Sift Through the Oil Sands for Energy Stocks With Big Dividend Yields

News on the economic front has been mixed of late. Manufacturing numbers are up, but employment growth remains anemic. Yet despite the lack of clarity on what�s next for the economy, demand for oil has steadily continued to rise. On Friday, Benchmark West Texas Intermediate crude for August delivery traded north of $96 per barrel. Meanwhile, crude oil inventories are down, and the recent OPEC meeting adjourned without any agreed upon production increases. That leaves the door open for higher prices in the months ahead. It also leaves the door open for dividend investors looking to take advantage of the metrics in the oil patch, and one way to do just that is by what I call �sifting through the sand.�

The sand I�m referring to here is SandRidge Mississippian Trust (NYSE: SDT). This energy royalty income trust was created as a spin-off by its parent company, SandRidge Energy Inc. (NYSE: SD), back in April. The shares debuted at $21 per share, and the demand for the initial public offering was incredibly strong. Shares spiked to $25 right out of the gate, as can be seen in the chart below.

What makes SandRidge such a compelling energy play? Well, the trust owns certain royalty interests in oil and natural gas wells leased by SandRidge Energy in northern Oklahoma. These royalty interests entitle SDT to 90% of the proceeds from 37 horizontal wells that already are producing oil and gas. Even better, SandRidge Energy is contractually committed to drill 123 wells by the end of 2015, and SDT stands to receive 50% of the proceeds from those wells.

As a domestic royalty trust, SDT represents, in many ways, a depleting asset with an unspecified reserve life. A royalty trust simply entitles the shareholders to the net profits of a specific commodity that is the primary asset of the trust to be extracted. Usually, a new trust will have an estimated reserve life of 10 to 15 years before being fully depleted. As per the offering prospectus, SDT intends to set a minimum payout for the next four years at the following rates:

• 2011: $1.85 per share
• 2012: $2.25 per share
• 2013: $2.42 per share
• 2014: $2.70 per share

The beauty of this trust, however, is that it expects to pay out considerably higher rates of distribution after all of the wells are drilled. It also plans to utilize an aggressive hedging program to lock in current high prices with the prospect of a new bull market for natural gas.

If all goes according to plan, SDT thinks it can make payouts along the following rates:

• 2011: $2.31 per share
• 2012: $2.82 per share
• 2013: $3.03 per share
• 2014: $3.36 per share

What is truly unique to this income trust is that, until the parent company drills the aforementioned 123 wells by 2015, SD will guarantee the minimum payments (as outlined above) from proceeds received by the subordinated shares. Once all newly drilled wells are completed, SD will split the proceeds evenly, and those subordinated shares will turn into regular shares one year after the last well is drilled. This essentially guarantees SDT will be able to pay its dividends to shareholders at the very minimum payout rates.

As it stands today, SDT is yielding an attractive 9%, but for the reasons stated here, I expect that yield to trend even higher in the years ahead. As the growing hunt for high-yield assets sensitive to inflation, rising global currency devaluation and increasing demand for fossil fuels continues, now is a great time to sift through the sand for high-dividend yields with SandRidge Mississippian Trust.

Disclosure: Bryan Perry recommends SDT in his Cash Machine advisory service.