The utility sector is in the midst of a business and technology transformation in the U.S. Now with Obama’s boldest attempt to address global warming, utilities are shifting their mode of power generation from coal-fired electricity plants to natural gas and alternate energy sources with even more urgency. Global concerns about the pitfalls of green-house gas emissions supported by increasing restrictions on fossil-fuel usage have brought alternative energy into the limelight. The president’s proposed new Environmental Protection Agency rule would reduce carbon emission from power plants by 30% by 2030, compared to 2005 levels.
This shift from carbon to renewables has been happening for quite some time now. However, with the fresh carbon regulations on the way, the U.S. Energy Information Administration (EIA) forecasts approximately 60 gigawatts (GW) of coal plants, or 6% of the country’s total capacity, will be forced to shut down by the end of the decade to meet evolving standards and regulations.
However, this shift will bring about inevitable changes in the energy economy. Looking at the economic perspective, the rules could cost the U.S. economy $50 billion per annum with the forced shutdown of coal-fired plants by 2030, eliminating 224,000 jobs, according to the U.S. Chamber of Commerce.
Although the recent regulation could pose a threat to the sector, let’s not forget that utility services play a major role in a nation’s economic progress, as cheap and abundant supply of power keeps the wheels of development rolling.
Admittedly, the fortunes of some industries are more allied to the overall economy than others, very few have shown as little volatility and are as stable as the utility sector. The times are indeed uncertain given the Iraqi insurgency, the lingering political tensions between Russia and Ukraine, concerns of a slowdown in China and less-than-expected growth in Japan. To add to the woes, the World Bank has cut its global economic growth forecast lately, sending jitters across the equity markets. For risk-averse investors the utility sector seems to be a good bet in uncertain times. Demand for utility services stay primed no matter what the economy is doing.
Moreover, utilities have been known to pay dividends consistently, thereby retaining the confidence of yield hungry investors and proving yet again the sector's defensive characteristics.
Given this backdrop, selecting the correct stocks may appear to be a daunting task. Given the positive sentiment, it might be a good idea to bet on three top ranked utility stocks that are soaring on the bourses this year.
- Entergy Corporation (NYSE:ETR)
New Orleans, LA based Entergy is primarily engaged in electric power production and retail distribution of power.
This Zacks Ranked #1 (Strong Buy) stock delivered positive earnings surprises in the last four quarters with an average beat of 6.15%. The company posted impressive first-quarter 2014 results with its earnings outpacing the Zacks Consensus Estimates on higher wholesale electricity prices owing to a harsh winter and higher revenues from the northeast nuclear fleet in the U.S.
Entergy has already accomplished the required emission cuts by making the plants more efficient and relying heavily on nuclear power, which does not directly emit carbon dioxide. Hence, Entergy’s nuclear fleet gives the company a distinct advantage over its fossil-fuel based competitors.
The cost-cutting efforts at Entergy, strong industrial growth in the Gulf Coast and improvement in forward power prices in the Northeast will help the company to sustain its strong performance. Retail sales growth in its service territories will further benefit the company.
Entergy continues to focus on maximizing shareholder value through regular dividend payouts, backed by a stable financial position. Currently, the company has an annual dividend yield of 4.2%, much higher than the industry average of 3.4%. With a forward P/E of 12.74x, the stock price has gained an impressive 29.6% year to date.
- NRG Energy Inc (NYSE:NRG)
NRG Energy, another Zacks Rank #1 (Strong Buy) stock, is diversifying its generation mix with the expansion of renewable assets. The company's recent acquisition of the assets of Edison Mission Energy, a subsidiary of Edison International (NYSE:EIX), and Roof Diagnostics Solar will support its renewable asset expansion program.
The company’s power plants generate electricity using a wide array of fuel sources with gas accounting for 54% last year. The stock price has increased 31.3% so far this year and it has a forward P/E of 17.97x.
The company has a long-term expected growth rate of 6.4%. The addition of renewable assets and the inking of long-term power supply contracts will enable NRG Energy to secure a stable cash inflow going forward.
- Cia Paranaense de Energia (NYSE:ELP)
Companhia Paranaense de Energia, also known as COPEL, is a fully integrated electric utility in Brazil. The company is engaged in the generation, transmission and distribution of electricity to the State of Paraná.
This Zacks Ranked #1 (Strong Buy) company posted impressive results for first-quarter 2014 with its net income surging 46.3% year over year. COPEL has solid long-term growth prospects, as the country steps up its focus on infrastructural developments and investments aimed at improving electricity generation capacity.
The Brazilian electricity market is the largest in South America. Energy consumption in the country rose 3.5% last year. With a market cap of $4.08 billion, COPEL has a long-term expected growth rate of 10.45%.
With a forward Price/Earnings (P/E) of 7.45x, the stock surged 25.1% so far this year and still has enough fundamentals to drive it upward. Its annual dividend yield of 4.2% is higher than the industry average of 3.4%. This makes the company an attractive bet for investors looking for steady income.
Bottom Line
The biggest positive for the utilities is that there is hardly any viable substitute for their services. This is the most fundamental strength of the industry. Moreover, increasing demand drives this industry forward.
We expect more investment in natural gas and alternate energy projects, wrenching the initiative from the pure-play coal based electricity companies.