The utility sector historically has been more sensitive to interest rate changes and for good reason, the industry is quite capital intensive and must borrow quite a bit to maintain operations. Therefore the rise in the cost of capital has a rather pronounced negative effect on earnings.
Do not gauge the cost of capital on short term treasuries, the FED can manipulate/control those maturities. The 10 yr treasury is the benchmark you should use since that rate is tied to most consumer/corporate borrowing.
With that said the 10 yr remains at relatively low levels. The problem, with unprecedented amount of govt debt that needs to be financed, not only here but worldwide, rates could rise not because of the more traditional reason (inflation: too many consumers chasing too few goods) but because of the sheer weight of the debt auctions.
We could very well be entering a period of relatively slow economic growth and rising rates, stagflation.
If this occurs utilities will underperform the markets significantly like they did back in the early 70s during the last bout of stagflation.
Another consideration is in this environment of high employment, the coming election, any requested rate increases will turn into political football. As we saw in florida recently where FPL's recent hike request was flat out denied nearly 100%.
So any additional costs incurred by rising rates will be difficult to pass on to struggling consumers.
But one must consider EXC is trading cheap, especially compared to other equities. The dividend alone is greater than the 30 yr treasury.
What i foresee happening on the interest rate front, the 10 yr treasury will hit a wall around the 4% mark. The reason, the US economy, housing market, employment is simply too weak to endure higher rates. Even an historically low 4% rate will be enough to slow growth considerably. I am still in the camp of deflation, anemic growth for years to come.
Interest rates are the million dollar question...drives me nuts..is the economy to weak to support much more than 4% on the 10 year note? or will our govt "have" to raise the yield to be able to see our debt? anyone gotta crystal ball? and what time frame? I am starting to think the emerging market debt where companies dont have borrowed money much..they have to pay cash..is where bonds are more attractive than US bonds...geo pol risk of course...opinions?
A lot of cross currents out there, frankly i do not see any resolution that will be positive for investors, the economy in the longer term.
Bernanke has chosen the easy route of attempting to print our way out of this mess. Wall Street/Banks are the main beneficiary of this short-sighted and short-term fix, hence the reason they revere Ben, labeling him a genius.
I see it very differently, i am convinced time will prove Bernanke to be a fool of the highest order. One cannot resolve a previous bubble by engineering a larger one. Eventually it too will collapse with severe consequences for all.
Only the next crisis we will be sitting on unprecedented debt obligations, a collapsing currency with no possible cure other than a prolonged very painful cleansing process (much like Greece,Iceland) that i am not sure our society is willing or capable of enduring.
One must accept the fact this debacle has been three decades in the making born of greed, ludicrous monetary policy, failed regulatory bodies/rating agencies, and a truly corrupt banking system.
We should of used this most recent economic calamity to clean house, to break up our largest so-called banks, return them to the business of banking, not derivatives, speculation, securitizing loans, predatory lending, et cetera.
We missed the opportunity to overhaul the rating agencies, to enact true financial reform. But sadly it has become quite evident the few who created this charade and who have profited greatly at the expense of the majority are extremely powerful players in our Plutocracy.
They have proven to own our govt, treasury, fed, regulatory bodies, rating agencies. Difficult if not impossible to implement much needed change when your system is corrupt to the core.
An economy built on debt, various forms of quantitative easing, a fed balance sheet overflowing with $Trillions of toxic assets (courtesy of our largest financial institutions)is destined for failure.
The last time the Fed acted near this aggressively to prevent a recession was back in the early 70's, planting the seeds for a decade of painful stagflation. The big difference this go round, the fiscal house of this country was in much better shape back then.
Bernanke and our govt have hijacked the free market, distorting the pricing of risk, not allowing the failure of bankrupt institutions, intervening in the laws of supply & demand.
This will eventually lead to a toxic mix of hyper inflation in some asset classes such as dollar denominated commodities and yet a deflationary spiral in others like homes, hotels..
Any assets that are owned or tied to the well being of the majority of citizens will continue to collapse, following their plight into poverty. Rising food/energy, falling wages/unemployment a very ugly recipe.
We should of let this recession run it's course to cleanse the decades of abuse, the sins of the past. The powers that be chose to protect their interests instead and we will all pay a very high price.
with the US Gov't printing money like there's no tomorrow & deficits galore at federal / state level you should expect inflation or rather stagflation (slow growth & higher inflation).
You are right though that utilities are not the right place to hide given what will happen over next 1-2 yrs Only isue with EXC that is appealing is with cap & trade for carbon would EXC not earn a windfall after all it emits no carbon???
Cap & trade is coming - its a free market solution to reducing green house gas emissions.
Anyone please comment?
A premium was priced into EXC stock based on the belief some form of carbon legislation would be passed, also EXC is a rather large wholesale energy provider and the present pricing is rather deflated pressured by the glut of natural gas.
Also EXC is still being dragged down by an idiot GS analysts who downgraded EXC to hold and a price target of $50. Why someone would choose to downgrade a stock with 20% upside is beyond me.
But to put it into context this is the same GS analyst who placed a strong sell on Consolidated Edison a year ago when the stock was trading $36 and then proceeded to jump 25% higher. After the fact he upgraded to sell.
This is a momentum market driven by traders, they are all aboard momentum stocks...valuation is an afterthought.
So i am going to suggest a not so in vogue concept..patience.
A carbon tax is only matter of when, the demand for electricity is expected to double within the next 10 years, electric cars is the future of transportation.
Thank you for the insight that you share with us. I didn't know that utilities performed poorly during the stagflation of the 70's, so your point there was particularly sobering. With the discussion that's gone on here today on both the topics of interest rates and EXC as a defensive stock, this was a very relevant post.