2 Energy ETFs Are Vulnerable to Dividend Cuts in case of Demand Shocks

Two dividend-paying energy ETFs outperform in 2022, although both are vulnerable to dividend cuts if OPEC lifts production cuts to bring down oil prices.

| More on:
Oil pipes in an oil field

Image source: Getty Images.

The energy sector is volatile but it’s a heavyweight on the TSX. If not for the sector’s continuing surge, Canada’s primary stock exchange would have entered correction territory already. As of February 25, 2022, the year-to-date gain is 24.57%.

For investors who want to simplify the selection process, exchange-traded funds (ETF) specific to the energy sector are available too. BlackRock’s iShares S&P/TSX Capped Energy Index ETF (TSX:XEG) and BMO Equal Weight Oil & Gas Index ETF (TSX:ZEO) are two examples.

However, individual stocks might be safer options today than either income-focused energy fund. Most of the energy companies have been generating significant cash flows due to the favourable pricing environment. Both energy ETFs are dividend-payers, although cuts are possible if demand shocks similar to 2020 happen.

Benchmark 1

BlackRock is the asset manager of iShares S&P/TSX Capped Energy Index ETF, the top-performer so far in 2022. At $13.18 per share (+24.57% year-to-date), XEG pays a 1.81% dividend.

The fund’s target exposure is Canada’s energy sector. Its investment objective is to deliver long-term capital growth. XEG replicates the performance of the S&P/TSX Capped Energy Index. The fund has a high-risk rating and holds 23 energy stocks led by oil majors Canadian Natural Resources (26.14%) and Suncor Energy (24.15%).

Regarding exposure breakdown, oil & gas exploration & production companies (57.15%) have the higher percentage weight than integrated oil & gas firms (42.17%). The main attraction of XEG is the dividend yield, and therefore, don’t expect much on capital appreciation. Still, the current share price is 85.4% higher than a year ago.

Benchmark 2  

BMO Equal Weight Oil & Gas Index ETF replicates the performance of the Solactive Equal Weight Canada Oil & Gas Index. The fund invests in the oil & gas sector, namely integrated (41.56%), storage & transportation (35.32%), and exploration & production (23.12%) companies.

Like XEG, the risk-rating of ZEO is high. If you invest today, the share price is $55.03 (+18.55% year-to-date), while the dividend yield is 2.8% dividend. While the fund’s focus is oil & gas, the asset manager maintains equal weights to lessen security specific risk.

The basket has fewer stocks (nine only) with Cenovus Energy as the top holding. ZEO has shares of Canadian Natural Resources and Suncor Energy too because both are integrated oil & gas companies. This ETF also mirrors the performance of the red-hot energy sector. Its current share price is the highest it has reached in 2022.

Alternative mutual fund with ETF

Ninepoint Partners LP recently announced plans to launch a new investment vehicle. Eric Nutall, its senior portfolio manager, said the Ninepoint Energy Income Fund will focus on cash-flush energy companies, so it could distribute income to shareholders.

The structure is an alternative mutual fund with ETF series. Nutall believes the multi-year bull market will sustain significantly high oil prices. Investors can also expect energy companies to increase dividends in the coming years. Since most players will reduce debts, the alternative is to return excess cash back to shareholders, he says.

Floodgates might open

Energy ETF investors can’t be complacent. XEG and ZEO are excellent dividend plays for now. However, if OPEC decides to increase production and arrest the price surge, oil stocks could tank. Thus, a slash or stop to dividend payments, stocks or ETFs, could ensue.

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium service or advisor. We’re Motley! Questioning an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and richer, so we sometimes publish articles that may not be in line with recommendations, rankings or other content.

Fool contributor Christopher Liew has no position in any of the stocks mentioned. The Motley Fool recommends CDN NATURAL RES.

More on Energy Stocks

oil and gas pipeline
Energy Stocks

TC Energy Stock Is Starting to Get Ridiculously Oversold

TC Energy (TSX:TRP) stock is one of those deep-value dividend plays for the next decade and beyond.

Read more »

A worker overlooks an oil refinery plant.
Energy Stocks

3 Top Energy Stocks With High Dividends

Investors looking for big dividends in the energy sector can explore these top energy stocks.

Read more »

Dollar symbol and Canadian flag on keyboard
Energy Stocks

3 Canadian Stocks You Can Confidently Buy Now and Hold Forever

You don’t need to think twice about loading up on these three top stocks.

Read more »

Aerial view of a wind farm
Energy Stocks

Is There Any Hope for Brookfield Renewable Stock?

Brookfield Renewable stock (TSX:BEP.UN) may be going through a rough patch, but recent moves suggest more is yet to come.

Read more »

edit Balloon shaped as a heart
Energy Stocks

If You Like Enbridge Stock, Then You’ll Love These High-Yield Energy Stocks

Do you like Enbridge (TSX:ENB) stock for its dividend but not the share growth? Consider these two top monthly payers…

Read more »

A solar cell panel generates power in a country mountain landscape.
Energy Stocks

Clean Energy Play: Is Brookfield Renewable a Good Stock for a TFSA?

Add this top renewable energy stock to your self-directed TFSA portfolio for significant long-term and tax-free wealth growth.

Read more »

grow dividends
Top TSX Stocks

Enbridge Stock Pays a Massive 7 Percent Dividend and Now is a Great Time to Buy  

Have you considered buying Enbridge stock lately? If not, you may want to buy this long-term gem to start earning…

Read more »

edit Woman calculating figures next to a laptop
Energy Stocks

Better Buy: Cameco Stock or Brookfield Renewable Stock?

If you're looking for a strong future, clean energy is the answer -- especially if you're looking at a strong…

Read more »