Saudi Arabia is leading a coordinated effort to remove over 1 million barrels per day (BPD) from global oil supplies. The unexpected move is fueling a rally in crude prices, pushing them back above $80 a barrel. The action is reportedly in response to the U.S. government's decision not to begin refilling its Strategic Petroleum Reserve this year.
The move could cause oil prices to head even higher in the coming months as demand rebounds. That would boost the oil industry's cash flows. The prospect for even higher prices makes Devon Energy (DVN -1.34%), Diamondback Energy (FANG 0.01%), and Pioneer Natural Resources (PXD -0.20%) look like great oil stocks to buy since they plan to return the bulk of their oil-fueled cash flows to shareholders this year.
Dual catalysts
Saudi Arabia unveiled this week that it will voluntarily cut its production by 500,000 BPD from May through the year's end. Meanwhile, Russia is joining it by extending its 500,000 BPD cut that began last month through the end of this year. These moves will remove significant supply from the market right as demand is on track to accelerate.
According to the International Energy Agency's (IEA) March oil market report, "world oil demand growth is set to accelerate sharply over the course of 2023, from 710,000 BPD in 1Q23 to 2.6 million BPD in 4Q23." Fueling that view is "rebounding air traffic and the release of pent-up Chinese demand." The IEA thus anticipates that supplies will fall short of demand in the second half of the year. The production cuts by Saudi Arabia and Russia will only exacerbate that situation.
Cashing in on the situation
The supply and demand picture has oil market analysts boosting their outlook for oil prices. For example, Goldman Sachs increased its year-end forecast for Brent oil (the global price benchmark) by $5 a barrel to $95. Meanwhile, the investment bank now foresees Brent ending next year at $100 a barrel, $3 a barrel higher than its prior view.
That outlook bodes well for top U.S. producers and their investors since it should boost their cash flows and returns. For example, Diamondback Energy's free cash flow will rise significantly with oil prices:
Image source: Diamondback Energy Investor Relations Presentation.
Higher oil-fueled cash flows will benefit investors because the company plans to return 75% of its free cash flow to shareholders via dividends and repurchases. Thus, the cash returns will rise with crude prices. Diamondback could pay significant variable dividends in addition to its base payment. It could also buy back more of its attractively priced stock (its free cash flow yield of 10% at $80 oil is double that of the S&P 500, suggesting it's significantly undervalued).
Pioneer Natural Resources plans to return almost all its free cash flow to investors, including paying 75% via its variable dividend. At $80 oil, Pioneer can generate enough cash to pay $20 in dividends this year, giving it a nearly 9.5% yield at the recent stock price. Meanwhile, the dividend payment could grow to about $28 per share at $100 oil, pushing the yield into the double digits.
Devon Energy also expects to return a significant portion of its oil-fueled free cash flow to shareholders this year. It pays a base dividend and up to half its free cash flow to shareholders via a variable dividend. While that payout has declined in recent quarters, it could see a resurgence following Saudi Arabia's move to boost prices. Meanwhile, Devon could use its remaining cash to buy back its cheap stock (it trades at about an 8% free cash flow yield at $80 oil).
Higher oil prices hint at bigger oil-fueled dividends from this trio
Devon Energy, Diamondback Energy, and Pioneer Natural Resources should all benefit from Saudi Arabia's move to boost oil prices since it should bolster their free cash flow. That will give them more money to return to shareholders, including the likelihood of much higher dividend payments. Add that income to the potential boost in their stock prices, and they could produce strong total returns in the coming months. That makes them great oil stocks to buy for those seeking to cash in on Saudi Arabia's bid to boost oil prices.
