns of all recommendations since inception. Cost basis and return based on previous market day close.

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