Utilities a better bet in April, extending valuation premium over S&P 500 | Utilities Message Board Posts

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Msg  1882 of 1911  at  5/10/2022 12:36:28 PM  by


Utilities a better bet in April, extending valuation premium over S&P 500

from SNL Daily Gas Report

Utilities a better bet in April, extending valuation premium over S&P 500

Byline: Jason Lehmann

Against the backdrop of tightening financial conditions, rising interest rates and inflationary pressures, the S&P 500 Utilities Index outperformed the S&P 500 for a fifth consecutive month in April. Along with utilities, investors favored consumer staples and energy equities while eschewing communications services, consumer discretionary and IT stocks during the month.

The S&P 500 Utilities group declined 4.3% in April to move the index 0.5% into negative territory in 2022. The S&P 500 declined 8.8% in April, its worst performance for the month since 1970, while the tech-heavy Nasdaq Composite fell 13.3% to extend the index's year-to-date loss to more than 21%.

Positive quarterly earnings results hitherto may lend further support for energy utility equities; of those companies reporting thus far through May 4, 17 companies surpassed S&P Capital IQ consensus estimates, while eight missed estimates.

From a valuation perspective, the S&P 500 Utilities Index continues to trade at a premium to the S&P 500 on a next-12-month stock price-to-estimated EPS basis as broader markets remain volatile amid persistently rising inflation, the prospect of multiple interest rate hikes in 2022 and geopolitical concerns.

Utilities continue to appear to be insulated from short interest activity versus most other S&P 500 subsectors, with approximately 2.2% of shares held short at mid-April, consistent with levels observed in mid-March. By comparison, short interest in consumer discretionary and healthcare stocks rose in April. The financials sector remains the least-shorted sector as investors continue to see banks benefiting from the Federal Reserve's push to repeatedly raise rates over the next year.

Earlier this year, Regulatory Research Associates, a group within S&P Global Commodity Insights, identified several developments and trends to watch in 2022 that may affect utility valuations, including inflation and rising interest rates, the treatment to be accorded stranded costs related to the energy transition, recovery of costs associated with severe weather events, the Russian invasion of Ukraine, the ongoing impacts of the COVID-19 pandemic and the upcoming midterm elections in the U.S.

Gas utilities outperformed electric, multi-utility and water equities in April, buoyed by Southwest Gas Holdings Inc.'s 12.5% increase on simmering M&A interest in the Las Vegas-based gas utility operator. On April 18, management announced its board is undertaking a review of strategic alternatives of the company, which could include the following: an outright sale of Southwest Gas, a separate sale of the holding company's business units and a previously announced spinoff of its energy infrastructure services subsidiary. Coincident with Southwest Gas' share price appreciation, the company s forward share price-to-estimated EPS multiple increased 10% to 17.6x versus the gas utility group's average 2.1% decline to 17.7x.

As Southwest Gas Holdings considers its own strategic alternatives, South Jersey Industries Inc. continues to advance a transaction that would see the company taken private by a J.P. Morgan Investment Management Inc.-helmed investment vehicle, filing in April for approval of the $8.1 billion deal with the New Jersey Board of Public Utilities. The SJI shares declined 1% in April, versus the group's average 1.9% decline.

Most multi-utility stocks outperformed on a relative basis in April, with sector equities declining 2.5% on average. PG&E Corp. rose 5.2% to move the stock into positive territory year on year. PG&E reported first-quarter EPS of 30 cents, up from 23 cents a year earlier and beating the S&P Capital IQ consensus estimate of 25 cents. Total operating revenues across electric and natural gas businesses jumped to nearly $5.8 billion in the first quarter, rising from $4.72 billion in the first three months of 2021.

Forward water utility valuations declined in April as sector stocks declined 11.5% on average. With the exception of Artesian Resources Corp., water utilities have steeply underperformed energy utilities thus far in 2022, declining 19.3% on average. By comparison, multi-utilities are up 3%, electric utilities are down 4.5% and gas utilities are up 9.3% on average, driven by the aforementioned M&A activity.

The quadrant chart below shows how the RRA utility universe appears when comparing the P/E ratio and the estimated long-term earnings growth rate. A sizeable portion of utility P/E multiples remained largely in the upper-left quadrant throughout 2021 and into 2022, suggesting the companies could be relatively undervalued, considering their lower P/E values and long-term earnings growth potential.

Share price volatility

Smaller-cap companies generally have lower trading liquidity and therefore, all other things being equal, tend to have more significant share-price swings than larger-cap equities. An analysis of the standard deviation of log-normalized daily price returns for utility stocks over the past year supports this thesis, with the smaller-cap water utility sector displaying the highest average price volatility.

Average gas utility share price volatility declined for a second consecutive month to 20.1%, led by volatility declines in Northwest Natural Holding Co. and ONE Gas Inc. shares. Within the water utility sector, average price volatility rose to 28.7% from 23.6%.

Measured by the standard deviation from the average price, volatility quantifies how extreme the price movements of a particular equity or group of equities are. Utilities are generally considered to have lower volatility in share price compared with other industries. Trends toward lower overall volatility in utility segments, as highlighted above, may indicate a flight to safety by investors as they buy utilities and hold them for longer, especially in times of, for example, heightened geopolitical stress.

Regulatory Research Associates is a group within S&P Global Commodity Insights.


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