Some thoughts on utility stocks (Fortum, EVN)

In my portfolio, I have 2 utility stocks, Fortum OY from Finland and EVN AG from Austria. Both are part of the portfolio since the beginning.

The idea behind those two investments were the following:

1. utility stocks in general looked cheap and relatively save at that point in time
2. both, EVN and Fortum had a large share of non-carbon electricity generation capacity. “Fossil fuel” burners were expected to suffer as they need to pay more for the carbon emissions in the future
3. both companies are located in countries which are not directly impacted from the EUR crisis, so the risk of special taxes etc. should have been low

So far the investment thesis didn’t really work out.

First, the utility index underperformed with -8% the corresponding full index (Stoxx Europe 600) by a whopping 11%.

Second, both EVN and Fortum managed to underperform the utility index. EVN by -3.7%, Fortum by a dramatic 30.4% (including dividends)

If we look at the index constituents, we can see some interesting things:

Perf. 12/2010 –
   
DRAX GROUP PLC 41.2%
NATIONAL GRID PL 37.8%
UNITED UTILITIES 36.1%
SEVERN TRENT 34.5%
PENNON GRP PLC 28.7%
SSE PLC 18.2%
CENTRICA PLC 5.7%
ENAGAS SA -3.5%
RED ELECTRICA -11.6%
SNAM SPA -12.4%
TERNA SPA -12.8%
GAS NATURAL SDG -13.9%
ENEL GREEN POWER -20.7%
EDP -22.6%
E.ON AG -22.8%
GDF SUEZ -27.3%
ENDESA -29.8%
RWE AG -34.2%
ENEL SPA -34.3%
FORTUM OYJ -37.1%
VERBUND AG -42.2%
SUEZ ENVIRONNEME -42.6%
EDF -46.3%
IBERDROLA SA -47.0%
VEOLIA ENVIRONNE -62.8%

Frist thing to notice: “Renewables” really did badly, Mostly Iberdrola, Verbund and Fortum but also Enel Green Power. UK utilities did best. At least peripheral utilities did underperform as well, however French utilities were the worst (EDF, Suez, Veolia).

If we exclude UK and go for “EURO” utilities, the picture looks relatively speaking better, with a total return of -23.82%, this index performed really badly, EVN here (although not in the index) looks like a clear outperformer. Fortum still doesn’t look that good…

Perf. 12/2010-
   
ENAGAS SA -3.45%
RED ELECTRICA -11.56%
SNAM SPA -12.37%
TERNA SPA -12.85%
GAS NATURAL SDG -13.85%
ENEL GREEN POWER -20.37%
EDP -22.64%
E.ON AG -22.93%
GDF SUEZ -27.49%
ENDESA -29.75%
RWE AG -34.24%
ENEL SPA -34.39%
FORTUM OYJ -37.06%
VERBUND AG -42.23%
SUEZ ENVIRONNEME -42.67%
EDF -46.34%
IBERDROLA SA -46.95%
VEOLIA ENVIRONNE -62.76%

So looking back, what happened, especially to Fortum ?

– first of all, the Finish government introduced a special tax for Fortum although they didn’t need to. Bad luck
– secondly and more importantly, the price for carbon emission rights fell dramatically. As the following chart shows, CER prices fell a dramatic -75% from mid 2011 until now.

So the “Built in” (and as we know now “priced in”) competitive advantage of renewable power generators against “conventional” generators seems to have narrowed. Interestingly, the big divergence between Index and renewables opened up only in the last few months.

Additionally, the business model of electricity genrators in general seems to have eroded somehow, as it seems to be that they are on the worng side of the current political debates. Maybe not without their own fault.

If we look at the performance numbers above, we can see a second interesting detail:

Gas utilities (apart from the French) and grid operators do a lot better than electricity generators. The top 5 performers are either gas utilities (Enagas, Gas Natural) or Grid operators (Red, Snam, Terna).

A quick look on relative valuation shows that Fortum is still relatively expensive, as well as EVN, although EVN should be treated differently:

Name BEst P/E EV/BE EBITDA Curr Yr  
 
RWE AG 8.11 4.37 6.40%
EDF 8.07 4.80 6.28%
HERA SPA 10.49 5.16 2.12%
ENBW ENERGIE BADEN-WUERTTEMB 15.98 5.54 3.27%
GAS NATURAL SDG SA 7.68 5.67 2.58%
IBERDROLA SA 6.76 6.02 3.45%
GDF SUEZ 12.15 6.10 4.18%
E.ON AG 8.82 6.21 7.19%
REDES ENERGETICAS NACIONAIS 7.29 6.55 10.11%
A2A SPA 6.65 6.75 7.00%
ENAGAS SA 9.28 7.27 7.48%
ROMANDE ENERGIE HOLDING-REG 14.26 7.44 8.93%
ENERGIEDIENST HOLDING AG-REG 15.36 7.91 7.66%
FLUXYS BELGIUM 18.23 8.34 8.95%
FORTUM OYJ 10.16 8.36 6.21%
EVN AG 9.01 8.60 8.44%
SNAM SPA 11.73 8.74 7.75%
VERBUND AG 13.66 8.87 8.29%

So looking back, it was not a good idea to buy the “Carbon story” although I was lucky to a certain extent with EVN. However going forward I still have to find out what I am going to do. At the moment, Gas Natural does look quite attractive.

I think the Carbon Emission Right (CERs) might also be an interesting area to look at.

more to come…..

11 comments

  • martin,

    good point, the fundamentals are subject to another post….

    mmi

  • MMI, why do you judge your investment thesis by comparing prices and not by comparing fundamentals? How were the valuations at the time of entry?

    By the way iberdrola is not mainly renewable as ca. 20% of ebitda is from renewables.
    Enel green power may have been too expensive in the past. At least that’s why I didn’t invest.

  • Hallo,

    in einem Marktbericht von Edmond de Rothschild von Juni 2012 wird auch der möglich Einfluss von billigem Gas für die Stromindustrie dargestellt.

    Zitat :

    “Die niedrigeren Preise bedeuten, dass Gas mit Öl und Kohle konkurrieren kann. Aufgrund von Umweltauflagen, die zulasten von Kohlekraftwerken gehen, beginnt Gas bereits, Kohle bei der Stromproduktion zu ersetzen (Kohle hat jetzt noch einen Anteil von 40 Prozent). Strom selbst wird ebenfalls von Erdgas verdrängt, das als primäre Energiequelle in Industrieanlagen eingesetzt wird.”

    http://www.edmond-de-rothschild.fr/De/EDRAM-DE/Pages/publikationen.aspx

  • I think the role of the gas price has many aspects. EON and RWE suffered for instance because they had locked in long term high gas prices with Gazprom and could only sell them at low spot prices.

    I think the level of Gas price is not so important than the volatility of oil and gas which creates issues.

    Renewables: This was exactly the reason why I bought Hydro stocks. But didn’t really help.

    • EON and RWE have contracts, which link the gas price to the oil price. A market for gas has developed since with LNG and fracking and at the moment the oil-linked prices are too high, leading to losses.

      To my knowledge hydro power is not subsidised and is long in use. It has to compete with other energy sources and is not protected by feed-in tariffs. On the contrary wind+pv+biogas, which are protected from competition, are doing fine.
      Even companies like munich re buy windparks to get more yield, underlining how predictable yields of existing renewables are.

  • Outperformance in this market is concentrated in high-quality consumer stocks and specific sectors which are showing above average growth, ie specialty chemicals and aerospace. Utility stocks should outperform when economic growth picks again and growth is more evenly distributed amongst the different sectors.

    Fortum and EVN should do exceptionally well when inflation expectations pick up and the price of natural gas increases. The main reason for the underperformance of utilities with a lot of renewables has been the price of natural gas. I believe that this has been a more important factor than the reduction of subsidies even, which explains why Fortum and Verbund can be found at the bottom of the list along with Veolia and Iberdrola. Low natural gas prices are eroding the competitiveness of renewable energy.

    • Renewables are in large part not competitive. Because of this they are subsidised (wind+pv+biogas). The gas price doesn’t matter for them, only the subsidies do and for new plants the price of constructing them.

      Gas produces less CO2 than Coal and cheap gas prices could hit existing conventional powerplants e.g. coal-fired, which get no subsidies. Although gas prices in Europe are way higher than in the US.

  • Hello, I was wondering what is your view on UK utilities? Why did they outperform the other competitors? You could mention of course the non-euro story and the general case that markets of money printing governments (thinking UK and US) performed better in general. However I’m curious what your view is on the UK utilities market…

  • I don’t think it is a good idea to invest in the energy sector, because there is no stable policy or general framework. It is not possible to determine who will profit or lose, so every exposure is speculation.

    • thanks for the comment. Indeed the enrgy sector look like a big mess. Howver, atsome point in time regulators will have to allow those companies some return on investment, otherwise there will be no more investment.

      So the energy sector is a clear “reversion to the mean” candidate, However, I am not sure when this will be the case.

Leave a Reply

Fill in your details below or click an icon to log in:

WordPress.com Logo

You are commenting using your WordPress.com account. Log Out / Change )

Twitter picture

You are commenting using your Twitter account. Log Out / Change )

Facebook photo

You are commenting using your Facebook account. Log Out / Change )

Google+ photo

You are commenting using your Google+ account. Log Out / Change )

Connecting to %s