Devon Energy (DVN 0.78%) is a interesting stock in the energy sector because it has adopted a variable-dividend policy. The yield is an attractive 6.5% today, but that's not a figure you can count on from quarter to quarter because the dividend payment will change -- by design.
The stock's performance over the past six months highlights just how problematic this can be for investors who don't understand how Devon works.
Falling from the peak
In early 2022, oil prices hit a peak of well over $100 per barrel. Rebounding economic activity and the complications from geopolitical conflict joined forces to lead to a supply/demand imbalance that was a massive benefit to the top and bottom lines of companies across the energy industry.
Since hitting a high-water mark of around $120 per barrel in June, West Texas Intermediate (WTI), a key U.S. energy benchmark, has headed steadily lower, hitting roughly $80 in recent weeks.
Image source: Getty Images.
To be fair, $80 a barrel for WTI is hard to complain about because it is still a fairly strong price. But compared to $120, it's a 33% drop. Since the financial performance of pure-play drillers like Devon Energy are directly tied to energy prices, it shouldn't be too surprising to find out that the last six months haven't been kind to the company's share price as investors anticipate a drop in revenue and earnings.
To put some numbers on that, a $1,000 investment in Devon would have declined to roughly $800 or so over that span. Even looking at total return, which assumes the big dividend (that likely attracted a lot of investors to the stock) is used to buy more shares, shows a painful drop to $840. It's not a particularly inspiring result, but it makes sense.
The bigger takeaway, though, is probably that investors in the energy sector need to understand just how volatile energy prices are in this highly cyclical sector. You have to be prepared to deal with such price moves when you buy it.
Or as an alternative, invest in companies that are likely to see less revenue and earnings volatility, such as pipeline stocks.
A double hit
That said, when it comes to Devon Energy, investors are actually taking a double hit. Remember that the dividend policy is designed to reward investors when times are good with larger dividends. But when the pendulum swings back the other way, so do the dividend payments. That's the other side of a variable dividend-rate policy.
This has been on clear display over the past two quarters, with each quarterly dividend lower than the previous payment. The dividend has declined from $1.55 per share in the third quarter of 2022 to $0.89 per share in the first quarter of 2023.
DVN dividend per share (quarterly) data by YCharts.
As the graph above shows, the dividend spiked when energy prices were robust in 2022 and then started to head lower when energy prices retreated. So investors were hit twice. First, the capital depreciation in the stock investment, and then the drop in the income generated from that investment.
Devon Energy simply isn't a good option for conservative income-focused investors trying to create a reliable income stream no matter how high the dividend yield gets.
Not all bad
Before you cross Devon Energy off your list, there are reasons some investors might want to own it. First, those looking to leverage themselves to energy price swings will likely find that the stock is a fairly attractive option since higher energy prices will lead to both higher dividends and, likely, rapid price appreciation.
A second group, meanwhile, might appreciate the dividend upside as a way to offset the impacts of rising energy prices on their spending. Essentially, when prices for heating oil and gasoline are high, Devon Energy is probably going to be offering dividend increases.
If you don't fall into either of those camps, though, there are probably better options for you in the energy sector.
