Well, I have some catching up to do. My pick in the InvestorPlace 10 Best Stocks for 2021 contest, blue-chip pipeline operator Enterprise Products Partners (NYSE:EPD) stock, is off to a respectable start, up 13%.
It’s still early, of course, and the tortoise often ends up beating the hare.
And this is exactly how I would classify EPD stock. It’s the quintessential tortoise investment. It plods along, slowly but surely, and throws off a lot of income in the process. And if one or two of the higher-flying entrants this year happens to stumble, Enterprise Products could sneak in for the win.
Energy Stocks Finally Found Their Footing
2020 ended up being a great year for major equity indexes, which happened to be heavily weighted towards technology stocks. But it was death for many value stocks and for energy stocks in particular. Enterprise dropped to levels first seen in 2001, erasing nearly two decades of gains — and the stock is still sitting about 25% below its pre-COVID highs.
And those pre-COVID highs were well below the stocks all-times highs set back in 2014. It seems like an eternity ago, but Enterprise Products used to trade above $40 per share.
Enterprise Products normally has very little exposure to commodity prices. Its primary business is pushing natural gas and natural gas liquids through pipelines, and its revenues are based on the volume delivered. But investors start to questions when the competitive situation gets dire in the American energy patch For the first time, counterparty risk because a real concern last year. Enterprise Products’ pipeline contracts aren’t worth the paper they’re printed on if the party obligated to pay is bankrupt.
That said, these fears were overblown. Not only did Enterprise products survive last year with no major setbacks, it actually raised its distribution, albeit only slightly. The company has raised its distribution for 22 consecutive years and counting.
Why EPD Stock Is a Buy
To start, value stocks are heating up at the moment, and I expect that to continue. We are coming off a 14-year stretch of growth outperformance relative to value. That’s one of the longest in history.
Interest rates play a role here. Stock valuation models use discount rates that are based on prevailing bond yields. Higher discount rates reduce the present value of future earnings. That matters a lot more for a speculative growth play in which the stock’s value is almost exclusively tied to earnings expected years or decades in the future.
These same dynamics affect a cash-cow company like Enterprise Products much less. The stock’s value is tied mostly to its high distribution, which is paid in the here and now.
Furthermore, energy demand is already rebounding as more and more of the world starts to lift pandemic restrictions. That’s only going to continue in 2021 and beyond.
But really, the greatest selling point for Enterprise Products is and always has been its distribution. In a world in most bonds still yield less than 2%, Enterprise Products near-8% distribution looks almost too good to be true.
But true it is, and the distribution is well covered. Distributable cash flow covered the distribution last year by 1.6 times, and new growth projects coming on line this year should ensure that the distributions keep flowing. Co-CEO James Teague had this to add in the company’s earnings release for the fourth quarter of last year:
“In 2021, Enterprise has three major growth capital projects scheduled to begin commercial operations: an expansion of one of the partnership’s ethane pipelines serving the petrochemical industry on the U.S. Gulf Coast (first quarter 2021); our Gillis natural gas pipeline that will deliver Haynesville production to LNG markets in southwestern Louisiana (fourth quarter of 2021); and a hydrotreater in Mont Belvieu that will remove sulfur in natural gasoline (second half of 2021). These projects will provide new sources of cash flow to the partnership.”
Playing with the numbers, simply returning to pre-COVID prices would mean price returns of around 30%. Adding the distribution gets you to around 38%. That’s conservative. Returning to the stocks all-time highs would get us to well over 80% including the distribution. These are not farfetched numbers at all. In fact, I’d argue they are conservative. This is a growing, healthy company and it’s absurd that it’s still trading at prices first seen in 2011.
So, will any of this be enough to give Enterprise the Best Stocks crown in 2021?
We’ll see. Only time will tell. But regardless of how the stock finishes this year, I consider EPD stock a fantastic income-producing mainstay for any retirement portfolio.
On the date of publication, Charles Sizemore has a long position in EPD.
Charles Sizemore, CFA is the principal of Sizemore Capital Management, a registered investment adviser based in Dallas, Texas specializing in income and retirement strategies.