A Good Entry Point for 2 Solid Utilities
Wide-moat ITC Holdings and narrow-moat Duke Energy are both trading at a considerable discount and should perform well over the long term.
Wide-moat ITC Holdings and narrow-moat Duke Energy are both trading at a considerable discount and should perform well over the long term.
Travis Miller: For the first time in a long time, we can finally say utilities are cheap. They are as cheap as they've been, we think, since the March 2009 market bottom. Interest rates have been going up throughout the year, and utilities are down 10%, significantly underperforming the S&P 500.
Now, we've had a Fed decision. Low rates seem to be here to stay. Cost of capital is driving some huge premiums in the [mergers and acquisitions] market. We've got five pending transactions in the utilities space, all at huge premiums to where the stocks traded before the M&A transactions. Low cost of capital is certainly driving companies' decisions to make these investments.
There are two names we like in the space right now. ITC Holdings (ITC)--this is a transmission-only utility. There is concern about the federal regulatory rate cuts, but we think that's overblown. We expect the earnings and dividend to grow at double-digit rates. The yield at 2%, we think, gives a good total return. It's also a wide-moat stock.
The second stock we like is Duke Energy (DUK). This is the largest U.S. utility. It yields almost 5% and trades at a 13% discount to our fair value estimate. We think this is a good place to enter for a long-term name like Duke Energy.
Overall, we see the sector growing in the next few years. The earnings are strong. The financial profile is strong. And as long as costs of capital stay low, we expect good performance in 2016.
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