ETF Teardown: The Best Utility Stocks

Noted for their simplicity and other advantages over mutual funds, exchange-traded funds have become a popular investing tool. ETFs hold a collection of stocks that share certain elements. Investors drawn to the potential returns in basic utilities, for example, can turn to Utilities Select Sector SPDR, which includes Duke Energy (NYSE: DUK  ) and FPL Group (NYSE: FPL  ) in its top holdings. But because this ETF invests in a number of stocks, its broad diversity also limits your upside.

Fear not, Fool -- in this edition of "ETF Teardown," we'll use some nifty tools to drill into the best investments in the utilities sector. To help, we'll use Motley Fool CAPS, our tool for screening and ranking stocks and stock pickers.

The power of tags
To help investors quickly locate great stocks, the 5,500 stocks rated in CAPS can be "tagged" with descriptors that group the company with others sharing certain qualities -- "India," for example, or "Printed Circuit Boards."

Selecting the Electric Utilities label in CAPS gives you a list of 60 companies that trade on American exchanges. This particular collection of investments has outrun the general market in the past year; it’s up 5%, while the S&P 500 has dipped by 12%.

To gauge which companies the CAPS community thinks offer the best opportunities in the electric-utility space today, we'll sort a sampling of these businesses by their CAPS star rank, from one to the maximum five stars. We'll then examine a few companies to see who -- from Wall Street to Main Street -- is bullish or bearish on the business, and why.

Getting down to the nitty-gritty
Here are some electric utility stocks I've gleaned from CAPS today.

Company

CAPS Rank (Out of 5)

Market Capitalization (in Billions)

Exelon (NYSE: EXC  )

*****

$59.6

Otter Tail (Nasdaq: OTTR  )

*****

$1.2

Pepco Holdings

*****

$5.2

Southern (NYSE: SO  )

****

$26.8

Ormat Technologies (NYSE: ORA)

****

$2.3


Did somebody say "nucular"?
"Nucular" power (or “nuclear,” to those outside of Texas) may be experiencing a renaissance in the United States. With energy costs exploding, the social stigma of nuclear power may finally be waning. It’s been 30 years since the NRC has issued a license to build a commercial nuclear reactor, but Chicago-based Exelon, the largest U.S. operator of nuclear power plants, has plans to try and change that.

The Nuclear Regulatory Commission (NRC) reports having received applications to build 15 new reactors in eight states. Later this year, the commission anticipates applications for another dozen reactors in seven states. The potential for significant new revenue from nuclear plants has given Exelon's stock a big boost lately. To help keep development on the fast track, the company has spent more than $5 million in a little more than a year lobbying the federal government on power- and nuclear-power-related issues.

Power-generation technology has certainly improved since the Three Mile Island accident in 1979. Thanks to companies like Shaw Group (NYSE: SGR  ) , which meets the needs of operators with better reactor design and facilities, nuclear power is cheaper and safer today. Europe boasts 197 reactors -- 59 in France alone, with 13 new reactors currently under construction.

CAPS investors certainly appreciate the future potential of nuclear energy and are bullish on Exelon’s leadership in this new era. They also see the efforts as potentially quite profitable, as 224 out of 230 All-Star investors expect the company to outperform the S&P in the future.

Not just dust in the wind
Just like nuclear power, other alternative-energy sources are receiving renewed scrutiny these days. Government and industry studies show that wind energy could produce 20% of the nation’s electricity by 2030. Otter Tail‘s wind-tower manufacturing subsidiary, DMI Industries, is planning to expand plants in North Dakota and Oklahoma that will make it one of the largest producers in North America.

Otter Tail is turning green for good reason: DMI may be the wind in Otter’s sail in the near term, as DMI’s president cited overwhelming customer demand for 2009 and 2010. A nice quarterly dividend of $0.2975 (that's a 3% yield at today's prices) has also likely led a large contingent of CAPS investors -- 480 out of 496, to be exact -- to forecast strong tailwinds that will continue to push the stock ahead of the S&P.

Lead a horse to water ...
Plucking individual stocks from the utility sector is, of course, a high-risk endeavor. Investors should always perform their own due diligence on companies rather than commit based on a recommendation. Even the best stock pickers can be horribly wrong.

Do you agree that nuclear energy is a good place to invest today? Or are alternative energy plays more hype than substance? Give your own opinion at Motley Fool CAPS.

The Motley Fool Hidden Gems recommends companies with exceptional management and growth prospects, including Otter Tail. Check out which other stocks have the service beating the market by 19 points on average with a free 30-day trial.

Fool contributor Dave Mock loves doing the teardown part -- it's the put-back-together part he hates. He owns no shares of companies mentioned here. Dave is the author of The Qualcomm Equation. Southern and Duke Energy are Income Investor recommendations. The Fool's disclosure policy does windows, too.


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