Don’t Buy the Rally in BP

This is not going to be an article to bang on another oil company. BP (NYSE:BP) has been one of the steadiest performers over the last 25 years. And, you could make a case that BP stock was oversold as the market reacted to the global lockdown measures that caused oil prices to fall off a cliff.

Wait for Oil to Stabilize Before Loading up on BP Stock
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But the economy is starting to reopen. And that is having a positive effect on BP stock, which has climbed nearly 12% in the trailing month. However, the stock has dropped 14% from June’s peak as the market continues to show concerns over the novel coronavirus and its effect on the economy.

The pullback may make BP an attractive option for some investors. But I think this is a rally you should avoid. The upside for the remainder of the year looks as cloudy as the outlook for oil stocks.

Oil Demand Is Not Expected to Return This Year

Despite hopes for a “V-shaped” recovery, it’s looking more likely that the economy will not rebound as quickly as many had hoped. According to the International Energy Agency (IEA), global oil demand is likely to contract in 2020. This would be the first such contraction since 2009 as the economy was emerging from a global recession.

The report goes on to forecast a sharp rebound for oil prices in 2021. However, after that, the agency forecasts that global oil demand will grow at an annual rate of 950,000 barrels per day (kb/d) through 2025. This would be in contrast to the 1.5 million barrels per day (mb/d) annual pace that oil has followed in the past 10 years.

BP Still Maintains Their Dividend…For Now

BP managed to do what virtually every other company could not. The company maintained its dividend. At the time of this writing, BP stock had a dividend yield of over 10%. That makes it attractive for value investors. But there’s no guarantee that the company will maintain that dividend over time.

A recent Seeking Alpha article pointed out that Morgan Stanley expects BP to cut its dividend by approximately 50%. Prior to the pandemic, BP was planning to sell up to $5 billion in assets through the middle of 2021 to support its dividend.  However, it would make less sense for BP to sell those assets in the midst of a recession. And if they do, they will probably fall short of the asking price.

Plus, in the company’s most recent earnings call, BP affirmed its long-term commitment to the dividend. But it also made it clear that as part of the company’s response to the pandemic, the company’s board of directors was meeting every week to evaluate all aspects of the company’s strategy, including the dividend policy.

BP is also not a dividend aristocrat. The company has not been shy about cutting its dividend in the past when circumstances dictated. However, none of this means a dividend cut is imminent, but if oil prices retreat from their current levels, then investors would have to assume that a dividend cut is at the very least under consideration.

Why Now Is the Time to Hold Off on BP Stock

BP carries a lot of debt. In fact, BP has the highest debt-to-capital and debt-to-equity ratios in comparison to its peers.

However, unlike other oil companies, there is no concern about BP moving forward as a going entity. The balance sheet is not as clean as investors would like, but the company has been a solid performer that cannot be accused of dismissing shareholder equity.

All that being said, if the IEA is correct and oil demand remains suppressed for the remainder of the year, then BP stock may be priced appropriately. Analysts do have a consensus 12-month price target of over $39. That means that if oil prices truly rebound next year, BP could go climbing to near where it was before the pandemic.

But there are better stocks for growth investors to focus on now. And even value investors can look at other companies whose dividend is more secure.

Chris Markoch is a freelance financial copywriter who has been covering the market for over five years. He has been writing for InvestorPlace since 2019. As of this writing, Chris Markoch did not hold a position in any of the aforementioned securities.

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