Utilities are changing, and investors must, too

Staying Ahead

March 10, 1997|By Jane Bryant Quinn | Jane Bryant Quinn,Washington Post Writers Group

FIRST IT WAS IBM. Then it was AT&T. Now another "safe" investment is about to come apart.

This time it's electric utilities -- widely held by older people for dividend income and steady if unspectacular growth. They're also being pitched to baby boomers today as a haven if other stocks drop.

But utility investors today can't rely on the lessons of the past. Deregulation is going to spin through this stuffy industry like a twister. Sometimes the stocks will hold up, sometimes they won't.

Nevertheless, utilities carry two interesting investment stories.

Story One, for traditional-income investors: You can find good utility stocks that are yielding nifty dividends -- between 5 percent and 6 percent, compared with nearly 6 percent on medium-term bonds. And, unlike bonds, utilities often raise the dividends they pay.

But deregulation may change all this, warn the researchers at the Washington International Energy Group (WIEG). In a recent survey, 42 percent of investor-owned utilities said that in time they expect to reduce the portion of earnings they pay out in dividends.

So you can't blindly buy your local utility anymore. You have to evaluate its potential for future growth.

Story Two, for those seeking capital gains: You're looking at an interesting opportunity.

Utility stocks got hammered in 1994, when interest rates rose (interest rates and utility-stock prices move in opposite directions). They got hammered again as investors worried about the turmoil that deregulation is likely to bring. Laggard stocks are a favorite contrarian buy.

The tricky bit is finding stocks that can prosper in a less-regulated world. To be blunt, utility chief executives haven't had to be too bright, except at outwitting state regulators. Now, their safe monopolies are going to be torn apart.

That is already happening in California, New Hampshire, Pennsylvania and Rhode Island. Several other states are almost ready to move.

To prod the slowpokes, Congress and the White House are considering bills that would set a date for competition to begin -- say, about 2001.

Eventually, most utilities will no longer own their neighborhoods. Marketers of electrical power will buy where it's cheap and deliver it to distant customers for less than they're paying now.

Households and small companies probably won't see their costs decline by very much except in high-priced cities such as Chicago, San Diego and New York, says WIEG's president, Roger Gale.

Huge discounts are in the offing, however, for major commercial and industrial customers. As a result, selling electrical power will become less profitable.

The winners in this business will be the low-cost producers. That means charging a retail price of no more than 7 cents per kilowatt-hour, says Lowell Miller of Miller/Howard Investments in Woodstock, N.Y., which runs the small BTB Fund and Total Return Utilities Fund.

The transmission part of the industry -- the wires that let people turn on their lights -- will remain a monopoly, with regulated profits and rates.

To increase their earnings and dividends, utilities will have to be more entrepreneurial. Their chief executives are preparing for a historic shopping spree -- merging with other utilities, buying natural gas companies, engaging in joint ventures with telecommunications companies. Some will buy wisely, some none too well.

With all these crosscurrents, it's smarter to own a portfolio of utilities than to pin your hopes on one or two, says David Kiefer, manager of the Prudential Utilities Fund. Some funds lean toward income and some lean toward growth.

Here are some examples of each, from Morningstar analyst Peter Di Teresa:

Traditional income investors will want high-quality stocks whose dividends they think they can trust. They might look at Colonial Utilities and Vanguard's Specialized Utilities Income.

Growth-and-income investors might look for funds that also buy utilities abroad -- say, Franklin Global or AIM Global. Prudential Utilities also has a big foreign stake.

The MFS Utilities fund hunts for growth among smaller stocks. Linder Utility takes a broad enough view of the industry to include satellite companies and cable TV.

Some funds beef up their performance by buying nonutility stocks, something to check before you buy.

Here's how WIEG sums up the industry outlook. For some utilities, it's too late to survive. For others, there's a three-year window in which to re-create themselves. For the future, "watch out, as marketing of electricity becomes North America's most costly and risky business." Not a soul knows how it will all turn out.

Pub Date: 3/10/97

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