Economists predict a mild recession could occur in Canada and the U.S. this year. During recessions, there’s a lower demand for energy. Additionally, energy stocks like Canadian Natural Resources (TSX:CNQ) and Suncor Energy (TSX:SU) have had great run-ups since the pandemic.
Timing the market can lead to multi-baggers when investing in cyclical energy stocks
Specifically, investors who were able to time the pandemic bottom and rally perfectly would have grown their money seven-fold in Canadian Natural Resources stock from price appreciation alone in a holding period of about two years and two months. On top of that, they would have pocketed about 36% of returns from dividends in the period.
Similarly, an investment in Suncor stock would have tripled their money from price appreciation in a holding period of about two years and three months. On top of that, the dividend return was 16% in the period.
The above are but two examples of excellent market timing in the cyclical stocks that benefited from an economic expansion helped by quantitative easing and low interest rates coming out of the pandemic. We are in a different stage of the economic cycle now after the Bank of Canada made a total hike of 4.25% in our policy interest rate in the last year or so. The last two announcements saw the policy interest rate holding steady at 4.50%, as our central bank observes the effects of higher interest rates to the inflation and the economy.
It can be difficult to time investments in volatile energy stocks
In fact, the stocks of Canadian Natural Resources and Suncor are down over 6% and about 8%, respectively, so far this week. This could be the beginning of a downturn in energy stocks. Yet it’s possible that a swift pop could occur in the energy stocks after meaningful dips, as it’s typical for the stocks to be seasonally strong in the summer months.
CNQ has been a better performer
Between Canadian Natural Resources and Suncor Energy, the former has been a better performer. First, we saw that it delivers stronger total returns. Second, during the pandemic, CNQ amazingly continued raising dividends, unlike Suncor, which cut its dividend by 55%. That said, Suncor did recover its pre-cut dividend in two years by May 2022, which shows management’s commitment to returning value to shareholders through dividends.
Valuation and dividend safety
At $39.15 per share at writing, Suncor offers a dividend yield of 5.3%. Analysts also believe the stock trades at a discount of about 27%. Suncor’s trailing 12-month (TTM) payout ratio was 29% of earnings and 25% of free cash flow. The company has an S&P credit rating of BBB.
CNQ offers a dividend yield of 4.7% at $76.98 per share at writing. Analysts also believe the stock trades at a discount of roughly 16%. CNQ’s TTM payout ratio was 45% of earnings and 34% of free cash flow. Additionally, the company has an investment-grade S&P credit rating of BBB-.
Investor takeaway
Energy stocks like CNQ and SU are blue-chip stocks in the energy sector. However, they are cyclical and could course-correct this year and experience a downdraft if the economy weakens. Investors should be careful and brace for impact. Between the two, Suncor stock appears to offer a better margin of safety.
