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It’s one thing to go from winning gold to accepting silver or bronze. Going from number one to dead last is something else entirely. But American utility stocks have done just that, falling from their position as 2014’s top performers to 2015’s dogs. The irony: the very thing that gave the industry its advantage has become an albatross. Last year, the interest rate environment helped make utilities the best-performing sector in the S&P 500 (+24 percent). With even high-yield bonds not offering all that much (yields were below 6 percent for all but the last four weeks of 2014), relatively low-risk stocks that offered average dividends of 4 percent looked attractive. And they looked even more so when many energy-focused investors sought safe havens as oil prices cratered in the latter half of 2014, according to Credit Suisse’s utilities team. But good news for the economy has proven bad news for utilities. A combination of January’s strong jobs report – on the heels of the best year for job growth since 1999 – has increasing numbers of investors thinking that the Federal Reserve could hike rates in the next few months, with the result that since Feb. 1, the 10-year Treasury yield has risen from 1.68 percent to 2.1 percent. And that has drawn investors away from other, riskier, income products, including utilities. Not only that, says Dan Eggers, head of Credit Suisse’s electric utilities team, but investors have also adopted a risk-on attitude of late – see the all-time highs for the S&P 500 and Dow Jones Industrial average and the NASDAQ’s 10-year peak in mid-March – and that doesn’t favor utilities. So here we are, less than three months after they stood on the podium for 2014, and utilities are the worst performing sector in the S&P 500, down 5.7 percent year-to-date while the index is up 2.4 percent. The sector is now trading at a discount to the S&P. If you’ve owned utilities, then, you’ve given back some of your 2014 gains. But if you haven’t, it just might be time to buy. Why? Because when utilities drop 7 to 10 percent below the S&P 500, says Eggers, they tend to rebound strongly. “We think there’s clear value in utility stocks, and that the selloff has created a good opportunity,” he says. “A 10-year history of earnings growing 4 to 5 percent a year, a 4 percent dividend yield, 9 percent total returns and low risk – that’s attractive.” What’s more, the intense focus on interest rates obscures the fact that “utilities offer as much value from earnings growth as from yield,” says Eggers, who points out that current earnings growth is well above the average 1 to 2 percent that prevailed in the 1980s and 90s. One might wonder where all that growth is going to come from, considering that growth in the demand for electricity is actually slowing, largely due to tighter efficiency standards for lighting and appliances, as well as more energy-efficient buildings. Having grown steadily since the 1950s, power demand declined in four of the five years between 2008 and 2012, and is likely to grow at a mere 0.5 percent a year over the next decade. Eggers points out that the industry has prepared for slower demand growth by becoming more efficient, through both old-fashioned cost-cutting and investing in new technology. Some are already benefiting from a transition to the so-called “smart grid,” which tracks everything from usage to outages with digital technology, making meter readers obsolete and reducing the number of repair trucks needed after a powerful storm. Utilities have also been replacing aging transmission and distribution systems built in the 1970s and 80s with more efficient models. That cost-cutting is a big reason earnings can stay on track. “They are seeing controllable cost inflation well below the rate of inflation,” Eggers says. Original Post Scalper1 News
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