Please ensure Javascript is enabled for purposes of website accessibility

New to the Stock Market? Here Are 3 Tips for New Energy Investors

By Daniel Foelber - Jan 31, 2021 at 9:02AM

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More

How to avoid common mistakes and make winning investments.

The energy sector was the worst-performing sector in 2020. Now, it's the best-performing sector so far in 2021.

Chock-full of volatility and value traps -- yet ripe with opportunity and growth -- the energy sector can be feast or famine. Here are three tips to help you navigate the energy sector, avoid common mistakes, and make winning investments.

Wind turbines contrasted with an oil pumpjack

Image source: Getty Images.

1. Know what you want out of the energy sector

Before selecting individual companies, it's important to determine what you want to get out of the energy sector and how much risk you are willing to take.

For example, oil majors like Chevron (CVX 1.37%) and refining companies like Phillips 66 sport dividend yields over 5% but suffered major earnings hits in 2020. Conversely, pipeline giants like Enbridge and Kinder Morgan yield around 7% each and faced relatively minor earnings declines thanks to their business models. However, Chevron and Phillips 66 have more upside if commodity prices rise.

On the renewable front, pure-play solar energy stocks crushed the market in 2020. Although expensive, they continue to have compelling long-term growth prospects. But there are plenty of other companies, namely utilities and industrial stocks, that offer exposure to solar energy and pay dividends too.

Less talked about than solar is wind energy. The industry is fairly easy to understand, but it can be hard to find wind energy stocks. Like solar, wind energy has some fantastic growth prospects and there are hidden gems if you know where to look.

^SPX Chart

^SPX data by YCharts

2. Avoid tempting high-yielding dividend stocks

Whether you're interested in oil, gas, or renewables, chances are you've come across several high-yielding dividend stocks. The energy sector is home to some of the highest-yielding stocks on the market, but many of these dividend stocks can be terrible investments. One of the best lessons a new energy investor can commit to memory is that behind every stock is a company. Learning this lesson the easy way means understanding that a bad company paying a high-yielding dividend is worse than a good company or even an OK company that doesn't pay a dividend. The holy grail is finding great companies that pay stable and growing dividends. You can do this by focusing on companies with strong balance sheets (low debt) and growing free cash flow (FCF).

3. Focus on the balance sheet

The balance sheet is the heart and soul of a company. The downfall of most oil and gas companies is a bad balance sheet. At the extreme, it can lead to bankruptcy. To a lesser extent, poor financial health can result in high-interest expenses and an inability to invest without stressing the balance sheet further. The common theme behind the worst energy stocks of 2020 was a weak balance sheet. The common theme behind better energy companies was a strong balance sheet and an ability to invest in distressed businesses at bargain prices.

Profiles in energy

Looking at some examples of market-beating companies across the energy sector provides a good baseline for what success looks like. 

TPL Total Return Level Chart

TPL Total Return Level data by YCharts

Despite a tough few years for oil stocks, Texas Pacific Land Trust (TPL) has beaten the market over the past three years. TPL is the largest landowner in West Texas and earns revenue from oil and gas companies through commercial leases, royalties, and easements. With low expenses, a high operating profit margin, and a debt-free balance sheet, TPL has very little downside risk and plenty of upside. When business is good, it earns more FCF, which it then distributes to shareholders in the form of special dividends.  

NextEra Energy (NEE -1.21%) is the largest U.S.-based utility by market capitalization. It has a strong foundation in fossil-fuel-based power generation but is aggressively investing in both solar and wind energy. The company pays a stable and growing dividend and continues to post excellent earnings despite record-high capital spending. 

TPI Composites (TPIC -3.55%) is a pure-play wind turbine blade manufacturer with a market-leading position. It has long-term service agreements with several major original equipment manufacturers (OEMs) like General Electric, Siemens, and Vestas. Although significantly risker than TPL or NextEra Energy, the company has a high growth rate and is expanding internationally, hoping to secure contracts with OEMs it currently doesn't do business with.

SolarEdge Technologies (SEDG -4.53%) is a pure-play solar stock that has skyrocketed over the past few years. The company makes inverters and power optimizers, two critical elements in a typical solar system. SolarEdge has posted strong growth numbers thanks to lower solar power generation costs and growing investment. Solar energy is projected to be the cheapest form of energy by 2025 and comprises the majority of new capacity installations. SolarEdge is a leader in this field, but the stock's epic rise has called into question its valauiton

Invest Smarter with The Motley Fool

Join Over 1 Million Premium Members Receiving…

  • New Stock Picks Each Month
  • Detailed Analysis of Companies
  • Model Portfolios
  • Live Streaming During Market Hours
  • And Much More
Get Started Now

Stocks Mentioned

NextEra Energy, Inc. Stock Quote
NextEra Energy, Inc.
$76.95 (-1.21%) $0.94
General Electric Company Stock Quote
General Electric Company
$66.02 (-1.03%) $0.69
Chevron Corporation Stock Quote
Chevron Corporation
$149.59 (1.37%) $2.02
Phillips 66 Stock Quote
Phillips 66
$88.72 (1.74%) $1.52
Enbridge Inc. Stock Quote
Enbridge Inc.
$42.59 (0.98%) $0.41
Kinder Morgan, Inc. Stock Quote
Kinder Morgan, Inc.
$17.20 (2.20%) $0.37
Siemens Aktiengesellschaft Stock Quote
Siemens Aktiengesellschaft
$54.74 (-0.44%) $0.24
Vestas Wind Systems Stock Quote
Vestas Wind Systems
$24.23 (-1.28%) $0.32
Texas Pacific Land Corporation Stock Quote
Texas Pacific Land Corporation
SolarEdge Technologies, Inc. Stock Quote
SolarEdge Technologies, Inc.
$285.00 (-4.53%) $-13.52
TPI Composites Stock Quote
TPI Composites
$12.77 (-3.55%) $0.47

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

Related Articles

Motley Fool Returns

Motley Fool Stock Advisor

Market-beating stocks from our award-winning analyst team.

Stock Advisor Returns
S&P 500 Returns

Calculated by average return of all stock recommendations since inception of the Stock Advisor service in February of 2002. Returns as of 06/28/2022.

Discounted offers are only available to new members. Stock Advisor list price is $199 per year.

Premium Investing Services

Invest better with The Motley Fool. Get stock recommendations, portfolio guidance, and more from The Motley Fool's premium services.