We're expanding our stable of oil and natural gas stocks as energy prices remain elevated

Published Mon, May 16 20228:43 AM EDTUpdated Mon, May 16 20228:50 AM EDT

We're initiating a position in Pioneer Natural Resources (PXD), buying 100 shares at roughly $261.89 each. Following Monday's trade, the Charitable Trust will own 100 shares of PXD, making it a 0.88% weighting in the portfolio. We're calling up Pioneer from our bullpen of potential stocks to buy. Pioneer is an independent oil and gas company and the largest oil producer in the Permian's Midland Basin, which is where the it exclusively operates. The company has some of the highest quality acreages in the world, with more than 20 years of inventory at a West Texas Intermediate crude breakeven price below $40 per barrel. CEO Scott Sheffield made the call to minimize hedging into 2022 due to his bullish view on oil prices, and what a call it has been. WTI, America's oil benchmark, rallied from about $77 per barrel at the start of the year to nearly $110 on Monday. What makes Pioneer so interesting as an oil play is the fact that it has zero oil hedges on its books this year. Oil producers typically use hedges as a way to add insurance against large declines in price. But hedges can work against you too by capping some upside if prices move higher. Contrast Pioneer's hedging strategy differs from Devon Energy (DVN), also a Club holding. Devon entered 2022 with approximately 20% and 30% of its oil and gas production hedged, respectively. We are not saying that Devon's hedges are a bad thing. We think CEO Rick Muncrief is doing a fantastic job and Devon has been one of the best stocks to own in the S & P 500 this year. The point that we're trying to make is that Pioneer has more cash flow upside to higher commodity prices. But, of course, more cash flow downside to lower prices. Given how tight supply in the oil market is right now due to capital discipline, Russia's war in Ukraine, and years of underinvestment, we continue to believe the oil market is in a higher for longer pricing environment. Pioneer operates under the same so-called Shale 3.0 philosophy we've seen from other publicly traded oil producers. Instead of ramping production every time the price of crude oil rallies, flooding the market with additional supply, and then pushing prices down, Pioneer has stayed disciplined, focusing on maximizing cash flow generation and returning that cash to shareholders through dividends and buybacks. How about those capital returns? Remember, our mantra for this year is that we want to invest in profitable companies that return tons of cash to shareholders and trade at reasonable valuations. Pioneer is the king of the S & P 500 when it comes to total cash returns. Pioneer has adopted a base plus variable dividend policy, like many of its peers, committing to returning up to 75% its post-base dividend free cash flow back to shareholders. That's the highest return of any exploration and production (E & P) company. Given the $8 billion of free cash flow analysts expect this year and Pioneer's projected payout ratios, the company at the current stock price around $262 offers a roughly 9.47% dividend yield, which is very attractive in an environment where the 10-year Treasury yields about 2.92% and higher than Devon Energy which yields 6.63% on an estimated basis. If you were to annualize Pioneer's recent dividend announcement of $7.38 per share, PXD's yield is about 11.3% In addition to a significant dividend payout, management continues to evaluate opportunistic share repurchases. It has the power to do so because of its pristine balance sheet. During the first quarter of 2022, Pioneer repurchased $250 million of common stock as part of its $4 billion share repurchase authorization. Even after the stock's big 40%-plus run this year, we think Pioneer's valuation screens attractively. On an enterprise value (EV) to 2022 adjusted earnings before interest, taxes, depreciation, and amortization (EBITDA) ratio, Pioneer trades at 5x compared to Devon which trades at 5.2x. So PXD trades at a slightly cheaper multiple to DVN but gives you more dividend yield. We're initiating PXD with a price target of $285, representing roughly 5.5x 2022 EV/EBITDA. That may not represent a whole ton of upside from a pure share appreciation standpoint — around 8.7% — but don't forget about those hefty dividend payments we will collect along the way. Pioneer joins the aforementioned Devon as well as oil giant Chevron (CVX), oilfield services company Halliburton (HAL), and a largely natural gas play for us in Coterra Energy (CTRA). (Jim Cramer's Charitable Trust is long PXD, DVN CVX, HAL and CTRA. See here for a full list of the stocks.) As a subscriber to the CNBC Investing Club with Jim Cramer, you will receive a trade alert before Jim makes a trade. Jim waits 45 minutes after sending a trade alert before buying or selling a stock in his charitable trust's portfolio. If Jim has talked about a stock on CNBC TV, he waits 72 hours after issuing the trade alert before executing the trade. THE ABOVE INVESTING CLUB INFORMATION IS SUBJECT TO OUR TERMS AND CONDITIONS AND PRIVACY POLICY , TOGETHER WITH OUR DISCLAIMER . NO FIDUCIARY OBLIGATION OR DUTY EXISTS, OR IS CREATED, BY VIRTUE OF YOUR RECEIPT OF ANY INFORMATION PROVIDED IN CONNECTION WITH THE INVESTING CLUB. NO SPECIFIC OUTCOME OR PROFIT IS GUARANTEED.

Scott Sheffield, CEO of Pioneer Natural Resources.

Adam Jeffery | CNBC