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.

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. Pioneer’s hedging strategy differs from Devon Energy (DVN), a portfolio holding that we've traded in and out of recently. 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. 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 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 to then push prices down, Pioneer has stayed disciplined, focusing on maximizing cash flow generation and returning that cash to shareholders through dividends and buybacks.

Capital Returns 

Remember, we want to invest in profitable companies that return large sums 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. If you were to annualize Pioneer’s recent dividend announcement of $7.38 per share, PXD’s yield is about 11.3%, which is very attractive in an environment where the 10-year Treasury yields about 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.

Reasonable Valuation

Even after the stock’s big 40%-plus run this year, but more so after its ~20% decline from recent highs, 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.

Price Target

We place a $285 on our PXD position, representing roughly 5.5x 2022 EV/EBITDA. That may not represent a whole ton of upside from our cost basis of ~$250 (around 15%) — but don’t forget about the ~11% dividend payments we will collect along the way. Additionally, as we've discussed here, our oil position is also a hedge towards inflation. If oil prices go down, we may lose share value in PXD, but our bet is that the majority of our portfolio will go up because it points to inflation coming down. Meanwhile, the ~11% dividend should keep us happy.