Utility stocks have received very little interest, despite a favorable environment. Here are five reasons why you should consider utility stocks now.
1. Low interest rates
The utility sector enjoys its best performance during periods of low interest. Utility stocks are traditionally highly leveraged, requiring large amounts of capital. High interest rates eat into utilities’ profits, and offer little wiggle room when it comes to retiring or refinancing existing debt.
However, the Fed plans to keep interest rates low until unemployment drops below 6.5% (and inflation remains checked under 2.5%), which means the outlook for borrowings remains favorable. The current employment growth rate suggests it will take another two years before the Fed considers a rate raise.
The Utilities SPDR (ETF) (NYSEARCA: XLU) currently yields 4.0%, which is attractive when compared to the bond yields. The 10-year treasury offers a paltry 1.9% and the 30-year only offers 3.1%. Utility stocks have the added attraction of offering capital growth. This makes them attractive to income investors, and provides a safe haven from more speculative issues.
3. They’re currently out of favor
For the past six months, markets have enjoyed significant gains. However, utility stocks have underperformed since the November bottom. The Utilities Select Sector SPDR is down 1.3% from the November low, compared to a corresponding 4.6% and 4.8% gain for Industrials and Financials, respectively. The only other sector to underperform utilities was the Technology sector, and that was all thanks to Apple. However, as traders look to take profits in outperforming sectors, money will begin to flow into “safe haven” sectors such as Utilities.
4. March is the cruelest month
We are entering a month which traditionally hasn’t been strong for utilities. This means utility stocks will continue to offer value, likely remaining outside the limelight of other sectors. For investors looking to build a position over time, it’s best done during periods when both selling and buying interest is low.
5. They look like a safer bet
The current bull market which is almost three years old. For many stocks, the best of the gains are long past. This will make it tougher to find the next big winner The conservatism typical of utility stocks could make them attractive to investors burned chasing alpha.
With these five factors in mind, the following utility stocks might be worth watching:
Equitable Resources
This utility’s knocking on the door of a move to new multiyear highs. The bar was originally set at $70.42, before a brief pop above $70 raised this to $71.62 in 2011. The stock is edging a break of $63 in low key action. Unlike many of its peers, it trades a ‘high’ P/E, but having reported earnings which beat analyst expectations on EPS.
Equitable Resources is impacted by lower commodity prices, particularly in natural gas. Gas-liquid volumes were up 13%, and transmission capacity reservation revenues grew 27%, but commodity prices were 21% lower than last year. This brought a drop in year-on-year EPS. Weak commodity prices are hiding good performance in its underlying business. Natural gas prices, while weak, have stabilised in recent years, and this will provide the foundation for the next move higher and offer the ground work for Equitable Resources to benefit.
The company is working on regulatory approvals for the transfer of its natural gas distribution business to Peoples Natural Gas for $720 million. Both companies hope to have such approvals by year end, but Equitable will be cutting the dividend payment as a result.
CenterPoint Energy, Inc. (NYSE:CNP)
For the record, I sold this one a couple of weeks ago. However, the increase in buying volume since edging past $21 has me thinking I have made a mistake! The reason for the buying surge was strong earnings. The stock again beat on analyst earnings-per-share expectations , as it has in the past seven quarters.
Its largest business, Houston Electric, reported core operating income of $492 million, which was just $4 million shy from 2011. The drop was attributed to “more normal weather,” which can’t be said for recent snowstorms in the South. The company added 45,000 new customers, marked by “a continued strong Houston economy”. They expect customer growth to increase by 2% for 2013.
Mild temperatures were also to blame for the comparable year-on-year revenue in its gas LDCs. The company attributed to a $47 million “loss” on the $226 million earned due to weather factors. This sector saw 22,000 new customers. Field services was a division revenue gainer, climbing to $214 million from $189 million. Helped by improved margins and a 9% increase in throughput commitments.
Duke Energy Corp (NYSE:DUK)
One of the most attractive things about this stock is its 4.4% dividend yield, helped by a 2% increase in payments over 2012. This for a stock which has seen a four-fold increase in price over the past 10 years. The stock experienced a weaker response to earnings than some of its peers, but it’s a long standing performer in the sector and a move above $71 will have it trading a new multi-year highs. Despite the longstanding rally, the stock enjoys a competitive P/E of 22.5, with a forward P/E of 15.
It edged analyst EPS estimates and comfortably beat on revenue. Duke Progress Energy operated for the last six months of 2012 (following a merger), serving electricity to 7.1 million customers. It operates a range of power plant types, from traditional coal-fired stations up to nuclear and alternative energy sources. In 2012 it added five new wind farms and three new solar farms, which deliver 650 megawatts to its portfolio (just over 1% of its base-load).
The outlook for 2013 is for something on par with 2012 for what will be the first full year for the merged company. Cost savings will help, but the company will look to provide “more perspective on 2013 and beyond” in the next few weeks.
In conclusion…
There are a number of potential candidates within the Utility sector which are worth attention. These three stocks are a good starting point. While Utility stocks are unlikely to double in value in six months, they will be a worthy contributor to returns. They will have their time to shine when interest in other sectors fade.
The article 5 Reasons to Buy Utility Stocks originally appeared on Fool.com and is written by Declan Fallon.
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