The threat of rising interest rates has not been kind to the share prices of many of America's biggest utilities. Providers of energy including Southern Company (NYSE: SO ) , American Electric Power (NYSE: AEP ) , and PPL Corporation (NYSE: PPL ) have seen their stocks suffer at the hands of rising rates. In short, it's been a rough summer for these high-yielding utilities.
At the same time, these companies represent high-quality companies with a virtually assured business model, due to the fact that electricity is vital to our very national security. Therefore, should every investor add one of these utilities to their portfolios, or stay on the sidelines? Or, rather, are utilities best reserved for a specific type of investor?
Plenty of pain to go around
Since August 1, PPL, Southern, and American Electric are down 6%, 7%, and 8%, respectively. And, in each case, their performance lags that of the broader market. Over the same time frame, the S&P 500 Index is down just 3%. Going back slightly further, the results are even less impressive. Both Southern and American Electric have endured double-digit losses since July 15.
Clearly, the fear of rising interest rates has taken its toll on each stock. This shouldn't entirely be a surprise, though. While most investors can appreciate fixed income securities selling off as interest rates rise, it should be expected that utility equities would do the same, since they trade so similarly to bonds.
At the same time, though, investors can hang their hats on the fact that through the share price pain, these stocks have continued to do what investors count on them for; namely, providing hefty dividend yields. At current prices, investors can secure yields of 4.9% on both Southern and PPL, and 4.6% on American Electric Power.
And, despite rising interest rates, there's little doubt these utilities will continue to provide strong income for many years. After all, these utilities have long histories of paying, and raising, their payouts for many years, through periods of both high and low interest rates.
Southern has paid dividends for 263 consecutive quarters—dating back to 1948.Moreover, the company has actually managed to increase its shareholder distribution for 12 years in a row. Meanwhile, American Electric recently declared its 413th consecutive quarterly common stock cash dividend, and has paid a dividend to its shareholders every quarter since July 1910. Last but not least, PPL has paid dividends for 271 quarters in a row, a streak amounting to nearly 68 years.
However, it's important to remember that there's a cost to these juicy yields, which comes in the form of extremely modest growth. Since electricity is something consumers still need in economic downturns, investors are not likely to see strong growth in times of economic recovery. After all, there's only so much energy a household will consume.
Southern grew its adjusted earnings per share by 2.6% over the first half of 2013, and PPL posted $818 million in net profit through the first half of the current year, up just slightly from $812 million in the same period one year ago. For American Electric's part, it saw its first-half net income actually drop 6.6%.
Are utilities right for every investor?
In the end, whether an investor should add these utilities to their portfolio depends on their individual situation and investing goals. In my estimation, young investors with a long investing time horizon shouldn't allocate much of their capital to utilities, due to their extremely slow-growing natures.
On the other hand, investors with a significant need for income (such as those in or near retirement) who are generally more risk-averse, should consider these utility stocks. Southern, American Electric Power, and PPL have long track records of consistent performance, and give you the added bonus of trading for more advantageous prices than at any time for most of the past year. Therefore, while growth investors should look elsewhere for better opportunities, those investors who need to derive strong income from their investments should continue to own these utilities with confidence.
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