Utilities can be a great retirement investment. Source: Consolidated Edison.
Utility stocks are a great way to get steady, nearly guaranteed income. If you're building a retirement nest egg, utilities can be a great choice for a part of your portfolio. There's relatively low downside risk, because of consistent revenue and cash flows that are largely recession-proof. On the other hand, utilities don't typically offer much in the way of growth potential, and that may make them a bad choice for your retirement account, especially if your retirement is years away. You want to find a balance between stability and growth.
With that in mind, we asked three of our contributors to give us a utility stock that was ideal for retirement accounts. They offered up Brookfield Asset Management (BAM +4.16%) with significant and diverse ownership of more than just utility assets; Consolidated Edison (ED +0.07%), one of the biggest U.S. utilities; and SolarCity (SCTY +0.00%), the fast-growing distributed solar power provider.
Let's take a closer look at what they had to say about these three very different utility companies.
Adam Galas: In my opinion, a great utility-like stock that retirees should consider owning, despite its lower 1.5% yield, is Brookfield Asset Management. It's a good choice for numerous reasons.
First, Brookfield is one of the world's largest and most experienced asset managers of high-quality infrastructure, utility, private equity, and real estate assets, with $218 billion under management and over 100 years of experience.
Its business model is designed around gathering asset management fees for this enormous asset base -- it generates $1.4 billion in annualized fees -- as well as equity, general partner, and incentive distribution rights fees from its collection of limited partnerships, such as Brookfield Infrastructure Partners, Brookfield Renewable Energy Partners, and Brookfield Property Partners.
Brookfield Asset Management uses its enormous access to low-cost capital and its knowledge of global infrastructure, utilities, and property markets -- things with long-term contracts and highly predictable cash flows -- to help set up large deals for its MLPs, which help them to grow their distributable cash flow, or DCF, and payouts, which results in higher distributions back to Brookfield Asset Management, with up to 25% of marginal DCF coming back as well.
This growing river of cash has helped it to grow its own dividend significantly:
Analysts are predicting a 16.7% compounded annual dividend growth rate over the next five years.
I think that the combination of Brookfield Asset Management's world-class experience, its vast scale, and its fast-growing dividend, fueled by great prospects for more billion-dollar deals for its MLPs, makes this one stock that retirees are likely to be very happy with over the long term.
Bob Ciura: Consolidated Edison is my pick for a utility that's perfectly suited for retirees' investment portfolios. ConEd is one of the largest regulated utilities in the nation, which provides the company a great deal of stability. Being a regulated utility, ConEd is somewhat insulated against the threat of rising interest rates, because regulated utilities routinely achieve favorable rate outcomes each year. They're able to pass through regular rate increases to cover their higher costs.
This results in a very steady stream of profits each year, the majority of which are then returned to shareholders as a dividend. Earnings per share are up 2.5% over the first half of 2015, year over year. The company has benefited from growth in its gas delivery business, as well as lower operations and maintenance expenses so far this year.
ConEd has increased its dividend for 41 years in a row, an excellent track record of rock-solid dividends. ConEd stock offers a tempting 4.2% yield, which is more than double the average yield in the stock market. Plus, the stock isn't expensive, trading at 16 times earnings. As a result, ConEd looks like an ideal holding for an income-focused portfolio.
Jason Hall: SolarCity has been described by co-founders Elon Musk and Lyndon Rive as a distributed utility company, and that's a pretty good description. After all, the majority of its business is long-term power purchase agreements, or PPAs, that it signs with customers.
These agreements are typically 20 years in length and provide customers -- which include both homeowners and businesses -- with cheaper, cleaner electricity than what they're able to get from their local utility.
What's so great about SolarCity? Massive growth opportunity, and a giant head start versus the competition. Right now the company is growing revenue more than 70% per year and has around a quarter-million customers. Management is aiming for 1 million total customers by mid-2017 -- a number that may seem like a crazy goal, but there are some 80 million single-family homes in the United States.
So even at 1 million customers, SolarCity would still be pretty small in terms of electric utilities, with barely more than 1.25% market share of U.S. single-family homes. There are another 50 million multi-family units such as apartments and condos, and SolarCity is working on programs to offer power to these residents as well, further expanding its reach and opportunity.
SolarCity is in full-on growth mode today, but in a few years its massive contract base will be generating billions in annual cash flows. At some point down the road, this growth stock is likely to turn into a dividend cash cow. It may be years down the road, but that's ideal if you're building a retirement nest egg.
SolarCity is growth-oriented today, but could be a dividend giant years down the road. Source: SolarCity.
