Oil prices plunged in 2020, with West Texas Intermediate crude actually falling below zero for a brief moment. Since that point, oil prices have rallied strongly, and even after pulling back from this year's highs, they now sit just under $100 per barrel.
That's one wild roller-coaster ride. But if you're drawn to the energy industry for its passive income opportunities, you can invest without having to take on so much uncertainty. Here's why dividend investors looking at energy stocks will probably prefer Enbridge (ENB -0.85%) and Enterprise Products Partners (EPD -0.45%).
A terrible, no-good year
The volatility that energy investors have had to deal with lately is hard to overstate. ExxonMobil saw its profit of $2.25 per share in 2019 turn to a loss of $0.33 per share in 2020 as pandemic shutdowns meant reduced oil demand and plunging oil prices. While the oil giant's profits bounced back strongly to $5.38 per share in 2021, that jump only further highlights the volatility inherent in the commodity-driven energy sector.
But business was much more stable elsewhere in the industry. Enterprise's distributable cash flow fell just 3% in 2020, and that cash flow covered its distributions by a hefty 1.6 times. Enbridge's distributable cash flow actually increased in 2020, rising about 2.2%, and it covered its distributions by roughly 1.4 times. That's a lot of stability in the face of a deep market downturn that led to red ink at some of the largest energy companies.
If you are looking for an income-producing energy stock to add to your portfolio, this pair should be sounding pretty interesting right now. But from a passive-income standpoint, there's even more to like. Enterprise has increased its distribution every year for 24 consecutive years, if you include the increase in 2022. Enbridge has an even better record, with 27 years of annual increases. And then we have the generous yields, with Enterprise at 7.7% and Enbridge at 6.5% as of Thursday's trading.
Why are they different?
Enbridge and Enterprise manage to sidestep the volatility of the energy sector by operating in what's known as the midstream space.
Broadly speaking, there are three different niches within the energy sector. On one side is the upstream industry, which produces oil. Results here are driven by commodity prices. The other side is downstream, refining and chemicals businesses, which earn the difference between end prices for gasoline and other refined products and the prices they have to pay for their feedstocks (oil and natural gas). Again, commodity prices are key to financial results.
Midstream companies, in general, connect the two sides. The pipelines, storage, processing, and transportation assets that Enterprise and Enbridge own largely charge use fees. It's kind of like operating a toll booth. As long as oil and other products are flowing through the system, these two North American midstream giants get paid. The price of what's going through their systems is much less important than demand.
That difference has resulted in fairly consistent performance even during energy industry downturns. But investors still treat Enterprise and Enbridge similarly to other energy companies. For example, Exxon's shares have declined 19% since peaking in June. Enterprise is down by 13% and Enbridge 12% despite the fact that they aren't really exposed to the same commodity volatility. That's an opportunity for long-term investors who understand the very different dynamics at play here.
Not perfect but still a good energy option
If you're looking for an energy company to add to your portfolio, Enterprise and Enbridge should be on your short list. Not only do they offer generous, well-supported yields, but they also allow you to sidestep the inherent volatility in this largely commodity-driven sector.
To be fair, you won't be able to avoid the energy sector's commodity-driven ups and downs, because investors tend to throw the baby out with the bathwater. But if you are looking for reliable passive income, the downs here could actually be looked at as buying opportunities because the fees that are the driving force behind Enbridge and Enterprise's financial results aren't really tied to oil prices.