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But I have a contrarian take: We’re at the start of a commodity supercycle, and there will be a lot of money to be made.
I briefed you last week as to why I believe this new cycle is starting, but just to recap, we’ve seen a significant underinvestment in the commodity sector in recent years.
- Capital investment in oil and gas in 2014 was $700 billion.
- Capital investment in oil and gas in 2021 was $341 billion.
As a result of underinvestment, commodities, and the stocks of the companies that produce them, are very cheap compared to the S&P 500. So cheap, in fact, that it appears the cycle is turning in favor of commodity producers, which are likely to outperform the overall stock market in the years to come.
And that’s why the recent pullback in commodities, and in resource stocks, is likely to be a great buying opportunity for savvy investors who see the big picture.
But which commodity markets and stocks offer the best upside potential is the million-dollar question.
That’s hard to pinpoint exactly, because it’s a broad sector that includes everything from agriculture to industrial metals to energy. And don’t forget the so-called rare earth commodities like lithium, which is getting a big boost from rapidly growing demand for electric vehicles.
But the energy sector in particular looks to me like it has the best combination of undervalued stocks, skyrocketing cash flow (thanks to high oil and gas prices), and solid upside momentum. That’s despite the recent pullback, which I perceive as a buying opportunity.
As I shared in my previous report, alternative energy sources are not yet available at a large enough scale to replace fossil fuels entirely, hence today’s supply-demand squeeze and the resulting higher oil and gas prices.
And energy sector stocks have been absolutely cashing in on this squeeze.
In fact, energy sector free cash flow soared 633% to $123.2 billion in the first quarter of this year, up from just $16.8 billion a year ago, as you can see in the chart below.
With free cash flow, a company can make shareholder-friendly moves, like increasing dividend payouts and buying back shares.
That’s why, for my money, the energy sector is a great place to be prospecting for stocks right now in anticipation of the next move higher in the commodity supercycle.
With that in mind, I used our powerful TradeSmith Screener tool to find the energy sector stocks that are generating the most free cash flow and that are also consistent dividend growers. That’s because I like getting paid cash income while I wait for the upside potential to unfold.
Our TradeSmith tools feature two proprietary stock baskets that fit the bill.
The first includes stocks that are generating the highest dollar amount of free cash flow right now. And the second searches for stocks with the best dividend growth over the past five years. I combined these baskets for my screen and searched only among energy sector stocks with the best Health Indicator grades in the Green Zone.
The results included 31 energy stocks that made the cut with both high levels of free cash flow and strong dividend growth.
These are some of the names on my list:
- Enbridge Inc. (ENB), which ranked No. 1 in my screen with a dividend yield of 6.3%.
- Phillips 66 (PSX), with nearly $2.2 billion in free cash flow, plus a 4.7% dividend yield.
- Schlumberger Ltd. (SLB), the oil services giant that’s up 20% this year, with free cash flow of $2.8 billion.