Dividend investors often look first at dividend yield and then at the company behind the yield. That’s not illogical, but they risk becoming enamored with the yield to such a degree that they overlook material facts. Devon Energy (DVN 0.64%) and its 6.3% dividend yield is a great example of this problem. Here’s why some investors might love Devon and why many more will probably want to avoid it.
Devon has a volatile business
Devon Energy produces oil and natural gas. There are many layers to the business, including things like production costs (which are fairly low at around $40 per barrel at West Texas Intermediate crude prices) and the ability to continue drilling new wells (it has a 12-year inventory of wells to drill). From this perspective, Devon is a well-run oil company.
That said, there’s a big wildcard that Devon can’t control: oil and natural gas prices. The company’s top and bottom lines are driven by commodity prices of the products it sells. The price of these vital energy commodities can be volatile, with quick and dramatic moves both higher and lower. The third quarter of 2023 highlights just how important a factor this is to the company’s financial performance.
Devon Energy earned $1.43 per share in the third quarter of 2023. That EPS was up from $1.08 in the second quarter of the year but down from $2.89 in the same quarter of 2022. There were a lot of moving parts across these periods, but the biggest issue was the impact of energy prices. A year ago West Texas Intermediate was at $91.87 a barrel. That fell to $73.76 in the second quarter of 2023 and then picked back up to $82.06 in the third quarter. Natural gas followed a similar pattern.
Devon’s dividend tracks Devon’s performance
Some companies in the energy sector focus on providing a reliable and growing dividend. That includes Chevron (CVX -0.06%), which has a 4.1% dividend yield backed by 36 years of annual dividend increases. If what you are looking for is a reliable dividend, Chevron is a better option for you in the energy sector because Devon’s dividend payment has been tied to its financial performance. Some numbers will help.
In the third quarter of 2022, Devon paid a per-share dividend of $1.55. That was a high-water mark, as falling energy prices led to weaker financial performance. In the second quarter of 2023, the dividend sat at $0.49 per share after a series of dividend cuts. But with the bump up in energy prices and the improvement in financial results between the second and third quarters of 2023, the dividend was increased to $0.77 per share (this dividend hasn’t been paid yet so it isn’t represented in the chart above). In other words, there’s a great deal of variability in this variable dividend and it all depends on what’s going on with energy prices. Thus, the dividend yield you see when you buy the stock isn’t really a figure you can count on.
You can see why a dividend investor looking for consistent income wouldn’t be interested. But there’s a nuance here that might be worth considering. Devon’s dividend will likely go up at roughly the same time as the price of filling your car or heating your home will be rising. And that means that owning Devon can provide a bit of a hedge against your real-world energy costs. For investors who are a bit more active, that could be an attractive addition to a more broadly diversified portfolio.
A unique design
Variable dividends aren’t uncommon, per se, but they are far less common than companies trying to offer stable or steadily growing dividends. As such, Devon Energy is not a dividend stock for the masses, it is an acquired taste. But if you look at the energy-linked dividend in the right way, it might be a fine addition to your income portfolio. Just go in knowing that the yield you see listed today probably won’t be the yield you actually get over the long term.