Over the past three years, Enterprise Products Partners L.P. (NYSE:EPD) stock has dropped by 8.2%. Including dividends, EPD has eked out an 11% total return. And that’s the good news, even if it doesn’t seem like it.
After all, that period has been brutal for energy stocks more broadly. The Invesco S&P 500 Equal Weight Energy ETF (NYSEARCA:RYE) has declined 30%. Integrated majors like BP (NYSE:BP) and Chevron (NYSE:CVX) have held up, but even Exxon Mobil (NYSE:XOM) has lost nearly a quarter of its value, falling to a 10-year low last week.
For producers, the news has been even worse, unless investors were fortunate enough to own Anadarko Petroleum before it was acquired by Occidental Petroleum (NYSE:OXY). OXY touched a 14-year low months after that deal was announced. For instance, Apache (NYSE:APA) is down by half. Small-cap names have seen absolute carnage: the Invesco S&P SmallCap Energy ETF (NASDAQ:PSCE) is down a stunning 71%.
In that ugly environment, Enterprise Products has done its job. It’s delivered solid income: the dividend yield currently sits above 6%, and has stayed above at least 5.5% for the last three years. And it’s avoided significant principal losses even with unfavorable energy price movements.
Again, that’s good news. The bad news, at least for oil bulls, is what that means for EPD stock going forward.
Why EPD Stock Has Held Up
As a midstream operator, Enterprise Products Partners has far less sensitivity to oil prices. It’s volume through the company’s nearly 50,000 miles of pipelines that matters, along with demand for the company’s storage, terminal and natural gas processing operations.
Lower prices do lead to lower revenue, as was the case in 2019: revenue declined 10% for the full year and 13% in the fourth quarter. But Enterprise Products profits are based mostly on volumes, which mostly rose in Q4. Natural gas volumes did fall year-over-year, which is a modest concern. As another author has pointed out, rivals Kinder Morgan (NYSE:KMI) and MPLX (NYSE:MPLX) both saw increased natural gas volumes in Q4.
From a broad standpoint however, prices aren’t that material to EPD stock. It matters how much oil is running through an Enterprise pipeline. It doesn’t matter how much that oil cost. That’s for the upstream producers and the downstream refiners to worry about.
And so despite falling energy prices, Enterprise profits actually rose nicely in 2019. So did cash flow, which backs an expected 2.3% increase in per-unit distributions this year. With nearly $8 billion worth of capital projects coming online in the next few years, according to the fourth quarter presentation, those distributions should continue to rise.
That makes EPD, which yields 6.86% based on expected 2020 distributions, an attractive income play. As long as volumes hold up, so will distributions. And income investors will do far better in EPD stock than they would in 10-year Treasury bonds currently yielding less than 2%.
What Goes Wrong
The model certainly has worked so far. According to data from YCharts, total returns in EPD including dividends total 1,830% since the company’s 1998 initial public offering. That’s a 15% annualized return, one of the best in the market over that stretch.
But there are risks. To begin with, EPD has significantly lagged the market more recently. Even with dividends, investors have essentially broke even over the past five years. Here, too, that’s better performance than the sector as a whole, but it’s certainly disappointing relative to the roaring broad market.
Meanwhile, lower prices can impact EPD stock, even if somewhat indirectly. Again, at its core Enterprise Products is a volume play. If oil prices, in particular, keep falling, production in the Permian Basin and elsewhere may dry up. Kinder Morgan somewhat infamously proved the downside risk back in 2015, when it slashed its dividend by 75%. Shares plunged, and even with a recent recovery are down about half from 2014 levels.
The company’s MLP (Master Limited Partnership) structure also adds another layer of difficulty, as my InvestorPlace colleague Josh Enomoto detailed on this site. EPD unitholders are responsible for taxes passed through by EPD, which lowers after-tax returns and also requires additional work at tax time. Enterprise may eventually convert to a more traditional C-corporation, as have other MLPs in recent years. In the meantime, however, some income investors may see simpler options elsewhere in the sector.
Not for Oil Bulls
It’s important to remember, too, that EPD stock isn’t necessarily a great choice for long-term bulls. To be sure, higher prices no doubt will help, as they should stoke further production and higher volumes. Indeed, EPD benefited in the first half of the last decade from the shale boom and crude prices that at times cleared $100. But it’s far from the best play.
After all, there’s no free lunch in the markets. Enterprise’s model has allowed EPD stock to hold up even in an unfavorable price environment. But that model also limits upside should crude move to higher levels.
For investors who see that scenario, producers are the play. Natural gas-heavy names like Cabot Oil & Gas (NYSE:COG) or EQT Corporation (NYSE:EQT) would benefit if gas prices can bounce from historically low levels. Levered shale plays like Diamondback Energy (NASDAQ:FANG) are good choices for oil bulls, with OXY stock and Chesapeake Energy (NYSE:CHK) in the highest-risk, highest-reward bracket.
EPD stock is not the right play for those theses. But it is a stock that can provide steady income well above bond yields, as long as U.S. energy production stays reasonably stable. That’s an attractive thesis — but not one that changes all that much if crude is at $90 or at $50.
As of this writing, Vince Martin has no positions in any securities mentioned.