For savvy income investors, the first question that comes to mind when they see a stock with a dividend north of 6% is -- what are the risks? At times, those risks don't justify the high yields, presenting attractive buying opportunities. Let's take a look at three energy stocks -- Enbridge (ENB -1.33%), Phillips 66 (PSX -1.03%), and Williams Companies (WMB -2.05%) -- that offer precisely such an opportunity.
When Wall Street sours on a sector, all the stocks in it can face the heat. That's what happened with Canadian midstream giant Enbridge.
Enbridge has raised its dividends consistently for 25 years, at an impressive average annual rate of 11%. Based on the mid-point of its distributable cash flow guidance range, it expects to pay out roughly 70% of its 2020 DCF as dividends. That's slightly higher than its target range of 65% or less, but in the current environment, it's as safe as it can get. Still, at the prices where the stock is trading as of this writing, that payout delivers a yield of 8%.
While many energy companies reported losses in the second quarter, Enbridge delivered strong performance with adjusted EBITDA rising to 3.3 billion Canadian dollars, compared to CA$3.2 billion in Q2 2019. The company also reaffirmed its DCF guidance for 2020. Moreover, it expects 5% to 7% annual growth in DCF per share through 2022.
Finally, Enbridge expects its debt-to-EBITDA ratio to remain within its target range of 4.5 to 5 for 2020. All in all, the decline of Enbridge stock this year looks like a perfect example of throwing the baby out with the bathwater.
Like Enbridge, Williams Companies posted strong performance in the second quarter. The company, which primarily handles natural gas and natural gas products, expects its 2020 earnings to be within its guidance range. Williams' regulated gas pipelines and its fee-based contracts provide relative stability to its earnings. Moreover, a significant share of those earnings are backed by reserved capacity contracts. That means the customers pay even when the volumes they transport fall short of the contracted capacity.
According to the U.S. Energy Information Administration, U.S. natural gas production is projected to increase by an average of 1.9% per year through 2025. Williams Companies should benefit from that growth. Moreover, its gas gathering operations are strategically located in basins such as the Marcellus and Utica shales.
With a dividend coverage ratio of 1.7, Williams Companies' payouts look secure. It expects a debt-to-adjusted EBITDA ratio of 4.4 times for 2020. Trading at a yield of 8.1%, Williams Companies stock could be a great addition to your dividend portfolio.
Another energy stock that got punished along with the sector is refiner Phillips 66. Surely, the second quarter was harsh for the company. But demand for gasoline and crude oil distillates has improved substantially since then. Though it may take some more time before demand reaches to pre-pandemic levels, the refiner can withstand the lower demand a little longer.
That's because of certain key advantages that Phillips 66 has. First, its refineries have access to low-cost Canadian crude, which helps it minimize its input costs. Second, it can leverage its midstream assets by placing them around its refining footprint. Lastly, with a net debt-to-capital ratio of 35%, it has a pretty strong balance sheet.
Phillips 66 recently took a major step toward becoming a producer of renewable diesel. It plans to transform its San Francisco refinery to produce renewable fuels out of used cooking oil, soybean oils, fats, and greases. This will allow Phillips 66 to meet requirements under California's Low Carbon Fuel Standard program, in addition to fulfilling its customers' demand for renewable fuels.
Phillips 66 stock has fallen more than 50% since the beginning of 2020, which has pushed its yield up to an enticing level of nearly 7%. Dividend-seeking investors sure wouldn't want to miss this buying opportunity.