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How the Iran Oil Sanctions Can Bolster Your Dividend Income

November 07, 2018

The decision to reimpose trade and financial sanctions on Iran is a much bigger deal than the market is pricing into the petroleum market. The nation has been exporting 2.7 million barrels per day (BPD) in crude oil and some 13 billion cubic meters of natural gas per month.

Its customers are primarily in Europe and Asia. And while there are some near-term waivers for some nations in Asia, these waivers are only meant to allow these nations to seek alternatives and therefore not completely shock the global oil market.

The decision comes around the same time as the International Energy Agency (IEA) was coming out with its forecast that the supply/demand gap in oil alone is set to reverse the improvements in the second quarter to a deficit of 200,000 BPD—and that’s before the Iran cut-offs are factored in. This means that if the Iran sanctions hold and the waivers are rolled off, the deficit for the global crude market alone could head closer to 3 million BPD, unless the producers of the Organization of Petroleum Exporting Countries (OPEC) and Russia can step up production.

And this is not necessarily in the cards. Saudi Arabia’s prime Ghawar field is already seen to be in decline, with only limited additional lift capacity to pump more crude. As for Russia, with its own US and European sanctions on financial dealings, it has limited capital and technical ability to rapidly increase production. And operators in smaller OPEC nations like Libya and Nigeria are experiencing disruptions of their own.

That brings in the US—the world’s largest petroleum producer. The IEA just reported that US stockpiles of crude are only sitting at 2 million barrels for the most recently reported week. That is still not enough to meet overall demand following the Iran sanctions.

There is little to be expected for negotiations between Iran and the US. It isn’t just about the nation’s nuclear weapons programs. The US has series issues with much of Iran’s support of various political and military conflicts, particularly in the Middle East and particularly against Israel, and most don’t see Iran blinking anytime soon.

The petroleum market is mispricing oil right now. US West Texas Intermediate (WTI) is sitting at less than $62.00 a barrel. And global Brent crude is below $73.00 a barrel.

The argument is that with slower overall global growth, including for China, and some pessimism for continued prosperity in the US economy, oil demand will soften, resulting in lower prices. Further, with the glut of oil in the US, there’s an implied cap on oil prices over time.

But that is missing the big problem in the US oil market. There is a glut because there is a backlog in oil that has to flow through existing pipelines to refineries as well as marine export terminals.

That is changing. Thanks to the Trump Administration stepping in to streamline approvals for expanding and adding pipes, the takeaway capacities for much of the pipe networks, particularly from the Permian Basin in Texas, will be improving quickly next year.

And thanks to the Canadian government in Ottawa greenlighting pipes and even directly funding pipes for oil and gas to get more moving from its western fields to refineries and export terminals, we will see improvements there, as well.

This leads me to draw your attention to a couple of prime companies in the oil and gas market in the US and Canada that are good dividend payers and are trading at a discount right now.

One of the best companies with a big bite of a dividend is Viper Energy (VNOM). Viper owns vast stretches of Permian Basin oil and gas land that in turn it leases out to exploration and production companies. It collects lease income as well as royalties on the oil and gas lifted from its properties and pays out a nice portion of that cash to shareholders.

Its advantage is that it doesn’t have to invest in major capital expenditures, so it is insulated from some of the oil price risk. Even if oil doesn’t go north in price, Viper is amply profitable at current or even lower oil prices. In addition, it has land still to be developed, with the potential for even more cash flow from lifted petroleum. And with added pipe capacity, its E&P companies will be able to pump more petroleum for more royalty income.

Revenue is up over 117.40% over the trailing year, and given its structure, its operating margin is wildly high at 66.20%. This is driving a big dividend of 6.70%, which pulled back from the recent high of the previous quarter. However, with further property development and improved pipelines, the dividend should further rise.

My other recommendation for you is Pembina Pipeline Corporation (PBA), a Calgary-based Canadian oil and gas infrastructure company. It plugs into fields of conventional and oil sands petroleum as well as natural gas fields. It is well-positioned to be a beneficiary of Canada’s drive to bolster oil and gas shipments to US refiners, and even better positioned to benefit from a ramp-up in  natural gas exports via liquified natural gas (LNG) to Asia.

Canada is working to build out its export capability to Asia, and Pembina should be a part of this process, which the government is assisting with regulatory aid and financial support.

Already, Pembina is ramping up revenues, with the trailing year seeing gains of 24.90%. And with its operating margin at a nice 20.70%, the company delivers a good return on its shareholder’s equity of 13.50%. And its stock is priced at low 2.01 times its book value, making for a bit of a bargain.

The dividend is ample at 5.01% and is up in distributions by 12.82%. With further development in its market, that distribution should be further buoyed, making for a better buy right now.