Utilities Yield Value

6/29/2009


Looking for bona fide values in the utility group? We suggest you consider three variations of yield:

Dividend yield.

Earnings yield, the reciprocal of the P/E ratio, is calculated by dividing trailing per-share earnings by the stock price.

Cash-flow yield, or per-share cash flow divided by the stock price, is the reciprocal of the price/cash flow ratio.

By comparing the above yields to historical averages as well as the yield on 10-year Treasury bonds (recently at 3.6%), we screened for truly undervalued stocks. In the process, we found that utilities have rarely been cheaper since at least 1994 based on any of the three measures.

Dividend yield: The 71 utilities in the S&P 1500 Index average a dividend yield of 4.8%, up from 3.7% a year ago and higher than the average of 4.3% since 1994. Utilities typically yield less than Treasurys, but today the average utility’s yield exceeds that of 10-year T-bonds by 1.2%.

Earnings yield: The average utility stock has an earnings yield of 7.7%, up from 5.7% a year ago and higher than the 15-year average of 6.3%. The yield advantage over Treasurys is 4.1%, versus an average of 1.3% since 1994.

Cash-flow yield: Utilities sport an average cash-flow yield of 15.6%, compared to the norm of 13.5% since 1994. The spread over Treasury yields is 12.0%, well above the long-term average of 8.5%.

UTILITY YIELD ANALYSIS
Lower share prices have boosted the various yields on utility stocks well above the benchmark 10-year Treasury bond. As a result, the sector appears quite cheap versus historical norms. For example, the average utility stock in the S&P 1500 has an earnings yield, or per-share earnings divided by stock price, of about 7.7%, versus the Treasury dividend yield of 3.6% — a spread of 4.1%. Since 1994, the average spread has been around 1.3%.
———— Average S&P 1500 Utility Stocks ————
         
– Quadrix Scores * –
10-Year
Treasury
Yield
(%)
Div.
Yield
(%)
Earnings
Yield
(%)

Cash
Flow
Yield
(%)

Value
Overall
Current
3.6
4.8
7.7
15.6
76
64
1 Year Ago
4.0
3.7
5.7
12.1
60
52
5 Years Ago
4.6
3.8
6.8
14.3
85
56
10 Years Ago
5.8
4.4
5.9
12.7
67
52
Dec. 31, 1994
7.8
6.1
7.4
15.8
75
49
1 Year Average
3.3
4.4
7.3
14.8
59
55
5 Year Average
4.2
3.6
6.1
12.5
67
51
10 Year Average
4.6
3.9
6.2
13.2
70
54
Avg. Since 12/31/94
5.0
4.3
6.3
13.5
72
53
* Quadrix scores are percentile ranks, with 100 the best.

There is a fly in the ointment — today’s yield comparisons may be skewed by abnormally low Treasury yields. However, the utility sector also appears cheap relative to Baa-rated corporate bonds, which yield around 7.2%. Since 1994, utility earnings yields have averaged about 1% below corporate bond yields, but are now slightly higher. Based on cash-flow yields, the spread between utilities and corporate bonds stands at 8.4%, versus the 15-year norm of 6.2%.

The utility sector also looks attractive relative to its own historical norms, and utilities have become cheaper than the average stock in the S&P 1500 Index.

Based on cash flow, utilities enjoy a 5.4% yield advantage over the average S&P 1500 stock, well above the long-term average spread of 4.5%.

There is no shortage of bargains among utility stocks. But our experience suggests that investors should look for more than just cheap stocks. Instead, focus on genuine values supported by solid fundamentals. The six value stocks listed in the linked table have attractive relative yields, solid Quadrix scores, and bright outlooks. All six are components of the Top 15 Utilities portfolio. Four intriguing picks are reviewed below.

Alliant Energy ($25; LNT) trades at 11 times expected year-ahead earnings, down 32% from the five-year average forward P/E ratio. Based on both earnings yield and cash-flow yield, the stock also looks cheap relative to its peers.

Alliant expects its utility business to drive growth. The company’s electric and natural-gas utilities combined to generate 84% of last year’s sales. Alliant has gradually sold off its nonregulated businesses, with the intention of keeping a small portfolio of low-risk ventures, such as a renewable-energy unit that provides consulting and engineering services.

The consensus projects per-share profits will slip 10% this year, then jump 14% in 2010. Alliant, with a dividend yield of 6.1%, earns an A rating in the Utility Update and is part of the Top 15 Utilities portfolio.


Even among generally cheap utility stocks, CenterPoint Energy ($11; CNP) stands out as a bargain. The stock has an earnings yield of 10.7% and cash-flow yield of 29.7%, both well above the industry averages. Shares have recovered 23% from March lows but still trade at less than 10 times trailing earnings, 23% below the three-year average. CenterPoint also pays a dividend yield of 7.1%.

CenterPoint collects slightly more than half of revenue from its natural-gas and electric utilities. Nonregulated operations consist primarily of power generation and marketing.

The consensus predicts per-share profits will dip 15% this year, with higher noncash pension expense causing much of the projected decline. However, profits should rebound in 2010, and CenterPoint seems capable of topping the 2010 consensus growth estimate of 10%. Top 15 Utilities component CenterPoint earns an A rating in the Utility Update.


FirstEnergy ($38; FE) supplies energy in Ohio, Pennsylvania, and New Jersey. The regulated electricity segment accounted for 89% of 2008 sales, with the rest coming from nonregulated power generation and marketing.

In June, FirstEnergy offered 2009 guidance for per-share profits of $3.70 to $3.85, below the $4.38 earned in 2008 but well ahead of market expectations at the time. To protect profits from sliding further, management plans to trim costs and possibly sell assets. FirstEnergy anticipates cost savings of $330 million in 2009, above an earlier $100 million target.

The stock offers investors a reliable dividend at a discounted price. Down 22% this year, the shares trade at 11 times expected year-ahead earnings, versus a five-year average forward P/E of 16. FirstEnergy, with a dividend yield of 5.8%, earns an A rating in the Utility Update and is a component of the Top 15 Utilities portfolio.


Oneok ($28; OKE) operates several regulated and nonregulated businesses. The natural-gas utility (16% of 2008 revenue) serves customers in Kansas, Oklahoma, and Texas. An established natural-gas trader, the energy-services segment (43% of revenue) has expanded into power, crude oil, and natural-gas liquids. Oneok also owns a 45.7% stake in Oneok Partners ($43; OKS), which gathers, stores, and transports natural gas.

Lower commodity prices will likely pressure per-share profits, expected to fall 16% in 2009. Wall Street expects a profit rebound of 11% in 2010.

The shares trade at less than 11 times expected year-ahead earnings, a 23% discount to the five-year average. Top 15 Utilities component Oneok, with a dividend yield of 5.7% and an earnings yield of 9.9%, earns an A rating in the Utility Update.

 

STANDOUT UTILITY VALUES
———————— Quadrix Scores * ————————
Company (Price; Ticker)
Div.
($)

Div.
Yield
(%)

Earnings
Yield
(%)
Cash-
Flow
Yield
(%)
Momen-
tum
Value
Quality
Overall
Sector
Industry
AGL Resources ($31; AGL)
1.72
5.5
10.4
16.8
82
85
67
85
96
Gas
Alliant Energy ($25; LNT)
1.50
6.1
8.5
20.0
48
85
60
66
61
Electric
CenterPoint ($11; CNP)
0.76
7.1
10.7
29.7
56
93
68
73
76
Diversified
FirstEnergy ($38; FE)
2.20
5.8
10.9
26.6
45
93
67
68
53
Electric
OGE Energy ($27; OGE)
1.42
5.3
9.7
18.1
52
84
53
66
73
Diversified
Oneok ($28; OKE)
1.60
5.7
9.9
18.5
51
88
61
64
60
Diversified
S&P 1500 Utility Average
4.8
7.7
15.6
61
76
55
64
50
* Quadrix scores are percentile ranks, with 100 the best.      Sector scores are derived from 12 statistics that work particularly well for utilities.

 


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