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Ameren Corporation: Creating Stable Income Streams At Less Risk Than The Market

Summary The public utility sector is going through a challenging period. Experts are mixed on the long-term prospects of the stock, but median estimates give a 12.55% upside at current levels. Ameren has only reduced its dividends once, during the 2008-09 crash. Ameren Corporation (NYSE: AEE ) is a natural gas and electric utility company that operates in Illinois and Missouri. It is operating in a challenging business environment with evolving environmental regulation. The experts are mixed regarding Ameren’s future stock value; however, the median estimate provides an upside of 12.55% at current price levels. Ameren produces a stable and predictable dividend which mitigates a small amount of market risk when holding the stock. The Company is a buy for risk-averse investors who are looking for an income stream that is relatively unlinked to general market risk. Major trends in common to the electric and natural gas utility industry ( F rom the 10-K ) Political, regulatory, and customer resistance to higher rates. Tax law changes that accelerate depreciation deductions, which reduce current tax payments but also result in rate base reductions and limit the ability to claim other deductions and use carry-forward tax benefits. Cybersecurity risks, including loss of operational control of energy centers, and electric and natural gas transmission and distribution systems and/or loss of customer data. Increased competition in supply, generation, and distribution. Pressure to grow customer base in light of economic conditions and energy efficiency initiatives. The availability of fuel and fluctuations in fuel prices. Higher levels of infrastructure investments could result in decreased free cash flows. Company Positioning Ameren’s primary assets are its subsidiaries including Ameren Missouri and Ameren Illinois. Both of these subsidiaries are rate-regulated electric generation, transmission and distribution businesses as well as rate-regulated natural gas transmission and distribution businesses. Ameren’s other subsidiaries are responsible for activities such as the provision of shared services. Another of Ameren’s subsidiaries, ATXI, operates a FERC rate-regulated electric transmission business. (click to enlarge) Ameren’s profits and subsequent dividend payouts are dependent upon these regulated revenue streams. Growth Strategy ( F rom the 10-K) Renewable Mandate: Ameren is expected to increase its renewable energy resources to 10% of its total portfolio by 2015 and 25% by 2025. It is achieving these goals through IPA agreements and long-term contracts with renewable energy suppliers. Transmission and Distribution: AEE is involved in multiple transmission generation products which should alleviate congestion and bring access to new economic zones. Energy Efficiency: Ameren Missouri and Ameren Illinois have implemented energy efficiency programs. In Missouri, the MEEIA established a regulatory framework that allows electric utilities to recover costs related to customer energy efficiency programs. A MEEIA rider allows AEE to collect from or refund to customers any annual difference in the actual amounts incurred and the amounts collected from customers for the MEEIA program costs and lost revenues. Risk Management ( From the 10-K) Regulatory and Environmental Matters: Ameren is subject to a complex legal environment. The EPA is developing and implementing environmental regulations that will have a large impact on the electricity industry. Its coal-fired plants may incur significant costs to comply with these regulations. Natural Gas Price Fluctuation: AEE’s natural gas procurement strategy is designed to ensure immediate delivery of natural gas. The strategy is accomplished by optimizing storage options and various supply and price-hedging agreements that allow for diversification of supply source. Grid Reliability: Significant investment is going into making the grid more reliable. The increased use of distributed generation and the uneven output of renewable generation have complicated grid management, so the Company must invest in more sophisticated grid management systems. Dividends (click to enlarge) From dividend.com (click to enlarge) From dividend.com AEE has a very consistent dividend performance. The Company has only lowered its dividends once, and has maintained stable payouts. Since the dividend payout is stable, the dividend yield moves inversely to the price performance of the underlying stock and mitigates some of the market risk of holding the AEE stock. Expert Opinion (click to enlarge) From Yahoo Finance The expert opinion on AEE is mixed. Most analysts recommend holding the stock and not expanding positions at the current time. The median expert estimate on AEE’s stock price is $42.5, which gives the Company a 12.55% upside at the current price of $37.76 per share. AEE’s beta is 0.21. From Yahoo Finance AEE has been positively surprising the experts with its quarterly EPS releases; this usually means that analysts are undervaluing some portion of the Company. Recent News: Ameren Illinois continuing major upgrades to strengthen the region’s energy delivery network DiversityInc Ranks Ameren First in the Nation Ameren Missouri’s Callaway Energy Center Receives Extended Operating License From the Nuclear Regulatory Commission Retired Chairman and CEO of Unisys (NYSE: UIS ) Elected to Ameren Board of Directors Conclusion Ameren is a straight forward public utility play with exposure in Illinois and Missouri. Its revenues depend upon rate-making policy decisions, environmental policy and natural gas price levels. An investor who is looking for a company that produces stable dividends and has low market risk, would feel right at home with AEE. While the experts are uncertain about the future stock price levels, the median estimate does provide a 12.55% upside at current levels. If you are a risk-averse investor who wants to create a stable income stream with little market risk, Ameren is for you. Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. (More…) I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Why Do Individual Investors Underperform?

Bonds, dividend investing, ETF investing, currencies “}); $$(‘#article_top_info .info_content div’)[0].insert({bottom: $(‘mover’)}); } $(‘article_top_info’).addClassName(test_version); } SeekingAlpha.Initializer.onDOMLoad(function(){ setEvents();}); Barry Ritholtz posted a good video discussing whether mutual fund managers are skilled or not. I am not going to discuss the points made in that video, however, it did get me thinking about something. I have found that most mutual funds are closet index funds. That is, the vast majority of mutual funds are not engaged in any sort of strategic asset allocation that differentiates them sufficiently from highly correlated index funds. So, your average XYZ Large Cap fund will tend to have a 85%+ correlation to the S&P 500, but it will charge a much higher fee. Over time this will degrade performance since the mutual fund is basically picking 100-200 stocks inside of a highly correlated 500 stock index and charging you a recurring high fee over time. Vangaurd has shown on multuple occasions that it’s fees, not asset picking skill, that drives underperformance. But what’s interesting about these mutual funds is that even though they can’t beat their index they do tend to beat the average individual investor. This has been well documented in research pieces ( such as this one ), but we also know it’s true thanks to investor surveys like the AAII asset allocation survey. Over the last 30 years AAII has maintained a record of individual investor asset allocations and over this period the average allocation has been: Stock/Stock Funds: 60% Bonds/Bond Funds: 16% Cash: 24% What stands out there is the cash position. Of course, “cash” is a bit of a misnomer in a brokerage account because “cash” is usually just T-Bills. The kicker is, cash (or short-term bonds) has been a big drag on performance over the last 30 years. The AAII investor with an average 24% cash position generated just a 8.4% annualized return relative to a 9.1% return for the average investor who invested that 24% in a bond aggregate (your standard 60/40). And keep in mind that this is before accounting for all the inefficiencies documented in the aforementioned research. The interesting point here is that most professional money managers don’t hold a lot of cash at all times. The latest data from ICI showed that the average equity fund had just 3.5% cash. Since bonds and stocks just about always beat cash over a 30 year period we know that the average individual investor with a 24% cash position MUST, by definition, do worse than even the closet indexing professionals. This doesn’t mean the closet indexers are “skilled”. It just means they benefit from being in the game more. Basically, you can’t score if you aren’t even on the field and while closet indexing mutual funds are worse at scoring than their benchmark, they score more often than individuals because the individuals spend too much time out of the game. So, the question is, why do individual investors tend to hold so much cash? I have a few guesses: Individuals are inherently short-term in their thinking because they know, intuitively, that their financial lives are a series of short-terms inside of a long-term. This short-term perspective is a totally rational reaction to uncertain financial markets. A high cash balance provides the ultimate sense of certainty. This is a silly perspective, however, because informed market participants know that financial asset market returns tend to become more predictable over longer periods of time. This does not mean, however, that we should necessarily apply the textbook idea of the “long-term” to our portfolios as this isn’t always consistent with our actual financial lives. This short-term thinking leads most investors to churn their accounts, pay high fees and pay high taxes. Again, it’s an attempt to create certainty in an inherently uncertain financial world. But the attempt to take control in the short-term generally results in lots of detrimental activity that hurts performance. I tend to be prefer a cyclical timeframe because it captures the best of both worlds – it can be tax and fee efficient without taking the irrational textbook “long-term” perspective. This raises a more interesting question. Can this behavior be fixed? I’m not so certain. In a world where we’re prone to thinking in the short-term the idea of “long-term” and even medium term investing is very difficult for most people to maintain. But what it does show is that more investors need to be aware of their behavioral biases and understand the basic arithmetic of asset allocation . You might not become a global macro asset allocation expert, but you can avoid making many of the short-term mistakes that lead to this disparity in performance. Sources: Share this article with a colleague

Southern Co. And Exelon – ‘Why Don’t You Try Me’

Southern Company and Exelon could outperform the anticipated average annual total return of 6% to 8% for the electric utility sector. Southern Company’s historic strength is a strong balance sheet and friendly regulatory environment. A return to these attributes will drive share prices higher. Exelon’s return to above average growth lays in future power prices in the Northeast and Midwest. Slide guitar aficionado Ry Cooder released a version of Snooky Young’s “Why Don’t You Try Me?” in 1980 that is beyond outstanding. Ry Cooder was ranked eighth on Rolling Stone’s 2003 list of “The 100 Greatest Guitarists of All Time.” The song’s refrain could ring true for some utility investors looking for a bit more potential oomph from their utility selections: I ain’t saying I’m all you need, but If your regular man ain’t treating’ you right Why don’t you try a man like me tonight? Some investors seem to get lulled to complacency with the dull and boring regular returns usually associated with utility investments. Steadily increasing and inflation-matching dividends coupled with slowly rising share prices lack the fireworks excitement of the next tech fad, but can provide long-term rewards for patient investors. Based on today’s valuations, many analysts are anticipating a 6% to 8% annual total return for long-term holdings of utility stocks. However, if you are willing to take on a bit more risk and controversy, Southern Company (NYSE: SO ) and Exelon (NYSE: EXC ) could end up treatin’ you better, just like Ry Cooder says. The story line for Southern Co. is its two large power generation projects, one utilizing first of its kind technology of “clean coal” and the other constructing two new nuclear power units. For some investors, the uncertainly of these projects offset the historically positive regulatory environment of their service territory. The news from both projects has not been encouraging. The chameleon transformation from a dirty and cheap coal-fired power producer to an efficient lower-carbon footprint has not been quick or low cost. The complex and new technology of recycling and sequestering of carbon emissions at the Kemper plant has been plagued by cost overruns, earnings charges and delays. The expansion of their nuclear capacity is one of the first projects of its kind after a 30-year nuclear plant construction hiatus. There are plenty of issues to be discouraged about, if an investor chooses to focus on them. However, management is moving ahead towards completion of the Kemper clean coal plant and it should be fully operational within the next year (which is what was said a year ago as well). With the recent departure of one of its equity partners, the economics of the plant may shift to a higher merchant power profile than its original regulated production profile. The resulting higher merchant power risk could pan out with higher profits as well, as Southern Company has a successful merchant power business, Southern Power, with 26 plants in nine states generating 9,800Mw. Southern Power contributed $1.5 billion in 2014 revenues and $172 million in before-tax earnings. Southern Company offers higher exposure to overall economic improvements than some of its peers. Population is growing in the southeast, and an overall business-friendly environment is expanding the south’s economic base. SO traditionally trades at a sector premium due to a strong balance sheet and a supportive regulatory environment, but the uncertainty of its two large construction projects is reducing current market valuations. With the retirement of its soon-to-be uneconomical coal generating capacity, this investment cycle for SO should last only a few more years. Investor attention will then focus again on the underlying attributes of SO’s management and geography. The investment story for Exelon focuses on a recovery of power prices in the Mid-Atlantic and Northeast in addition to the company’s increasing exposure to the stability of regulated income vs commodity merchant power pricing. With the completion of its recent mergers, EXC will generate over 50% of its earnings from regulated business, up from about 20% pre-financial crisis. As power prices are substantially below 2007-2008 levels, merchant power margins have been reduced reflected in lower earnings and a cut in the dividend several years back. Below is a chart of power prices going back to 2001, courtesy of sriverconsulting.com: (click to enlarge) Unlike its merchant power peers in the south and west who use 20-year power purchase agreements, the service area for EXC is mainly controlled by 3-year rolling auctions, supervised by PJM, a quasi-government regional regulatory agency responsible for electricity reliability and distribution. Eighteen months ago, the polar vortex caused havoc with coal and natural gas power generation, exposing risks to the NE electric grid as an unbelievable 22% of the region’s generating capacity was shutdown. The Jan 2014 price spike is a result of the severe supply problems exposed with very cold weather. As the largest nuclear plant operator, EXC also has the benefit of being one of the most reliable PJM merchant power providers. PJM has recently approved a revised “premium” for reliability, which will favor EXC, for the 2018/2019 auction scheduled for this August. According to Bloomberg, the reliability “pay-for-performance” plan could substantially increase wholesale market prices from $50 to $60 a megawatt per day for those plants not meeting the reliability standard to upwards of $120 to $140 for those that do. The longer-term impact, while delayed until 2018, could be quite positive as a bottoming of power prices should be at hand. Power pricing is partially driven by costs of competitive fuel supplies, such as natural gas. As gas prices increase over time, so will the price of power generation in PJM markets. EXC’s power costs are not dependent on low gas prices for profitability and rising natural gas markets favor EXC’s steadier-cost nuclear power margins. The auction process is a double-edged sword. Last May, three of EXC’s nuclear plants in Illinois and New Jersey bid higher than competitors bid and were not selected as base-load power providers for the 2017/2018 auction. Known as a “failure to clear,” the company will not provide about 4,500Mw out of 25,000Mw of generating capacity using the auction capacity payment program. EXC will not see regulated revenues for these plants from June 2017 to May 2018 but may contract the capacity during this time using spot pricing to any willing buyer. However, revenues could fall short of similar auction capacity sales, leading to discussions of closing these three plants on a permanent basis. Southern Company offers a current 5.1% dividend yield, outsized to the average 3.5% of utility ETFs. To match the anticipated utility long-term average total return of 6% to 8%, share prices need to move by only 1% to 3% above current price. As the uncertainly clears with the completion of the capacity addition, this would be a minor hurdle for investors. Exelon offers a sector average 3.8% yield with the prospect of improving power prices driving total earnings faster than some of its peers. While potentially higher risk than some of their competitors, utility investors might consider Ry Cooder’s lyrics : “Do yourself a favor, why don’t you try me?” Note: Please review disclosure in author’s profile. Disclosure: I am/we are long EXC, SO. (More…) I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.