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Best Stocks for 2020: Energy Transfer Stock Is Still a Pipeline to Profits

Energy Transfer is ready for a strong performance in the second half of 2020

Editor’s note: This column is part of our Best Stocks for 2020 contest. Charles Sizemore’s pick for the contest is Energy Transfer (NYSE:ET).

Best Stocks: ETThis year hasn’t been particularly kind to Energy Transfer (NYSE:ET). As we near the halfway point of the year, the shares are down 37%.

But as I noted last quarter, this isn’t the first time we’ve seen a spate of volatility in this stock. This time last quarter, we were down over 60%. And perhaps more relevant is that, in the Best Stocks for 2016 contest, Energy Transfer was down over 70% early in the year and yet went on to win the contest with a 53% return.

This year, I have my work cut out for me. Jason Moser’s pick Wayfair (NYSE:W) is off to a commanding lead, up 130%. For Energy Transfer to take the crown, the midstream giant will need a spectacular second-half recover. And we’ll need to Wayfair to take a breather.

We shall see. But regardless of whether Energy Transfer takes the crown this year, it remains a fantastic high-yielding value stock for the remainder of 2020 and beyond.

Improving the Macroeconomic Picture

The macro environment for pipelines hasn’t exactly been stellar these last few years. The boom in onshore fracking created a supply glut that in turn put pressure on prices and threatened the stability of the entire energy sector. That was true even before the novel coronavirus and lockdowns sapped demand for energy and Saudi Arabia launched a price war.

The end of last quarter marked the low point. The macro picture had gotten so bad, it couldn’t get worse. We even saw negative prices for crude oil. While this didn’t so much affect Energy Transfer directly — around 85% of its revenues are fee based — it created the very real risk of widespread energy bankruptcies and contract cancellations.

Well, the bankruptcies did happen, or at least they started. Through the end of last month, there have been 18 significant energy company bankruptcies totaling a little over $10 billion. But nothing like the worst-case scenario ever materialized, and the $10 billion in bankruptcies paled in comparison to the $57 billion we saw in 2016.

Energy Transfer doesn’t need a “good” energy environment to be profitable. It just needs for it to be not too terribly bad, and that’s where we find ourselves today.

All About the Distribution

Let’s face it. Master limited partnerships like Energy Transfer are first and foremost about yield. While the capital gains can be fantastic, it’s the high yields that tend to get investors excited.

ET distribution yield
Source: Chart courtesy of GuruFocus.com

Well, at current prices, there’s a lot to get excited about here. Energy Transfer yields a gargantuan 15.3% at current prices, which isn’t far from the highest point its yield reached during its 2016 price collapse.

Normally, a yield that high is a sign of a company in deep distress and at risk of cutting its distribution. Yet it would seem that Energy Transfer’s distribution is safe, at least for the foreseeable future. As of its most recent quarterly report, it’s coverage ratio was a healthy 1.7 times, and the company is massively reducing its capital spending outlays to further protect its balance sheet.

A high and sustainable yield should by itself be a catalyst for higher stock prices. Investors won’t let a 15% yield go unnoticed for long.

Best Stocks for 2020: Joe Biden and ET Stock

But there is another catalyst coming that might paradoxically be very strong for Energy Transfer. Democrat administrations tend to be much harsher than Republican administrations when it comes to pipeline regulation. You would think that a friendlier regulatory regime would be beneficial to this sector, but you could make a strong case that the exact opposite is true.

If former Vice President Joe Biden wins the presidential election, it’s very likely that new pipeline construction will all but dry up. That may be bad for America’s energy competitiveness, but it’s arguably far better for existing pipeline investors. One of the biggest grumbles among long-suffering investors is that Energy Transfer and other major operators grow for the sake of growth, irrespective of margins.

If Energy Transfer quit building new pipelines for a while, it could pay down its large debt load, build a stronger balance sheet and potentially be in position to raise distributions going forward — or even repurchase its stock.

We shall see. But in the meantime, in Energy Transfer you’re getting a cheap infrastructure stock with a massive distribution yield. Whether or not it wins the Best Stocks contest, that’s not too shabby.

Charles Lewis Sizemore, CFA is the principal of Sizemore Capital Management LLC, a registered investment adviser based in Dallas, Texas. As of this writing he was long ET.


Article printed from InvestorPlace Media, https://investorplace.com/2020/06/best-stocks-for-2020-energy-transfer-stock-is-still-a-pipeline-to-profits/.

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