Utilities are commonly referred to as classic "widow-and-orphan" stocks. This is due to their nature as dependable companies that generate profits year after year, regardless of the condition of the broader economy. Utilities have the ability to generate reliable returns over time, thanks to their hefty dividend yields and low volatility. Naturally, stocks such as these are ideal options when global economic uncertainty rears its ugly head.
Since the start of the year, the markets have rolled over, largely due to turmoil in the emerging markets. Thankfully, utility stocks such as Southern Company (NYSE:SO), Duke Energy (NYSE:DUK), and American Electric Power (NASDAQ:AEP) allow their investors to basically ignore headline risk from across the world.
No need to worry about the emerging markets
Lately, the market seems highly concerned of an economic slowdown in the emerging markets such as China. Since so many multinational companies that make up the Dow Jones Industrial Average and S&P 500 Index derive substantial portions of their revenues from overseas, slowing growth in the emerging markets would represent a sizable hit to their profits. However, U.S. utilities wouldn't be hurt at all from this, as they do business entirely in the United States. Duke Energy is the exception, as it generates some of its revenues in Latin America, but it's a relatively small percentage overall.
Southern Company reported a 3% increase in operating revenue in 2013, along with nearly flat underlying earnings. Meanwhile, Duke Energy's core underlying earnings remained flat in the first nine months of the current fiscal year.
American Electric's operating earnings rose 4.5% last year, and it maintains its long-term growth plan of 4% to 6% annual earnings growth over the next several years. This will be achieved by organic growth, as well as investment in utility infrastructure and cost reductions.
While these might not seem like outstanding results on the surface, their stability becomes especially valuable when markets enter corrections. Since the start of 2014, the markets have lost about 5%, but utilities have outperformed.
Harsh weather not a concern
A few key sectors of the economy, such as retail and consumer discretionary, are reporting disappointing fourth-quarter results. Some companies are blaming their underwhelming results on harsher than expected winter weather conditions. It's true that many consumers weren't able to spend as much as the market expected during the crucial holiday shopping period. Once again, on this issue, utilities have nothing to worry about.
In fact, unusually harsh weather might actually serve as a tailwind for utilities. Americans may very well curtail spending on frivolous items due to severe weather, but for the most part, they're still going to power their homes. That means rising electric bills, and by extension, rising profits for utilities. There's little doubt Southern Company, Duke Energy, and American Electric Power will continue to generate reliable profits and increase their dividends later this year.
Utilities may have a smoother road ahead
When the market suddenly seems unconvinced in the state of the global economy, utilities can provide a valuable dose of stability. As investors become increasingly concerned about a slowdown in China and uncertainty across the emerging markets, as they are now, U.S. utilities give investors several layers of safety.
First, their businesses are almost entirely contained within the United States, meaning their profits aren't nearly as dependent on the emerging markets as many others. In addition, their 4% to 5% dividend yields provide a guaranteed return and protection against severe downturns. And, their status as low-volatility stocks mean investors aren't at great risk of suffering major capital losses, even if other sectors drop significantly.
The turmoil currently swirling through the markets may not subside quickly. If that's the case, utilities offer a low-risk alternative that merit attention.
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