Don't Underestimate The Power Of A Good Oil Dividend

Includes: BP, COP, O, RDS.B, TOT
by: Tim McAleenan Jr.

One easy way to add some income ballast to your dividend portfolio today is to buy a large energy supermajor. In particular, the types of companies that I have in mind are: Total SA (NYSE:TOT), ConocoPhillips (NYSE:COP), BP (NYSE:BP), and Royal Dutch Shell (NYSE:RDS.B). While some folks out there are rushing into MLPs that are yielding 7-8% (including some return of capital!), some perfectly good energy giants are sitting out there yielding 4-6% while offering earnings yields in the vicinity of 10%. Unless you are predicting an impending decline in the price of oil over the coming three to five years, these companies offer solid current income possibilities with the reasonable likelihood of future dividend growth.

The thing is, these reliable high yielders rarely get the mainstream respect they deserve due to long periods of small stock movement and the volatile underlying nature of a commodity-based investment. If you turn it on to CNBC or watch some program that discusses the stock market, they would probably look at something like Royal Dutch Shell and laugh. They would probably pull up a chart, show you that Royal Dutch Shell has been trading at $65 since 2008, call the company some patronizing term like "dead money," and then move on.

Fortunately, for dividend investors, we can often find opportunities in these seemingly overlooked stocks that do not experience substantial stock movement.

All right, so Royal Dutch Shell traded at $65 in 2008 before the financial crisis happened. Today, it trades at $65. No capital appreciation. Seems like a dud investment, right?

Well, fortunately for Royal Dutch Shell investors, they received a healthy dividend payout in 2008, 2009, 2010, 2011, 2012, and so far in 2013.

The 2008 payout was at $3.12

The 2009, 2010, and 2011 payout was at $3.36.

The 2012 payout came in at $3.42

In the first quarter of 2013, Shell paid out $0.86 per share.

For an investor that purchased 100 shares of Shell in 2008 at $65 per share, he would received: $312 in 2008, $1008 from 2009-2011, $342 in 2012, and $86 so far in 2013. That comes out to a total of $1,748 since 2008. If you decided to plow that money back into more shares of Royal Dutch Shell today at $65, you could add just shy of 27 shares to your Royal Dutch Shell holdings. That would have grown $312 in annual 2008 income to $436 today (and the figure would be higher if you directly reinvested along the way, because Royal Dutch Shell would have traded at low price points in the $40s and $50s during the various reinvestment dates in the past five years).

The energy supermajors are enjoyable to own because they provide real diversification (generally, declines in the price of oil are good for most S&P 500 businesses, while the benefits of rising oil prices are generally limited to energy companies and a few small ancillary industries). Additionally, energy companies provide a regular source of ready capital to be deployed elsewhere.

If you are an income investor in the accumulation phase of your investment journey, it can be worthwhile to get your hands on some assets that can immediately generate 5-7% relative to your initial investment so you can always have predictable money coming through the door that you can deploy elsewhere.

Right now, it is hard to find a lot of high yielding investments that are trading at fair value or less. Most MLPs are making record profits at a time of low interest rates, and that has led to some rich valuations (I honestly cannot understand why an investor would prefer an MLP yielding 6% that includes a return of capital to a company like Shell that is paying out 5.26% in profits and offers a normalized earnings yield of 13%). Excellent companies like Realty Income (NYSE:O) are trading at valuation multiples above their historical P/FFO range. Rationally valued companies that offer 5% or greater current income are hard to find. If you are looking for solid current income that also sets you up for reasonable capital appreciation over the next 5-10 years, it could be worthwhile to take a look at BP, Shell, and Total.

Disclosure: I am long BP, COP. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.