MIZUHO SECURITIES USA INC. | US EQUITY RESEARCH
For the first trading week of 2016, utilities are up 600 bps relative to the S&P 500. This continues the trend that began in earnest beginning in early December and highlighted in our report "Let's Not Miss the Forest though the Trees" (pub. 12/01/15) reaffirming our relative Overweight sector view. We think the relative trend continues.
Ute stock performance continues to impress: Since December 1, 2015, the benchmark Philadelphia UTY Index has outperformed the S&P500 (SPX) by 990 bps. Following the Fed rate hike in mid-December, the UTY is up an impressive 800 bps relative to the SPX. On an absolute basis, the UTY is up fractionally over each period. Notable outliers since the Fed hike: EXC (+5.2%); ED (+3.4%), D (+2.9%) and AEP (+2.2%). Conversely, the California names, SRE, EIX, and PCG are the laggards, down 8.7%, 4.2%, and 4.0%, respectively. The ongoing Aliso Canyon methane leak, and the potential for still unquantifiable financial impact, is driving SRE performance. We note that only one utility stock, SRE, has underperformed the SPX. Further, all the IPPs have outperformed the SPX since the Fed hike.
Can this relative Outperformance continue? We believe the answer is Yes. More and more market prognosticators are now describing the economic situation as challenging, and some have gone so far as to predict recession. Our evaluation of utility performance heading into recessionary periods shows that the utility sector outperforms the broader market by upper teens/low 20s percentages beginning a year out. If we are headed that direction, recent utility share performance suggests there is still more room to run.
How to play it? We remain positively biased with Buy recommendations on AEP, NEE, PCG, and WEC, and while there isn't enough upside to warrant a Buy recommendation, ED, EIX, and ES are all worth a close look. Mega-caps DUK and SO will be turned to given their liquidity and 4.65% yields, but we caution that both have their various "puts" and "takes that investors need to remain cognizant of. And remember, with most utilities projecting 4-6% EPS growth and paying a roughly 4% yield, total return potential of approximately 8-10% is attractive, especially since one doesn't need to go out on the risk curve to produce such returns.
View the full research report for important disclosure and analyst certification information. Ratings and/or Price Targets may change. Refer to the US Equity Research Portal library for the most recent company research.
Login to the US Equity Research Portal