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A Classic Dividend Play That Comes At A Discount

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Maybe it is just the rose-colored glasses with which we look backwards, but it seems to me that there was a time when investing in energy stocks was a lot simpler. The reason was simple: mature companies in the sector generally paid high dividends, and over time a payout in the high single digits smoothes a lot of bumps. High dividends either makes a positive return extremely likely or provide a good source of income to spend or invest elsewhere. Those days, however, are gone. Ten years of ultra-low interest rates in response to the recession and the collapse of oil a few years ago have affected even the normally dividend rich energy sector and yields have fallen precipitously.

Even so, occasionally a dividend paying stock gets hit so hard that the yield climbs to an attractive level. When that happens, investors must decide whether the decline in the stock is potentially terminal or whether it is temporary or cyclical. If the latter, then the dividend payout gives some room to wait for the turnaround and acts as a hedge against the position.

That is the case right now with the pipeline company Trans Canada Corp. (TSX: TRP; NYSE: TRP).

(Click to enlarge)

TRP has, as you can see, had a miserable 2018 so far. That is as a result of a perfect storm of issues. Obviously, the big drop in natural gas prices since the beginning of February hasn’t helped the firm’s prospects but they have also had company specific problems. The now infamous Keystone XL is still problematic despite a very friendly White House, and recent oil leaks have led to even formerly supportive administrations and local governments to make some negative noise.

That price drop, however, has got to the point where TRP is yielding a very healthy 5.3 percent, and while the issues above are still a worry, both are now priced in and will most likely be mitigated over time. Natural gas prices are near the bottom of the range for the last couple of years, but from a trading perspective that makes a bounce more likely than further declines. The Keystone issue was big and in the news towards the end of last year but has faded from view since. There are various court cases related to the pipeline, but history indicates that when a challenge to a corporation fades from the headlines it is usually a sign that said corporation is getting their way. I know that will be depressing to many people, but trading and investing should be based on realism rather than politics or ideology and the fact is that Trans Canada, as a massive corporation, is a powerful entity.

Given that, TRP looks cheap at current valuations, even if the yield is ignored. The stock is trading at a trailing and forward P/E of 15.55 and 14.15 respectively, a significant discount to the broader market. Of course it could still go lower, but as things stand that five percent yield is attractive enough to make taking that risk worthwhile.




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