They say hope springs eternal, a fitting thought for the beginning of the vernal season. And it may also be a fitting thought as we look at the stock market, where last week – the last week of winter – showed us strong gains across the main indexes.
The market’s impressive week, its best since November 2020, was on the mind of Raymond James Chief Investment Officer Larry Adam, who wrote, “While the spring season springs forth fresh blooms, warmer temperatures, and more daylight, it may also bring renewed hope for equities… even though the S&P 500 [still stands at] the level from last [September], there is reason to believe that the ‘forecast’ will improve not only for us, but for the equity market too.”
Among the catalysts that Adam sees boosting stocks in the weeks to come, three stand out. The first is last week’s policy shift by the Federal Reserve. With the Fed having implemented the first rate hike of the year, and committed to another three to six such hikes by year’s end, the central bank has removed a source of uncertainty that had weighed on investors’ minds.
Second, Adam sees the current low-price environment as positive for share buybacks. He believes that buybacks will increase going forward, as companies take advantage of low share prices to make larger purchases.
And finally, Adam points out that there is a possibility of negotiations bearing fruits in the Russo-Ukraine war. While the Russians still have the advantage, through force of numbers and firepower, Ukraine’s strong military defense puts that country in a sound position to enter talks. Adam notes that Ukraine has expressed some willingness to accept status as a neutral state, in return for a cessation of hostilities.
Adam’s colleagues among the Raymond James stock analysts have taken his bullish leanings and run with it, picking out the stocks they see as winners in the current environment. In an interesting move, they have tapped two dividend stocks as choices for investors to buy now. These are high-yield payers – in the range of 8% – high enough to stay attractive even when the Fed starts raising rates.
Sunoco LP (SUN)
We’ll start with Sunoco, an easily recognizable name for anyone who drives a car. Sunoco is the largest US wholesale distributor of motor fuels, with its distribution services reaching more than 10,000 locations in 33 states. Sunoco provides retailer with both branded and unbranded fuels, and the company’s scale allows it to economize on pricing. In addition to fuel distribution, Sunoco’s operations include 23 company owned and operated fuel terminals, to ensure a reliable fuel supply. Sunoco LP also works in the ‘transmix’ niche, collecting fuels – mainly gasoline, diesel, and jet fuels – that have been mixed in the transmission pipelines (hence transmix), and reprocessing them to reduce waste.
Dipping in to Sunoco LP’s most recent quarterly report, for 4Q21, we find that the company reported gains on two key metrics. First, product demand was slightly up. The company reported selling 1.9 billion gallons in Q4, which was a 3.1% year-over-year gain. And second, due to rising prices, the ‘fuel margin for all gallons sold’ came in at 12 cents, which compares favorably to the 9.2 cent margin recorded in the year-ag quarter.
Stronger sales and better margins naturally led to a more robust cash flow, and Sunoco LP reported a distributable cash flow of $143 million in the quarter. This represented a 47% increase y/y.
The distributable cash flow is important to investors as it supports the company’s dividend payments. Sunoco LP has a 9-year history of keeping the dividend reliable, and has maintained the current payment, of 82.55 cents per common share, for the past three years – including the period at the height of the corona pandemic crisis. The dividend annualizes to $3.30 per common share, and gives a yield of 8%.
Justin Jenkins, 5-star analyst covering Sunoco for Raymond James, highlights the key points driving the bullish thesis for the stock. Among them are: “Strong execution, confidence in the continuation of strong profitability, and the upside potential from medium-term business optimization and M&A opportunities.”
The analyst added, “These efforts, along with capital/cost discipline, have allowed for considerable free cash flow generation, positioning the balance sheet with solid flexibility, which will be utilized to further grow the business (e.g., announced transmix/terminal acquisition). While the macro backdrop is still throwing curve balls (e.g., omicron uncertainty, Russia fears, etc.), we see a broadly recovering volume trend throughout 2022 offsetting any decrement to fuel margins.”
Jenkins uses these comments to back up his Outperform (i.e. Buy) rating on Sunoco shares, while his $48 price target implies an upside of 16% for the coming year. Based on the current dividend yield and the expected price appreciation, the stock has ~24% potential total return profile. (To watch Jenkins’ track record, click here)
All in all, the Street’s analysts are split down the middle on this one, although the bulls have the edge; based on 4 Buys and Holds, each, the stock qualifies with a Moderate Buy consensus rating. The average target price, at $45.25, suggests ~9% upside potential for the current $41.52 trading price. (See SUN stock analysis on TipRanks)
Holly Energy Partners (HEP)
Next up is Holly Energy Partners, a limited partnership formed by the HollyFrontier parent company to spin off and provide crude oil and refined petroleum product transport, terminal, storage, and throughput services to the oil industry generally. HEP operates through subsidiaries and joint ventures, through which it owns and manages major assets in Idaho, Kansas, Nevada, New Mexico, Oklahoma, Texas, Utah, Washington, and Wyoming, along with smaller assets in other states.
While oil and refined products are big business, Holly saw its top line shrink at the end of last year. The 4Q21 revenues came in at $118.5 billion, $9 million lower than the year-ago quarter. EPS was reported at 43 cents, missing the 47-cent forecast and also down from the 49 cents reported in 4Q20. The company attributed the declines to a shift in one refinery to renewable diesel, and to lower pipeline volumes due to refinery maintenance activities.
Despite the slow fall-off in earnings, HEP is still able to fund its dividend without dipping into its cash holdings. The most recent declaration, at 35 cents per common share, annualizes to $1.4 per share and gives a yield of 8.5%. This compares favorably to average dividend yield on the broader markets, which stands between 1.5% and 2%.
Last summer, HEP announced that it had entered an agreement to buy up almost all of the assets of the venerable Sinclair Oil company. The transaction is estimated at $2.6 billion, and was completed on March 15. The merged company, now called HF Sinclair, will replace HEP’s previous parent company, HollyFrontier, and trade under a new ticker, DINO.
With the acquisition in place, HEP will continue to operate as a partnership company and to trade under its own ticker. It will own and manage the expanded logistics aspect of the combined Holly-Sinclair networks: product pipelines, storage, and terminals.
Speaking of the Sinclair deal, Raymond James’ Justin Jenkins says: “Longer-term, we like the added scale/diversification from the deal (base cash flows serve as a reliable “floor”). Further, with free cash flow generation relatively on track, the balance sheet remains on a favorable trajectory to absorb the cash portion of the deal.”
Jenkins goes on to add, “The Holly/Sinclair franchise combinations remain front and center. We continue to appreciate the improved scale in both refining and renewable diesel at pro forma HFC which creates better visibility at HEP (and we remain comfortable with our outlook for ~$75 million of annual EBITDA from the transaction at HEP).”
These comments support an Outperform (i.e. Buy) rating from the analyst, whose $20 price target indicates room for 21% share growth in the year ahead. (To watch Jenkins’ track record, click here)
So, that’s the Raymond James view, what about the rest of the Street’s take? 2 Buys vs 1 Sell presents HEP with a Moderate Buy consensus rating. The shares are trading for $16.47 and their $19 average target suggests a one-year upside potential of ~15%. (See HEP stock analysis on TipRanks)
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Disclaimer: The opinions expressed in this article are solely those of the featured analysts. The content is intended to be used for informational purposes only. It is very important to do your own analysis before making any investment.