Understanding the Utilities Sector
The utilities sector comprises companies that provide basic amenities, such as electricity, water, sewage services, dams, and natural gas to residential, industrial, commercial, and government customers. Since these services are always in demand irrespective of the economic cycles, the utility tends to be one of the most stable sectors of the stock market in terms of its day-to-day performance. It is a huge sector and an important part of the global economy. In the United States, the sector has a market capitalization of over $1.5 trillion (as of March 2021).
Although utilities are private, for-profit entities, they are part of the public service domain—and are therefore heavily regulated.
Because of the movement towards “clean” energy, along with initiatives, competition-enhancing regulations, and investments in renewable energy resources, some analysts predict strong growth for the utility industry in the present decade.
Why Invest in the Utilities Sector?
▪ Regular Dividends and higher Dividend Yield
Utilities offer investors consistent and stable dividends, coupled with less price volatility compared to the overall stock market. Therefore utilities are also a popular long-term buy-and-hold alternative. The dividend yield of the utilities sector at 3.6% is reportedly higher than any other sector. Dividend yields are usually higher than those paid by other sector stocks.
▪ Stable Stocks
Utilities tend to be very tolerant to economic cycles because demand for utilities does not change much compared with most other industries, even in the worst recessions. As a result, utilities tend to perform well during recessions and economic downturns. That is why utilities are known as defensive stocks. During times of economic downturns with low-interest yields, such stocks become appealing.
▪ Avenues of Investment
Utilities offer many options for investment including individual company stocks, bonds and ETFs.
Stocks to look out for in Utilities Sector
The utilities sector consists of a range of companies in different industries. They include producers, providers, and suppliers such as:
- Energy companies
- Water companies
- Electricity companies
- Sanitation and waste disposal companies
- Natural gas companies
▪ NextEra Energy, Inc. (NEE)
NextEra Energy along with its subsidiaries, transmits, generates, distributes, and sells electric power to wholesale and retail customers in North America. The company generates electricity through solar, wind, nuclear, and fossil fuel, such as coal and natural gas facilities. The company’s important statistics are:
|Dividend Payout Ratio||68%|
▪ American Water Works Company, Inc. (AWK)
American Water Works Company along with its subsidiaries, manages water and wastewater services in the United States to serve residential customers, commercial customers, industrial customers, public authorities and other utilities and community water and wastewater systems. The company’s important statistics are:
|Dividend Payout Ratio||56%|
▪ American Electric Power Company, Inc. (AEP)
American Electric Power is an electric public utility holding company that engages in the generation, distribution, and transmission of electricity for sale to wholesale and retail customers in the United States. It operates through Transmission and Distribution Utilities ,Vertically Integrated Utilities, AEP Transmission Holdco, and Generation & Marketing segments. The company’s important statistics are:
|Dividend Payout Ratio||63%|
▪ Exelon Corporation (EXC)
Exelon Corporation is a utility services holding company, engaging in the energy generation, marketing, and delivery businesses in Canada and USA. It operates nuclear, wind, fossil, hydroelectric, solar, and biomass generating facilities. The company’s important statistics are:
|Dividend Payout Ratio||138%|
▪ Public Service Enterprise Group Incorporated (PEG)
Public Service Enterprise Group Incorporated, through its subsidiaries, operates as an energy company mainly in the Mid-Atlantic and North-Eastern United States. It operates through two segments, PSEG Power and PSE&G. The PSE&G segment transmits electricity; distributes gas and electricity to residential, industrial, and commercial customers, and also invests in solar generation projects. The Power segment operates gas, nuclear, oil-fired, and renewable generation assets. The company’s important statistics are:
|Dividend Payout Ratio||47%|
▪ Sempra Energy (SRE)
Sempra Energy is an energy-services holding company in the United States and also operates internationally. The company’s San Diego Gas & Electric Company segment generates, distributes, and transmits electricity; and supplies natural gas. Its Sempra Mexico segment owns, develops, holds, or operates in electric, natural gas, liquefied natural gas (LNG), liquid petroleum gas (LPG), liquid fuels infrastructure, ethane; and purchases LNG, and purchases and sells natural gas. The company’s important statistics are:
|Dividend Payout Ratio||59%|
▪ Eversource Energy (ES)
Eversource Energy is a public utility holding company that engages in the energy delivery business. The company operates through Electric Distribution, Electric Transmission, Water Distribution, and Natural Gas Distribution segments. It is involved in the distribution and transmission of electricity; solar power facilities; and supply of natural gas. The company operates regulated water utilities that provide water services to more than 200 thousand customers. The company’s important statistics are:
|Dividend Payout Ratio||48%|
Risks Associated With the Utilities Sector
▪ Regulatory risk
Utility sector has an intense regulatory control and it is difficult for it to raise charges to increase revenue. Utilities require expensive infrastructure that in turn requires routine maintenance.
Financial results are affected by changes in governmental regulations at local, state or federal level, as well as changes in environmental policies. Authorities where regulators are elected and not appointed, will tend to have more customer-friendly rates.
▪ Interest-rate risk
Changes in interest rates affects how investors look at utility stocks. Rising of interest rates can lead to underperformance of the sector. This happens because income-obtaining investors switch to higher-yielding investments and away from utility stocks with lower income growth.
▪ Technology risk
Advancements in technology pose a long-term risk for utilities, particularly for electricity utilities. Dynamic technologies such as rooftop solar panels and battery storage may encourage some customers to disconnect from the grid, and thus reducing the value of distribution and transmission assets. In such a scenario, regulators will argue for less investment in the grid, therefore disrupting the reliable earnings opportunity from these assets.
Utilities have always been having higher dividend payout ratios than other companies; the average was 65% for the sector compared to 36% for the average company in the S&P 500 during 2019.
Deloitte™ identified five trends for the utilities industry through its early 2021 power and utilities industry outlook report:
- Extensions in infrastructure, to manage new renewable energy sources
- Enhanced competition, innovative firms using renewable energy sources, like solar or wind power
- Oil companies and other traditional-energy players entering the renewable-energy field
- Greater electrification of transportation, and longer-range efficient batteries for trucks and cars
- A greater emphasis on disaster mitigation
President Joseph Biden has announced intentions for the U.S. to rejoin the Paris Climate Accord and hoped for the country to achieve a 100% clean energy economy and zero greenhouse gas emissions by 2050, committing $2 trillion in investment to achieve this goal.
In the U.S., the movement towards “clean” energy, and competition-enhancing legislation along with administration committed towards renewable energy resources, has some financial analysts predicting strong growth for the utilities industry in the next 10 years.
But not all analysts are optimistic about this industry. Some Senior Investment Strategists foresee the utilities industry as underperforming, at least in the short-term. They suggest company valuations that high, relative to the sector’s historical average and, as the economy recovers from the COVID-19 pandemic, the prospect of rising interest rates and inflation will tend to have a negative impact on utilities stocks.
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