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Utility stocks are normally unpretentious workhorses in a portfolio. They aren’t flashy and don’t generate large capital gains. But they usually provide stability and cash flow, which is a combination that appeals to many investors in uncertain times.
Last year was an exception. Although the dividends continued to flow, the rapid run-up in interest rates by the central banks hit utility stocks hard. The S&P/TSX Capped Utilities Index (total returns) began 2022 at 881.48. It finished at 788.38 for a loss of 10.6%. Suddenly, utility stocks didn’t look quite so stable.
All of Canada’s major utilities were hit. Rising interest rates raised borrowing costs for these capital-intensive companies. At the same time, share prices fell as investors demanded higher yields for holding risky, interest-sensitive stocks.
We’ve continued to see interest rates rise this year, but there’s been a turnaround in the performance of utilities. As of the close on May 26, the TSX Total Returns Capped Utilities Index was ahead 7.7% year to date. Investors had recovered a good part of the losses of 2022 in five months.
What happened? Here’s how I see it.
Interest rate expectations. Looking ahead, it appears the latest rate hike cycle is over, or close to it. Inflation is edging down with each passing month, reducing the need for more rate hikes to bring it under control. That doesn’t mean there won’t be a few more, but we’re unlikely to return to the intensity we experienced last year.
Oversold stocks. The utilities pendulum swung too far to the downside last year. It was due to correct itself – which it has.
Attractive yields. In early March, Fortis shares were yielding 4.2%. Canadian Utilities was paying 5.1%, and Emera was yielding 5.2%. Those are attractive returns from rock-solid companies and investors started to take notice. The resulting price increases means the yields are lower now, but still appealing.
Although other utility stocks have higher yields, my go-to choice in this sector has long been Fortis Inc. Here’s an update on the stock.
Fortis Inc. (TSX: FTS) is an electricity and natural gas distribution utility based in St. John’s, Newfoundland and Labrador. It has total assets of about $65 billion and generated revenue of $11 billion in 2022. The company serves about 3.4 million utility customers in five Canadian provinces, nine U.S. states, and three Caribbean countries. It has 9,100 employees.
The shares touched a 52-week low of $48.45 in mid-October but have been gradually working their way up since. After a setback in early March, the price took off and the shares are now trading at over $57.
The company released first quarter results recently, and they came in ahead of expectations. Net earnings attributable to shareholders were $437 million ($0.90 per share). That compares with $350 million ($0.74 per share) in the first quarter of 2022. Adjusted net earnings were $439 million ($0.91 per share). That was up $70 million ($0.13 per share) from the same period in 2022.
Management said the profit increase reflected rate base growth, higher retail electricity sales, and lower depreciation expense.
Fortis invested $995 million in capital expenditures in the quarter and said the company is on track to spend $4.3 billion on capex in 2023. Projects include construction of the Eagle Mountain Woodfibre Gas Line in British Columbia.
The company is selling its 93.8% ownership interest in the Aitken Creek Natural Gas Storage Facility to Enbridge for approximately $400 million. Management says the proceeds will be used to strengthen the balance sheet and support the financing of its regulated utility growth strategy.
The quarterly dividend is $0.565 per share ($2.26 per year). The shares yield 3.9% at the current price. The company expects annual dividend increases of 4%-6% through 2027.
The company’s $22.3 billion five-year capital plan is expected to increase the midyear rate base from $34.1 billion in 2022 to $46.1 billion by 2027. This translates into a five-year compound annual growth rate of 6.2%.
If you want a higher yield, check out some of the other companies in this sector. For example, Emera Inc. (TSX: EMA) is currently paying 4.9%.
If you have a money question, send it to gordonpape@hotmail.com and write Fund Library Question in the subject line. Sorry, I can’t guarantee a personal response, but I’ll answer as many questions as possible here.
Gordon Pape is one of Canada’s best-known personal finance commentators and investment experts. He is the publisher of The Internet Wealth Builder and The Income Investor newsletters, which are available through the Building Wealth website. To take advantage of a 50% saving on a trial subscription and receive the special report “The Tumultuous Twenties,” go to https://bit.ly/bwGP20s.
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Notes and Disclaimer
Content © 2023 by Gordon Pape Enterprises. All rights reserved. Reprinted with permission. The foregoing is for general information purposes only and is the opinion of the writer. Securities mentioned carry risk of loss, and no guarantee of performance is made or implied. This information is not intended to provide specific personalized advice including, without limitation, investment, financial, legal, accounting, or tax advice. Always seek advice from your own financial advisor before making investment decisions.
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