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Ignore the Short Sellers and Double Down on This Energy Stock

Oil’s recent rally, which sees the North American benchmark West Texas Intermediate (WTI) trading at over US$60 per barrel, has brought the spotlight back onto beaten-down energy stocks. One that has been roughly handled by the market to be down by 21% for the year to date is Enbridge Inc. (TSX:ENB)(NYSE:ENB). The company’s sell-off, which began a year ago, leaves it an attractively priced for investors. 

Now what?

Enbridge owns and operates pipeline, storage, and other infrastructure, which is critical to North America’s energy patch. In early 2017, the company completed the needle-moving $166 billion merger with Spectra Energy Corp. creating one of North America’s largest infrastructure companies.

Primarily because of that deal and planned asset sales, Enbridge reported a 15% year-over-year decline in earnings per share. It is this weakness, along with the prolonged slump in crude as well as a sharp drop in EBITDA for Enbridge’s gas transmission and midstream business, which has attracted considerable interest from short sellers. This has seen Enbridge, at the time of writing, ranked as the fifth most-shorted stock on the TSX.

Nevertheless, there is every sign that the short sellers are wrong about Enbridge.

Notably, 2018 earnings should receive a healthy bump from higher oil prices. The marked rally in WTI has triggered an uptick in activity in North America’s energy patch. That has driven an increase in the volume of oil being produced, which will lead to greater demand of Enbridge’s infrastructure assets, including its storage and transportation services.

As transportation volumes increase, so too will Enbridge’s earnings.

Then there is positive effect of U.S. tax reform on Enbridge’s net earnings. Trump’s tax cuts, which saw the corporate tax rate slashed from 35% to 21%, will give the bottom line of Enbridge’s U.S. operations a healthy boost.

These factors, along with the company’s plans to extend its liquids pipeline, natural gas transmission, and gas utility businesses, will give earnings a healthy bump.

The stability of Enbridge’s earnings and their sustainable growth is supported by the company’s plans to boost capital, increase investment in its core operations, and divest non-core assets. Enbridge has identified $10 billion in non-core assets, which it plans to sell between now and 2020 with at least $3 billion to be generated from asset sales in 2018. Most of those assets are non-regulated gas midstream and renewables businesses, which are vulnerable to earnings volatility.

You see, one of the most attractive aspects of Enbridge is its wide economic moat created by steep barriers to entry to its industry, which, along with a large portion of its revenue being contractually locked in, protects its earnings. That virtually assures earnings growth during times of higher oil and gas production, because Enbridge is one of the few energy infrastructure companies with transcontinental reach.

In fact, it is poised to benefit from a firmer outlook for the U.S. economy, as Trump’s fiscal stimulus kicks in, which will spark greater demand for oil and gas, further bolstering earnings. 

So what?

While Enbridge’s 2017 headline numbers may have disappointed the market, the solid performance of most of its underlying businesses combined with a positive outlook saw it hike its dividend by 10%. That was the 22nd consecutive year where Enbridge has hiked its dividend, rewarding investors with a juicy 6% yield, while they wait for its stock to appreciate.

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Fool contributor Matt Smith has no position in any stocks mentioned. The Motley Fool owns shares of Enbridge. Enbridge is a recommendation of Stock Advisor Canada.

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