Potential Power Plays for Summer
Keith is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
Power companies could be worth a look for investors who might otherwise sell in May and go away. There are three factors that could make the utilities attractive:
- Lower fuel costs
- Potential higher demand
- Resiliency in turbulent markets
These factors will play in some companies’ favor more than others, of course. Let’s examine five major power generation utilities using these factors to determine which could be good prospective investments for the summer. The five utilities we will review are:
- American Electric Power (NYSE: AEP)
- Duke Energy (NYSE: DUK)
- Exelon (NYSE: EXC)
- PPL (NYSE: PPL)
- Southern Company (NYSE: SO)
Lower Fuel Costs
The three leading fuel sources used to generate electricity are coal, natural gas and nuclear. Fuel prices for all three have declined in 2012 year-to-date with natural gas falling the most.
The Energy Information Administration of the U.S. Department of Energy reported in 2010 that variable expenses including fuel make up 57% to 67% of the total system levelized cost for natural gas fired power generation plants. Variable expenses, including fuel, make up around 25% of the total cost for coal power generation plants and slightly over 10% for nuclear power plants. It stands to reason that utilities relying more heavily on natural gas would benefit the most from the steep drop in prices thus far in 2012.
The following chart shows how the five companies compare in terms of percent of power generated from the three primary fuels:
There is no standout winner with respect to natural gas power generation among the five utilities. Duke Energy, however, is clearly trailing the pack with less than half the amount of power generated from natural gas than the next lowest competitor.
Lower natural gas prices don’t necessarily go directly to the companies’ bottom line. The cheaper prices for gas push wholesale electricity prices downward. This can result in lower profit margins for plants that don’t use natural gas. Also, regulatory and competitive pressures in some states cause utilities to pass some of the fuel cost savings along to customers.
Even with these caveats, cheaper natural gas is good news for those utilities that have a higher percentage of natural gas fired power plants. AEP, Exelon, PPL and Southern Company should benefit from this low cost environment.
Potential Higher Demand
Some people might conclude that because the U.S. had a mild winter that we could be in store for a warmer summer. Hot summers would drive electricity demand, helping increase revenues for the power companies. The assumption of a warmer summer is only partly correct, though.
Weather Services International (WSI) predicts that parts of the United States will have a warmer than normal summer. However, WSI also predicts that parts of the U.S. will have a cooler than normal summer. Here are the WSI projections for summer 2012:
Assuming the WSI projections are reasonably accurate, the utilities operating in the warmer regions could see increased demand. Among the five companies in our comparison AEP, Exelon and PPL appear most likely to benefit from increased demand from warmer summer temperatures. PPL also provides electricity in the United Kingdom, for which WSI is predicting a warmer than average summer.
Resiliency in Turbulent Markets
European woes and markets possibly headed downward – sounds like déjà vu, right? After great gains in the first quarter of 2012, the major indices seem to have lost momentum. Like in 2011, the utilities sector is picking up the pace as the rest of the market levels off. If we see a repeat of last summer, which of the five companies is likely to fare the best?
Comparing the beta values of each company is one way to differentiate who might perform well in a summer overall market downturn. Dividend yield is another consideration. Solid dividends help give investors some peace of mind during tumultuous times. Here’s how the five stack up:
All of the companies look good on these fronts. Exelon has the highest level of volatility with respect to the overall market. It also has the lowest estimated yield. Southern Company’s very low beta is appealing, as is PPL’s strong forward dividend yield.
Each of the five companies reviewed merit consideration by investors seeking to weather the potentially choppy summer market ride. AEP, PPL and Southern Company, in particular, warrant a closer look. Summer 2012 just might be the right time to power on the utility stocks.
Keith Speights (www.keithspeights.com) has no positions in the stocks mentioned above. The Motley Fool has no positions in the stocks mentioned above. Motley Fool newsletter services recommend Exelon and Southern Company. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. If you have questions about this post or the Fool’s blog network, click here for information.