Utilities to Thrive on Recovering US Economy
Utility services play an important role in the economic system of any nation. Like every other sector, the demand for utility services fluctuates with the health of the broader economy. The extent of demand for electricity, gas and water varies with the swings of the economy, but these companies providing basic services can never go out of business. This is their most basic fundamental strength.
Utility stocks are also considered as a safe investment bet given the regulatory nature of business and domestic focus. The capital intensive utility sector has done well in the last 12 months aided by lower interest rates and an ongoing improvement in the U.S. economy that led to more jobs and higher housing unit completion.
Per a release from the U.S. Department of Housing and Urban Development, nearly 883,000 housing units were completed in 2014, increasing 15.5% from 2013 levels. This data combined with the U.S. Energy Information Administration's (EIA) projection of a 1.1% and 0.9% respective increase in electricity generation in 2015 and 2016 bodes well for the utility sector going forward.
The utility industry has evolved over the decades with increasing industrialization and population growth spurring power demand. However, the price for this unrestricted expansion in the utility space has been heavy, particularly in terms of greenhouse gas emissions. The U.S. government has, over the years, formulated stricter regulations to lower emissions. In Jun 2014, the U.S. Environment Protection Agency (EPA) proposed the Clean Power Plan to lower carbon emission from power plants by 30% by 2030 from 2005 levels.
The utilities on their part have proactively responded to these criticisms, investing in technologies to meet stringent environmental regulations. As a blessing in disguise, they've been compelled to develop new technologies to produce power at cheaper rates and boost their renewable portfolio. Also, the shale boom in the U.S., supported by the clean burning nature of natural gas, has resulted in its increasing uptake for power generation. An EIA report projects natural gas based generation rising from 27.3% of total generation in 2014 to 28.1% in 2016.
The U.S. economy is showing consistent signs of improvement - the unemployment rate came down to 5.6% in Dec 2014 from the highs of 6.7% in Dec 2013. The U.S. GDP is expected to grow by 2.6% in 2015. The improvement in economic conditions will have a positive co-relation with demand for utility services.
From an investment perspective, utilities provide assured returns in an uncertain global market. Hence we advise investors to stay invested in utility stocks. Their dividend payment histories and share buybacks make them all the more attractive.
Zacks Industry Rank - Positive
Within the Zacks Industry classification, Utilities are a stand-alone sector, one of 16 Zacks sectors. The rural wire-line telephone companies are also grouped within the Zacks Utility sector, but the three major industries within this sector include Electric Power, Gas Distribution and Water Supply.
We rank all of the 258 industries in the 16 Zacks sectors based on the earnings outlook for the constituent companies in each industry. This ranking is available in the Zacks Industry Rank .
The way to look at the complete list of Zacks Industry Rank for the 258+ industries is that the outlook for industries with Zacks Industry Rank of #88 and lower is 'Positive,' between #89 and #176 is 'Neutral' and #177 and higher is 'Negative.'
After scanning the Utility sector, we find three prominent industries under it in the first two categories. Gas Distribution has a Zacks Industry Rank #50, Electric Power has a Zacks Industry Rank #84 and Water Supply has a Zacks Industry Rank #115.
Overall, our present outlook on this industry is Positive.
Utilities have started to release fourth quarter 2014 results. Scanning the earnings releases so far (as of 1/30/2015), we notice that utilities have already notched up earnings growth of 12.3% as compared to the S&P 500's average year-over-year growth of just 4.3%. The early trend indicates that the utility sector will again outperform the S&P 500 this quarter. In the third quarter, total earnings from the utilities were up by 9.3% on 4% revenue growth.
Among the latest earnings releases in the utility space, American Electric Power Co.'s ( AEP ) fourth quarter earnings of 52 cents were 7.69% lower than estimates while Xcel Energy Inc.'s ( XEL ) earnings of 39 cents surpassed the expectation by 14.7%.
The year-over-year decline in the unemployment rate in the majority of U.S. states and steady investments by the utilities to strengthen their existing infrastructure will boost performance going forward. FirstEnergy Corp. ( FE ) and other utility operators are investing consistently to improve and enhance existing infrastructure. The infrastructure improvement drive across the sector will not only improve system reliability but also meet the growing demand for utility services given the expanding customer base.
For 2015 and 2016, earnings from this sector are expected to increase at rate of 3.7% in each year. For 2015 and 2016, revenues are expected to increase at a 2.1% year-over-year clip.
For more information about earnings for this sector and others, please read our ' Earnings Trends ' report.