Under normal circumstances, elections are often followed by selloffs in the stock market. Two examples many investors may remember are the selloffs that occurred in 2000 and 2008. Stocks were already in bear markets as those elections were held, but the selloffs that occurred after the votes were counted still seemed to catch many investors by surprise.
The circumstances associated with the 2000 election may have been unique. That year, a close election required several weeks of recounts and a decision by the US Supreme Court to finalize the results. The uncertainty associated with the recounts and court cases may have contributed to the selloff. In the two weeks after the election, the Dow Jones Industrial Average fell about 4%. At the same time, the Dow Jones Utility Average gained about 3.9%.
In 2008, we can again claim the circumstances in early November were unique. The global credit crisis was unfolding rapidly at that time and many stocks were suffering large losses. In the two weeks after the election, the Industrials lost about 10%. Utilities lost just 2.5% over that time, significantly outperforming the broad market.
Based on these two examples, it would seem like utilities offer a relatively safe port in the post-election stock market storm. Of course, there are no guarantees in the stock market and in 2012, the Utilities Average underperformed the Industrials. Utilities lost more than 5% after that election while the Industrials lost only 3.6%. The news around that time was relatively benign with no global crisis and no bear market to add to the uncertainty.
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Even though there is no guarantee, and it is important to remember there are never guarantees in the stock market; it could be prudent to consider investing in utilities. This time could be different and stocks might soar after the election, but history tells us risks are higher than average in early-November.
No matter what the broad stock market is doing, utilities are generally viewed as defensive investments. A defensive stock can be defined as “a stock that provides a constant dividend and stable earnings regardless of the state of the overall stock market. Because of the constant demand for their products, defensive stocks tend to remain stable during the various phases of the business cycle. During recessions, defensive stocks tend to perform better than the market. However, during an expansion phase, they tend to perform below the market.”
That definition highlights the potential rewards of defensive stocks as well as their risks. When the market stumbles, defensive stocks tend to do better than the broad market. “Doing better” may mean delivering a gain as broad market averages decline or it may mean losing less than the broad market. It’s also possible defensive stocks can underperform in a market selloff even though historically they have done better than average. In a bull market, we expect defensive stocks to lag the broad market, delivering steady dividends but below average price gains.
Utilities meet the definition of defensive stocks. They enjoy a constant demand for their product since homes and businesses will use power and water in both good times and bad.
With market risks growing, we looked for utility companies with high yields and dividends that are likely to be safe. We found four.
AmeriGas Partners, L.P. (NYSE: APU) offers a dividend yield of about 8%. One reason for the high yield is its partnership structure. Publicly traded limited partnerships are legally required to distribute at least 90% of their cash flows to shareholders. That results in high dividends and since the payouts are based on cash flow, the dividends can exceed earnings.
APU is a retail propane distributor in the United States. It serves approximately two million residential, commercial, industrial, agricultural, wholesale and motor fuel customers in all 50 states from approximately 2,000 propane distribution locations. The company operates through AmeriGas Propane, L.P. and AmeriGas Cylinder Exchange locations.
APU’s current dividend is $3.76 a year. Cash flow from operations (CFO) for the past twelve months totaled $4.97 a share, more than enough to cover the dividend. CFO have increased an average of 8% a year over the past five years, funding dividend increases averaging 5.5% a year over that time. Given the strong growth in CFO, the dividend in APU seems likely to remain above average.
Spark Energy, Inc. (Nasdaq: SPKE) resells energy services in approximately 16 states and serves more than 66 different utility territories. The company provides customers with retail natural gas and retail electricity services. In recent regulatory filings, the company reported having more than 325,000 residential and 19,000 commercial customers. As a reseller, SPKE buys energy from producers and marks up the product before delivering it to its end users. The customer’s contract sets the price for electricity or gas and SPKE is able to hedge using forward purchasing agreements and other financial instruments to meet demand within the contracted price. When done properly, this should result in steady profits. The company has reported a profit in three of the four years it has provided financial statements. This year, analysts expect earnings per share (EPS) of $2.20. EPS are expected to reach $2.30 next year and $2.64 in 2018. Earnings seem to adequately cover the stock’s $1.45 dividend payment and the stock currently offers a yield of about 5.5%.
Huaneng Power International, Inc. (NYSE: HNP) is engaged in the generation and sale of electric power to regional or provincial grid companies in the People’s Republic of China (PRC) and in the Republic of Singapore. The company has power generation operations in the Northeast China Grid, the Northern China Grid, the Northwest China Grid, the Eastern China Grid, the Central China Grid, the Southern China Grid and the overseas market in Singapore.
HNP trades with a price-to-earnings (P/E) ratio below 6, possibly weighed down by concerns about an economic slowdown in China. Analysts seem to have anticipated a slowing economy in their earnings estimates. This year, HNP is expected to earn $3.82 per share. In 2017, EPS are expected to fall to $3.17 and to decline to $2.94 in 2018. Given the current outlook, the dividend of $2.89 paid in the last year is likely to be cut. Like many foreign-based companies, HNP’s dividend payment has varied with operations.
If the dividend is cut by 25%, an amount directly proportional to the decline in EPS, the payout would be $2.22, providing a potential yield of about 9% based on the current stock price. That level of income should limit downside risk in the stock.
Suburban Propane Partners, L.P. (NYSE: SPH) is a limited partnership involved in the distribution of propane, fuel oil and refined fuels, as well as the marketing of natural gas and electricity in deregulated markets. The company operates as Suburban Propane, L.P., Suburban Energy Services Group LLC and Suburban Sales and Service, Inc. among other brands.
CFO of $3.18 in the past twelve months covers the current dividend payment of $2.89 a year. CFO growth has averaged 4% a year over the past five years while the dividend has grown an average of 1% a year over that time. At the current price, SPH offers a yield of 10.5%. The company has not cut its dividend since the stock began trading in 1996. These factors point to the likelihood of sustainable income from this stock.
Action to take: consider adding utilities or other defensive stocks to your portfolio as risks appear to grow in the stock market.