Some of the highest yielding investments around are oil and gas royalty trusts. These trusts are high yielding because they pay out almost all profits to shareholders. Unlike major oil companies such as Exxon (XOM) or Chevron (CVX), oil trusts are actually forced to distribute 90% of their income to shareholders. This means that the dividend payments can be quite volatile because profits depend almost exclusively on the price of oil. In addition to their high dividend yields, royalty trusts are attractive investments because of their special tax structure. Dividends are taxed once as personal income for each shareholder. This compares to a normal corporation which pays corporate tax prior to distributing dividends.
One important risk to consider when investing in oil royalty trusts is that the trusts are usually a depleting assets. The trust usually owns production line of oil that is slowly in decline. In the U.S. Royalty trusts are not allowed to have employees, make acquisitions, or do anything other than serve as a pass through entity. In Canada, royalty trusts are allowed to act like a regular corporation. Canadian trusts can buy into new ventures, take out debt, and act like any regular corporation. However, Canada is also in the process of passing legislation that will tax oil trusts at the corporate rate of 31.5%.
Oil trusts are a great buy for investors who are looking for both yield and inflation protection. In the event that inflation is low, payouts are likely to be lower, but as inflation rises so to will dividends paid out by royalty trusts. Because of the risk associated with future production, oil trusts should be bought in groups. Buying a group of 4 or 5 quality royalty trusts is a better idea than buying just 1 royalty trust.
Royalty trusts to consider
- BP Prudhoe Bay Royalty Trust (BPT) yield: 8.11%
- Cross Timbers Royalty Trust (CRT) yield: 5.91%
- Hugoton Royalty Trust (HGT) (natural gas) yield: 7.08%
- MV Oil Trust (MVO) yield: 8.81%
- Permian Basin Royalty Trust (PBT) yield: 6.57%
- Pengrowth Energy Corp (PGH) (Canada) yield: 7.43%
- Penn West Petroleum (PWE) yield: 5.28%
- Sabine Royalty Trust (SBR) yield: 6.23
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.