Friday, September 9, 2011

Avoid Electric Utility Stocks

In addition to leading consumer staples stocks, leading electric utility stocks offer poor value.  They also offer an unimpressive combination of current income and income growth in an era where that will be more important than historically.  

Take two of the largest electrics, Southern Co. and ConEd, for example.  They have outperformed the S & P 500 so far this year by more than 20 percentage points.  As with consumer staples stocks, electrics probably have outperformed because of greater earnings stability--and the plunge in government bond yields as competing investments (and reduced utility borrowing costs).

On the principle of growth + income versus valuation, these stocks are even worse than the staples stocks highlighted yesterday.  With forecast earnings growth of 5% (if that) and dividend yields of only 4.5%, these stocks do not deserve to sell for their current multiple of 16 times 2011 earnings.  Furthermore, the companies carry large debt loads and most important, they generate significantly LESS cash flow than they use for capital spending and dividend payments.

There are, however, stocks where the combination of earnings growth and dividend yield approximates the 1.0 level that I prefer, along with solid balance sheets and excess cash generation.  More on those in the next post.

Steve Lehman

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