Utility stocks normally suffer when bond yields are rising, which typically occurs when the economy is strengthening, but the current round of higher yields has helped utility shares, and Barron’s believes their run-up is not over.
Today’s higher yields are a result of the Fed trying to slow economic growth, which is scaring investors into utilities, Jacob Sonenshine at Barron’s writes, noting that utilities can keep raising prices for customers and maintain steady earnings growth, which is why Morgan Stanley recently upgraded the sector.
State regulators only allow utilities to realize a set return (~10%) on their assets, but when they invest in renewable projects, they boost their total assets, Sonenshine says; as utilities’ assets increase, their earnings grow almost as fast.
Dominion Energy (D), for example, has said it aims to expand its asset base by 9% annually starting this year, driven by 11% growth in zero-carbon electricity generation, amounting to ~$5.4B of a total $7.4B in annual investments.
Dominion is “levered to decarbonization and renewables,” and likely will grow earnings at 6%-8% “into perpetuity,” says Guggenheim analyst Shahriar Pourreza, who rates the stock a Buy.
In a different perspective, “the dividend yield on utilities is now lower than the yields on long-term Treasuries, and this has historically suggested low utility returns relative to bonds,” John Overstreet writes in a bearish analysis posted recently on Seeking Alpha.