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Warren Buffett Sells an 8%-Yielding Stock: Time to Follow?

Motley Fool - Mon Aug 21, 2023

Trades made by Warren Buffett's Berkshire Hathaway are always closely followed, for obvious reasons. So after Berkshire's latest Securities and Exchange Commission (SEC) filing listed a closing of a position in small-cap oil and gas company Vitesse Energy(NYSE: VTS), it's probably a good idea to take notice. Does Berkshire's move mean investors should dump the stock, with its 8.2% dividend yield? Here's the lowdown.

Vitesse Energy

Berkshire's position in Vitesse was always tiny, at least by Berkshire standards. As I write this, the 51,026 shares sold are worth slightly less than $1.2 million, based on their price of $23.39.

Moreover, it's unclear whether Berkshire acquired any stock in the first place or whether the entire holding resulted from Berkshire's stake in Jefferies Financial Group(NYSE: JEF). In January, Jefferies, the investment banking and capital markets firm, distributed its Vitesse Energy shares to Jefferies shareholders as Vitesse became a publicly listed, independent company.

As such, the stock no longer has what you might call the Buffett seal of approval attached to it. Still, that doesn't mean the stock shouldn't attract income-seeking investors drawn by its 8.2% yield.

Is it a sustainable dividend?

The answer to the preceding question is probably "no," because history suggests the price of oil will likely be volatile. Despite management's attempts to hedge its exposure to oil price movements, the reality is that Vitesse Energy is highly likely to be significantly affected by sharp moves in the price of the commodity.

Observant readers will note I've been cautious not to refer to the direction of the movement in the price of oil. That's because Vitesse Energy's management could decide to hedge the entire amount of its expected production.

This point is implied in the company's 10-K SEC filing, where management outlines that it started the year hedging 31% of its expected oil production through Dec. 31, 2024, but also notes, "in the past, based on then-existing market conditions, we have hedged significantly higher percentages of our actual oil production."

Hedging a lower percentage of production is typically a sign that management foresees oil prices increasing. In that scenario, it is better to leave production unhedged now, wait for prices to rise, and then lock in hedges at those higher prices.

An oil field worker.

Image source: Getty Images.

While it's impossible to know what Vitesse's management will do regarding hedging its oil production, the reality is that hedging is always an imperfect science. In addition, it's unrealistic to expect it to predict oil price volatility, and it's worth noting that many of Vitesse's shareholders will hold the stock precisely because they are looking for exposure to the price of oil.

Vitesse Energy stock is still attractive

The stock has much to offer investors, including an interesting business model. It's not an owner/operator of oil assets in the traditional mold. Instead, Vitesse uses a proprietary process to identify and invest in minority working interests in myriad wells operated by other oil and gas companies. As such, the value added by the company primarily exists in management's ability to identify productive wells and allocate capital toward them wisely. The oil well operators are responsible for well maintenance, selling, and transporting oil.

The business model also means Vitesse is, at least in theory, less exposed to a collapse in the price of oil. Unlike an owner/operator, it's not burdened with costly drilling obligations, and its spread of investments (6,566 productive wells with an average working interest of 2.7%) means it has diversified its exposure to the failure of any key well.

Oil barrels.

Image source: Getty Images.

A stock to buy?

Just as in the first quarter, Vitesse's hedging strategy worked to improve its realized price of oil. For example, its average realized price of oil in the second quarter was $69.90 a barrel before hedging, but after hedging, it came to $72.18 a barrel.

Meanwhile, management continues to expect annual production of 10,800 to 11,800 barrels of oil equivalent a day for 2023, compared to 10,376 barrels of oil equivalent a day in 2022.

All told, the best way to think of Vitesse Energy stock is to accept that its yield is proSbably not sustainable over the long term. However, there's reason to believe its management can maintain its dividend given relative price stability or even a rise in the price of oil over time.

It's one for the oil bulls, but it's not a good idea to buy into it while pricing in its current $2 annual dividend over the long term.

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Lee Samaha has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Berkshire Hathaway, Jefferies Financial Group, and Vitesse Energy. The Motley Fool has a disclosure policy.

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