Oil giant Shell (LSE: SHEL) is one of the most formidable dividend stocks on the FTSE 100, yet it has slipped below my radar in recent years.
I decided it was too expensive after last year’s energy price surge sent its profits and share price soaring, while eroding the yield. So I turned my attention to other income opportunities, such as my most recent purchase Legal & General Group.
L&G currently yields a thumping 8.27% and trades at 6.1 times earnings. Shell is almost as cheap trading at just 7.6 times earnings, but the yield doesn’t compare.
There may be income ahead
I’d got used to Shell shares yielding 5% or 6% a year, so today’s yield of 3.8% is at the low end. It’s only slightly above the FTSE 100 average of 3.5%. However, on closer inspection, the outlook is much more promising.
Shell’s dividend is covered a whopping 3.8 times by earnings, which gives management plenty of scope to increase it. The forecast yield is now a mighty 6.4%, which is more like it. That’s still covered 3.8 times by earnings, so there could be more progression to come.
If I invested my full £20,000 Stocks and Shares ISA into Shell shares today, I would hope to generate tax-free income of £1,280 over the next year. So is now a good time to invest?
Shell’s profits are still climbing even as stellar gas and oil prices fall back to earth. It earned on average $81.7 per barrel of oil sold in the first quarter, down from $102.2 a year ago. Yet that’s still comfortably above its breakeven point of around £40 for deepwater oil.
Last week, Shell posted a Q1 net profit of $9.65bn, with its trading division buoyant and liquefied natural gas prices holding up. Cash flows fell 37% but still totalled $14.2bn. The company also announced a new $4bn share buyback while holding its dividend at $0.2875 per share.
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Oil prices are volatile
No dividend is entirely safe. Shell lost its proud post-war record of maintaining shareholder payouts during the pandemic. The oil price is highly volatile, crashing below $30 a barrel in 2016 and to just $15 in 2020. It could fall if the world falls into recession this year, which could send the Shell share price crashing and disrupt dividends.
Another danger is that Shell’s share price is up 78.98% over three years. I can’t expect a repeat of that if I buy today. Although measured over 12 months, its stock is up just 4.25% and it certainly doesn’t look expensive.
Shell faces other challenges, such as rising to the challenge of net zero, while campaigners are pushing for another windfall tax on oil company profits. Despite the risks, I would happily buy its shares at today’s low valuation, with the aim of holding them for at least 10 years and ideally much longer.
However, my portfolio isn’t big enough to pour my full £20,000 ISA allowance into just one stock. Instead, I’d consider investing £5,000 this year. That would give me forecast annual income of £320 that I would reinvest to build up my stake (and future income stream) over time.
