Latest / Dividend Investing with Fexingo: Income Stocks, Yield, and Long-Term Cash Flow Portfolios / How Dividend Stocks Can Hedge Against Oil Price Shocks
Transcript
- Lucas: So it's Monday, June 21st, and if you've glanced at any headline this morning, you saw that Vice President Vance is in Switzerland for talks with Iranian negotiators. The Strait of Hormuz tension is back in the news, oil is twitchy, and dividend stocks are taking a hit. Luna: Yeah, I was looking at the screen before we started. Realty Income, ticker O, down four percent in five days. Verizon off nearly six percent. Even stalwarts like Johnson & Johnson are down over five percent. Lucas: Right. And that's the puzzle. You'd think a geopolitical risk spike would send money into safe havens — utilities, consumer staples, maybe even long-duration bonds. But we're not seeing a clean rotation. The ten-year Treasury yield actually ticked up to four point four nine percent last week. Luna: Which is interesting because normally a flight to safety pushes yields down. Bond prices go up, yields fall. But here we are, yields rising, dividend stocks falling. It feels like the market is pricing in something else. Lucas: I think what's happening is a two-part story. First, there's genuine concern that higher energy costs squeeze consumer spending, which hits the revenue of companies like Procter & Gamble or Coca-Cola. Second, with the ten-year at four point four nine, the competition for yield is real. Why take equity risk for a three percent dividend yield when you can get four point five percent in Treasuries? Luna: So dividend stocks are caught between a macro headwind and a yield comparability problem. But not all dividend stocks are created equal. Some sectors actually benefit from higher oil prices. Lucas: Exactly. And that's the angle I want to drill into today. The idea of a dividend barbell — on one side, you have your stable, low-beta dividend growers like utilities and consumer staples. On the other, you have energy-linked dividends: pipeline MLPs, some integrated oil majors, maybe a few midstream names. Luna: So you're saying that when oil spikes, the energy side of the barbell can offset the drag on the consumer staples side? Lucas: Potentially, yes. But you have to be careful. Not all energy dividends are created equal. Upstream producers — the ones actually drilling for oil — their dividends are highly variable, tied to commodity prices. But midstream companies, like pipeline MLPs, tend to have fee-based revenue. They move a lot of oil and gas, and they charge a toll. The volume doesn't change much even if prices fluctuate. Luna: And those MLPs often yield six, seven, eight percent. I know we did an episode on pipeline MLPs a few weeks ago, but the context is different now with the Strait of Hormuz risk. The geopolitical premium is real. Lucas: It is. And look, the recent price action in dividend ETFs tells the story. The Vanguard High Dividend Yield ETF, VYM, is down zero point seven percent over the last five days. The Schwab U.S. Dividend Equity ETF, SCHD, down nearly three percent. But the iShares Select Dividend ETF, DVY, which has a heavier tilt toward utilities and financials, is essentially flat. Luna: So DVY is holding up better because it's less exposed to consumer discretionary and more to regulated utilities, which have a different relationship with interest rates. Lucas: Bingo. Utilities are rate-sensitive in a different way. Their dividends are fairly predictable, and when the ten-year moves from four point four three to four point four nine, it's not a game-changer. But a consumer staple like Procter & Gamble, which has a two point five percent yield — that suddenly looks less attractive when you can get nearly double that risk-free. Luna: So what's the play for a dividend investor who's worried about oil but doesn't want to abandon the strategy? Do you sell your Coke and buy a pipeline? Lucas: I wouldn't suggest a wholesale swap. But I think a modest tilt makes sense. Maybe five to ten percent of your dividend portfolio in a midstream energy ETF like the Alerian MLP ETF, ticker AMLP, which yields around seven percent. That gives you a hedge without betting the farm on oil prices. Luna: And you pair that with the core holdings — the dividend aristocrats, the REITs, the utilities. But the question is, how much does that hedge actually help? Let's look at a specific example. Lucas: Take Realty Income, O. It's down four percent in the past week. Its yield is now about five point two percent, which is actually attractive, but the stock is falling because the ten-year yield is competitive. Now, if you had ten percent of your portfolio in an MLP fund, that MLP fund might be up two or three percent this week on the oil scare. Luna: So the portfolio-level impact is a wash. The REIT drag is offset by the energy gain. That's the hedge working. Lucas: Exactly. And you're not having to time the oil market perfectly. You're just reducing the sensitivity of your dividend income stream to one specific macro variable. It's a diversification play within income. Luna: That makes a lot of sense. And I think the key is that the MLP dividends are also qualified dividends for most investors, right? They're taxed at the same rate as long-term capital gains, which is a bonus. Lucas: Most of them are, yes. Though some MLPs issue a K-1 tax form, which can be a headache. But the ETF structure simplifies that. You get a 1099 instead. Luna: Good point. So the barbell approach — stable growers on one side, energy-linked income on the other — is a way to keep your dividend yield respectable without taking on excess risk. But what about the timing? Oil could fall back if the talks in Switzerland go well. Lucas: It could. And if that happens, MLPs might give back some gains. But over the long run, midstream energy has a low correlation to the broad market and a solid income stream. It's not a trade, it's an allocation. You hold it through cycles. Luna: Alright, so let's talk about other ways to hedge. Some investors might look at covered calls on their dividend stocks. We did an episode on that a few weeks ago. Does that fit here? Lucas: It can. If you own a stock like Verizon and you're worried the price might slide further — which it has, down five point seven percent in a week — you could sell a covered call at a strike slightly above the current price. You collect premium, which adds to your income, and if the stock stays flat or declines, you keep the premium and the dividend. Luna: But you cap your upside. And if oil tensions ease and Verizon rallies, you might get called away. So it's a trade-off. Lucas: It is. But for an income investor who's primarily focused on cash flow, the covered call strategy can turn a period of low volatility into additional yield. Right now, the VIX is elevated because of the geopolitical uncertainty, so option premiums are higher. That makes it more attractive. Luna: So there are multiple tools. The barbell, covered calls, maybe even a small allocation to commodity ETFs that track oil directly. But that's more of a short-term hedge. Lucas: Yeah, I wouldn't suggest a direct oil futures ETF for a dividend portfolio. That's trading, not investing. Stick with instruments that generate income. That's the whole point of dividend investing. Luna: Right. Now, one thing that I find interesting is how the market is reacting to the Fed's latest stance. The effective Fed funds rate is still at three point six three, and the two-year yield jumped from four point zero five to four point two zero last week. That suggests the market is pricing in a more hawkish Fed, especially with the new Fed chair. Lucas: That adds another layer. If the Fed stays hawkish, the ten-year could stay elevated. And if the ten-year stays above four point five, dividend stocks that yield less than that will continue to face pressure. That's why high-yielding sectors like utilities and REITs might still struggle, even though they benefit from lower rates. Luna: So the barbell becomes even more relevant. You want the energy MLP's seven percent yield to offset the pressure on your four percent REIT. Lucas: Precisely. And one other thing I'd flag: the yield curve is flattening. The spread between the ten-year and two-year is now just twenty-seven basis points. That's a classic sign of uncertainty. In that environment, cash flow certainty becomes prized. Luna: And dividend stocks provide that cash flow certainty — if you pick the right ones. Companies with strong free cash flow and low payout ratios can sustain their dividends even if the economy slows. Lucas: Right. And that brings us back to the idea that not all dividend cuts are created equal. A company like Realty Income has never cut its dividend in its history as a public company. So its recent price decline is more about yield competition than fundamental risk. Luna: So you might actually view the four percent drop in O as a buying opportunity, if you think the ten-year isn't going much higher. Lucas: I think that's a reasonable take. I'm not making a prediction on the ten-year, but if you can buy a triple-net lease REIT with a five point two percent yield and a forty-year track record, that's not a bad risk-reward. Luna: Alright, I want to pivot a little. We've talked about hedging within dividend stocks. But what about investors who are just starting out and have a small portfolio? Should they even bother with a barbell? Or just stick with a diversified dividend ETF? Lucas: For a small portfolio, a single diversified dividend ETF like SCHD or VYM is probably sufficient. They already have exposure to energy, utilities, consumer staples, etc. But the barbell is more for someone who has a larger portfolio and wants to fine-tune their sector exposure. Luna: That's fair. And I think it's important to note that the barbell doesn't have to be fifty-fifty. Maybe it's ninety percent in a core dividend ETF and ten percent in a midstream energy ETF. That small tilt can make a difference in a year like this. Lucas: Exactly. And you can adjust over time. If oil prices retreat, you might trim the energy position. But having the framework in mind is useful. Luna: So you're essentially saying that dividend investing is not a set-it-and-forget-it strategy. You have to be aware of the macro environment and make tactical shifts. Lucas: Yes and no. The core holdings — the dividend aristocrats, the broad market ETFs — those are set and forget. But the satellite positions, like the energy hedge, those require occasional rebalancing. Maybe once a quarter, check your sector weights. Luna: That I can get behind. So to wrap up, the key takeaway: with oil risk high and Treasury yields competitive, consider a dividend barbell with a small energy tilt. It won't make you rich overnight, but it can help stabilize your income. Lucas: And that stability is the whole point of dividend investing. Consistent, growing cash flow, regardless of what the headlines say. Luna: Speaking of stability, I want to say something. If you found today's conversation valuable—maybe it helped you think about your portfolio in a new way—there's a simple way to support the show that keeps it ad-free and independent. Lucas: Yeah, we don't run junk ads or sponsored segments. So if this episode was worth a coffee to you, the link is buy me a coffee dot com slash fexingo. It's that easy. Luna: And honestly, even one cup helps us keep the research desk running. No pressure, but if it made a difference, that's the place. Lucas: Alright, back to the numbers. One final stat I want to leave you with: the small-cap index, the Russell 2000, is down zero point nine percent this week. That's less than the S&P 500, which is roughly flat. Small caps might actually be a better value play right now, including dividends. Luna: Interesting. Maybe that's a topic for a future episode. For now, thanks for listening. Lucas: We'll be back tomorrow with another deep dive. Until then, keep your dividends growing.