I originally bought NextEra Energy Partners (NYSE:NEP) a bit too soon (last year on the dip before the big drop in late September). However, while several prominent authors on Seeking Alpha were calling it a Sell and/or urging investors to scramble for the exits, I doubled down in the low $20s and explained my thesis for why in my deep-dive article that you can read here. That courage of conviction paid off, with the stock returning ~45% since then, more than double the total return of the S&P 500 over that period and helping to regain the losses I suffered on the original drop in the stock price.
That being said, I recently sold my shares despite NEP’s juicy 12.2% and growing distribution yield and in this article, I will explain why.
Why I Sold NEP Stock
I recently pointed out in an update article on NEP that it has a viable path to sustaining its hefty yield, though I was less optimistic about its ability to sustain its guided 6% distribution CAGR through 2026 barring a significant decline in interest rates in the near future.
As I concluded in that article:
Ultimately, the NEP story boils down to two big questions:
- Will interest rates cooperate by gradually receding in the next few years, thereby giving NEP a better cost of capital and easing the pain of its debt refinancings, Meade Pipeline asset sale, and CEPF payoffs?
- Can management successfully navigate this challenging financial tightrope and then also come up with creative financing methods in 2026 and beyond to deal with the remaining CEPFs without destroying unitholder value and having to cut the distribution?
Well, in recent months, it appears that inflation has remained quite sticky thereby reducing the odds of deep interest rate cuts this year and next year. While we do still expect the Fed to cut rates some this year and next year, we think the magnitude of potential cuts has decreased at least in the near term given the economy’s relative resiliency and the stickiness of inflation.
Moreover, it appears that it is going to take a recession to finally push the Fed to take more aggressive action with rate cuts. While NEP’s business model – with its highly contracted cash flows on decade-plus long power purchase agreements with investment grade tenants – is very defensive, its weak link is its junk credit rating. If the economy ends up experiencing a severe downturn – especially if it is sparked by a bunch of overleveraged landlords and companies defaulting on maturing debt loads – we could very well see the spread between junk bond rates and investment-grade bond rates spike. This would greatly hurt NEP by increasing its cost of capital tremendously.
Ultimately, NEP’s path to sustaining its distribution and avoiding being taken under by its parent NextEra Energy (NEE) at a less-than-attractive price is narrowing. We still think there is a chance that NEP squeaks through and ends up being a big winner relative to its current unit price, but our confidence in that happening is declining somewhat. While we still think it offers attractive risk-reward for investors who want to bet on meaningful interest rate declines in the near future, it is still very risky.
At the same time, we are seeing other opportunities in the renewable yield co sector that have also been beaten down tremendously recently – such as Clearway Energy (CWEN)(CWEN.A), Brookfield Renewable Partners (BEP)(BEPC), Algonquin Power & Utilities (AQN), and Atlantica Sustainable Infrastructure (AY) – that all trade at deep discounts have much stronger balance sheets and significantly safer dividends than NEP. As a result, by investing in these companies instead, we still get tremendous upside potential in the event of falling interest rates and attractive current yields without the enormous dividend cut and further deep downside risk that comes with NEP.
As a result, while it is very tough to sell a high-yielding stock with significant upside potential like we just did with NEP, we believe that it would be a big mistake to continue doubling down on it when other opportunities have become available with nearly as attractive opportunities from an upside perspective but not nearly as severe downside scenarios.
Investor Takeaway
While part of me wants to continue holding NEP to see its thesis play out, as the yield is wonderful and it could very possibly be a 2-3x total returner in the next few years if management is successful in executing its plans, I cannot continue to hold it when there are so many other opportunities in the sector that offer much better risk-reward potential. As a result, we sold NEP and recycled the capital into other renewable power production companies and are particularly bullish on the potential for quick upside in AQN and AY as it appears that their strategic reviews and asset sales are likely to reach a conclusion this summer.
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