Utilities Are Trading Like the Fed's Raising Rates Tomorrow

  • Policymakers affirm credit may tighten at December meeting
  • History's `most well-anticipated interest rate increase'

Do you remember that time in September when U.S. utility stocks were down on expectations of a Federal Reserve rate increase? Well, it’s happening again.

The 29-company Standard & Poor’s Utilities Index is trading near levels seen Sept. 16, a day before the Fed left rates unchanged. The Federal Open Market Committee’s next decision on rates is due Dec. 16.

Declining utility stocks are a harbinger of rate increases as the sector tends to underperform the broader market when rates are rising, Kit Konolige, a Bloomberg Intelligence senior utilities analyst, said by phone Nov. 16. Raising rates “may well become appropriate” at their December meeting, the FOMC said in minutes of the October meeting released Wednesday.

“The expectation that’s priced in is materially higher short-term rates,” Hugh Wynne, a New York-based analyst for Sanford C. Bernstein, said by phone Nov. 16. “This is probably the most well-anticipated interest rate increase in the history of the republic.”

Markets are expecting a 50 basis points to 75 basis points increase within 18 months, Wynne said.

Source: Data complied by Bloomberg

The average utility dividend yield has risen to 4.02 percent from 3.96 percent on Sept. 16, another sign that investors expect a rate increase. It had dropped to 3.68 percent on Oct. 22 after the Fed left its target rate at zero percent to 0.25 percent.

There’s no short-term risk to utility profit or cash flow from a modest rate increase in December, Bloomberg Intelligence credit analyst Jaimin Patel said by phone Nov. 17. Rising interest rates, combined with more expensive natural gas and flat demand for several years, may challenge utility profits, he said.

Many utilities are forecasting profit growth will outstrip sales. They propose spending more on plants, wires, and pipes for which they receive a regulated rate of return. That’s been easy when cheap credit and falling energy prices held down customer bills, Patel said. Regulators will be less willing to raise bills for new investment when energy prices are already driving them up, he said.

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