HESM Downgrade: A Tactical Signal in the 2026 Midstream Reset

The downgrade of Hess Midstream Partners (HESM) by Raymond James last week is a specific event, but it lands squarely within a broader 2026 sector reset. The firm moved the stock from Outperform to Market Perform, citing a clear and immediate reason: flat 2026 earnings and limited growth prospects. This isn't a call for a sector-wide collapse, but it is a tactical signal that the growth narrative for midstream infrastructure is being reset for a more muted environment.

The context is key. After four years of double-digit returns, midstream and MLPs have seen a less impressive performance in 2025, trailing the broader market. The 2026 outlook is now the overhang, with a muted oil price outlook driving expectations for flattish US oil production. In this new reality, companies are expected to deliver moderate EBITDA growth next year, a far cry from the acceleration seen in prior cycles. Raymond James' downgrade is a direct reading of that reset, arguing that HESM's valuation doesn't price in enough growth to justify an Outperform rating.

HESM's own guidance provides the clearest contrast. The company projects adjusted EBITDA expected to be flat at the midpoint of guidance for 2026. That's a direct match for the sector's moderate growth expectation, but it's a stark departure from the kind of expansion that would support a bullish rating. The firm notes that meaningful growth is not expected until 2027-28, which aligns with HESM's long-term plan for 5% annualized growth through 2028. The downgrade, therefore, is a call to wait for that future catalyst, not to buy the present.

The bottom line is that the downgrade frames HESM's high yield as a defensive hold. The stock's 8.71% dividend yield and strong financial health score offer a cushion, but the catalyst for a re-rating is delayed. In a sector where growth is being reset to a lower baseline, a stock with flat near-term earnings is being fairly priced for stability, not upside.

The Financial Mechanics: High Yield vs. Flat Growth

The downgrade forces a direct test of HESM's value proposition: does its high yield adequately compensate for a near-term growth stall? The numbers show a stock trading at a discount to its own future, with valuation and cash flow dynamics telling a clear story of a business in a low-growth phase.

Valuation metrics confirm the growth concerns. The stock trades at a P/E ratio of 12.38 and an EV/EBITDA of 6.64. These are not cheap valuations for a company with flat earnings; they reflect a market pricing in stability, not acceleration.

The firm notes that HESM now trades at about 8.0x 2027E EV-EBITDA, which it views as appropriate for its "GOOD" financial health score but insufficient for an Outperform rating given the limited organic momentum. In other words, the market is paying a premium for durability, not growth.

That durability is the core attraction. The stock offers an 8.71% dividend yield, supported by a 9-year streak of dividend increases. In a sector where growth is being reset to a lower baseline, this yield becomes a key defensive feature. It provides immediate cash return while investors wait for the 2027-28 catalyst. The yield is not a gimmick; it is backed by a plan to fund at least 5% annual distribution growth through 2028 from free cash flow.

The cash flow engine is shifting gears. The company expects to spend approximately $150 million on capital expenditures in 2026, a significant reduction from prior years. This drastic cut frees up massive cash flow. With Adjusted Free Cash Flow targeted between $850 million and $900 million this year, the capital reduction means most of that cash can flow to the bottom line and the dividend. The plan is to generate about $1 billion of Adjusted Free Cash Flow after distributions through 2028, funding both growth and shareholder returns.

The bottom line is a trade-off. The stock's valuation reflects flat growth, but its high yield and strong financial health provide a cushion. For an event-driven investor, the setup is clear: the catalyst for a re-rating is delayed until 2027-28, but the high yield offers a tangible return while waiting. It's a hold, not a buy, in a muted sector.

The 2026 Setup: Execution Risk and Key Catalysts

The downgrade thesis hinges on a single year of flat performance, making 2026 a critical test of execution. The catalysts and risks are now clearly defined, creating a binary setup where the stock's path will be determined by two specific factors: volume growth and corporate independence.

First, the volume outlook is locked in. Hess Midstream expects relatively flat throughput volumes in oil and gas in 2026, with only approximately 1.5% annualized growth in gas throughput volumes. This is a direct function of Chevron's three-rig drilling plan, which the company says is consistent with its 2025 announcement. In other words, HESM's growth in 2026 is not a strategic choice but a passive reflection of its major customer's capital allocation. This alignment removes any near-term upside surprise but also caps downside risk from a production collapse. The stock's flat earnings are a fair reflection of this static volume base.

Second, a governance shift raises a red flag about future independence. The resignation of director Andrew B. Walz to join Chevron has raised concerns about Hess Midstream's growth and independence. This move, while not necessarily a conflict, introduces a tangible risk to the oversight of the midstream partnership. It underscores the firm's deep reliance on its parent, making the stock vulnerable to any shift in Chevron's long-term Bakken strategy. For an event-driven investor, this is a specific execution risk that could delay or alter the promised 5% annualized growth starting in 2027.

The market's own uncertainty is captured in the wide fair value range. Estimates for HESM's intrinsic value span from $11.87 to $73.11 per share. That staggering spread-from a deep-value hold to a speculative buy-highlights the high stakes of the 2026 reset. The low end reflects the flat-earnings, high-yield thesis; the high end implies a rapid acceleration in growth or a significant re-rating. The current price sits in the middle, pricing in a wait-and-see approach.

The bottom line is a setup defined by low volatility and delayed catalysts. The stock will trade on the mechanics of Chevron's three-rig plan and the stability of its oversight. A rebound requires validation of the 2027 growth ramp, but the high yield provides a buffer during the wait. For now, the downgrade is a tactical signal to hold, not to chase a 2026 catalyst that simply isn't there.

Catalysts and What to Watch

The downgrade thesis is now a binary test of execution. The near-term events that will prove or disprove the 2026 reset narrative are clear and specific. Investors must watch three key metrics to gauge whether HESM can deliver on its promise of a high-yield hold.

First, the company's Q4 2025 earnings report will be a critical checkpoint. While the full-year 2026 guidance is already public, the quarterly results will show how well the company is executing against its three-rig drilling plan and whether volume growth is tracking as expected. Any commentary from management on the stability of Chevron's capital allocation or any early signs of deviation from the flat throughput volumes guidance will be telling. The stock's path hinges on this execution staying on plan.

Second, the dividend coverage ratio and buyback activity are paramount. With capital expenditures slashed to approximately $150 million, the focus shifts to cash flow. The company targets Adjusted Free Cash Flow of between $850 million and $900 million for 2026. Investors must monitor whether this translates to strong distribution coverage and if the company maintains its commitment to opportunistic buybacks, as noted in the broader midstream outlook. Any reduction in the buyback program or a widening gap between free cash flow and distributions would signal pressure on the high yield.

The primary risk is a miss on the low end of guidance. The company's Adjusted EBITDA guidance range of $1,225 million to $1,275 million has a midpoint that is flat versus 2025. A failure to hit even the lower end of that range would confirm the growth stall and likely trigger further downgrades. Given the sector's muted 2026 outlook, such a miss would be a direct catalyst for a re-rating lower, as it would validate the most bearish view of the reset.

The bottom line is a watchlist defined by quarterly execution, cash flow discipline, and guidance adherence. The stock is priced for stability, not surprises. Any deviation from the flat-earnings plan will be met with a swift market reaction.