Energy stocks have fallen over the last two months, as oil prices dropped below US$80/barrel. Also, the summer months are seasonally weak for energy companies, as you can see from your electricity bills. Such a dip is a pleasant time to buy energy stocks, as they are well known for dividends. Energy companies earn money by selling electricity, fuel, and gas, which have a never-ending demand. Here is one energy stock that pays you a monthly dividend and it is currently yielding 8.4% because of the energy bears.
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The energy stock I am bullish on
TransAlta Renewables (TSX: RNW) is a mid-cap energy stock known for its Kent Hills project. The company builds/acquires, and operates wind, solar, hydro, and natural gas facilities in Canada, the United States, and Australia. Renewable energy firms have long been deprived of growth, but they hold the potential.
The impact of climate change is worsening every year, calling for the need for immediate measures. The Justin Trudeau government is introducing a second carbon tax from July on fuel companies with high carbon footprints. While renewable energy firms are struggling, they are the future, and there is no denying it.
The energy stock with an 8.4% dividend yield
TransAlta Renewables stock slipped 24% in December when it announced a bleak outlook for 2023 as a major contract expired and high inflation increased its operating cost. Moreover, higher interest rates increased the cost of servicing its $800 million debt, which it raised to acquire Windrise.
Despite the challenges, TransAlta Renewables is holding on to its monthly dividend per share of $0.07833 by channelizing its entire cash flow available for distribution towards dividend payments. The management has been paying regular monthly dividends since August 2013 and has grown it five times in nine years. It doesn’t want to break its record by announcing a dividend cut, unless it is crucial to sustain the business.
The first-quarter earnings saw an 85% payout ratio, which is pretty high. Moreover, its revenue also fell as it produced 91 gigawatts less energy due to low wind and water resources and a longer plant outage. These are normal seasonal fluctuations and do not impact TransAlta Renewable’s long-term operations. If these conditions prolong or worsen, the company might consider slashing dividends to service its debt. But the conditions look neutral so far.
Hence the 23% dip in the company’s stock price to $11.16 inflated its dividend yield to 8.4%. The stock continues to remain oversold over fears of a dividend cut. Even if we take the worst-case scenario, where the company slashes its annual dividend by 33% to $0.62, your dividend yield would be 5.5% ($0.62/$11.16). Most Canadian energy stocks pay an average dividend yield of 5.5-6.5%.
The energy stock that pays monthly
And if you are wondering about the dividend payout, TransAlta Renewables is among the few energy companies that give monthly payouts. TransAlta Renewables is a good stock to diversify your monthly dividend portfolio beyond real estate investment trusts.
If the company overcomes these difficult times without dividend cuts, it could rally back to its $16-$19 range, representing a 40-70% upside from the current trading price. Consider an 8.4% yield as the premium for taking the risk of a dividend cut, which is difficult to predict. The second half of 2023 could see some upside momentum, as its Kent Hills project returns to service. This project dragged the company’s profits as its longer-than-expected outage increased cost.
The risk/reward trade-off
If you invest $1,000, you can buy 89 shares of TransAlta Renewables at $11.16/share and earn $6.97 in monthly passive income. In the best-case scenario, the stock recovers to its 2022 average price of $16. Then your portfolio could grow to $1,424 + $83 in annual dividends.
In the worst-case scenario, the company could slash its dividend by 33%, reducing its annual dividend to $55.2. The stock could fall 20%, reducing your portfolio value to $800 + $55.2. If you weigh the risk and rewards, TransAlta Renewables stock has a higher upside of $500 and a lower downside of $145.
