Canada markets closed

Why Buying Energy Stocks in 2020 Is a Necessary Risk

Victoria Hetherington
A person suffering

As one of the cornerstones of the Canadian economy, energy is a necessary part of a balanced TSX portfolio. As with any other investment, though, there is no way of totally avoiding risk in energy stocks. But some risks are less necessary than others, and some energy themes bring more upside. For example, energy investors can buy into regulated utilities for steady, long-term wealth creation.

However, low mid-pandemic energy usage has been generating unforeseen headwinds. The threat of cheap electricity hangs over every name in the energy space. Clean power faces far fewer headwinds than hydrocarbons, however. And although a ban on conferences makes new deal-making harder, clean energy nevertheless remains a global mega-trend.

Build energy stock positions the low-risk way

One way to play this market is to hold cash and operate portfolios on a build-and-trim basis. Rallies are useful, but not necessarily to be trusted. Indeed, unearned rallies now could mean another market crash later. Investors should think about selling some shares in underperforming energy names during these bullish moments.

Portfolios can be trimmed into rallies according to the performance of each stock. A long-term investor padding a  Tax-Free Savings Account (TFSA) or feathering a retirement nest using an RRSP should find this method of portfolio effective.

Conversely, energy investors should feed some of their liquidity back into stronger names during the next market down cycle.

Regulated utilities stocks became sought-after during the market crash. Utilities are still a defensive cornerstone of the TSX. Names like Fortis (TSX:FTS)(NYSE:FTS) have held up reassuringly well during the extreme volatility of 2020’s market conditions.

At the end of the day, energy is an essential commodity in any society. It belongs in every investment portfolio. And with the value on offer in 2020, it makes sense to build positions right now.

A play for safe dividends

Fortis is a buy for its market share alone. A leader in the North American utilities space, Fortis sits on assets of $57 billion and serves 3.3 million customers.

Its revenue of $8.8 million should more than satisfy the defensive investor looking to hold only the sturdiest of energy names for long-term wealth creation. A 3.7% dividend yield is well-covered by a 50% payout ratio that also leaves room for payment growth.

Fortis investors could be looking at total returns of around 60% by the middle of the decade. Its earnings have grown by 51% in the past 12 months, showing an ability to prosper in uncertain times, which should help to assuage cautious investors eyeing Fortis’ balance sheet with concern.

A small point to rally around in this regard is Fortis’ ability to reduce its high debt level from 120% to 115% in the last five years.

An alternative play exists in green energy favourite Algonquin Power & Utilities. At 18%, its earnings growth has been lower in the last 12 months than Fortis. However, its outlook is brighter, with a projected 38% annual earnings growth.

A higher yield is also on offer from AQN at 4.7%. While a payout ratio of 78% allows less room for dividend growth than Fortis, it still signifies reliable coverage.

The post Why Buying Energy Stocks in 2020 Is a Necessary Risk appeared first on The Motley Fool Canada.

More reading

Fool contributor Victoria Hetherington has no position in any of the stocks mentioned.

The Motley Fool’s purpose is to help the world invest, better. Click here now for your free subscription to Take Stock, The Motley Fool Canada’s free investing newsletter. Packed with stock ideas and investing advice, it is essential reading for anyone looking to build and grow their wealth in the years ahead. Motley Fool Canada 2020