Utilities offer a strong yield alternative

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The utilities sector is best thought of as defensive with good dividends. Well, dividends have remained strong at 5.7% but the capital losses have been disappointing over the past six months.

Only AGL Energy and Spark Infrastructure (just) met my conditions of having a sufficiently good consensus recommendation for inclusion in a new super portfolio at the last review (13th April 2013). Since that time, their recommendations have improved and Duet has joined them.

The sector lost 2.3% over the half year, while the ASX 200 gained 9.9%. Even if we include reinvested dividends, the sector only returned 0.5% against 9.9% for the index.

As we can note from Table 1, every top 100 stock in the sector lost ground over the period, with most wiping out their dividends! The two small cap stocks did gain but Energy World isn’t even rated by any of the brokers who send their forecasts to Thomson Reuters!

Table 1: Data on companies in the ASX 200’s Utilities sector

An alternative yield option

The sector statistics in Table 2 show that the financials sector has had its dividends driven down to 5.2%, which we view as an approximate floor. With that sector also being overpriced by 7.1% (which is well above our trigger for a correction or a prolonged sideways movement), I think other high yield sectors need to be considered for a super portfolio. Of course, those who do not need to sell for a long time can hang on to their financials stocks but it does not seem the time to buy or even top-up. Note that the capital gain forecast adjusted for mispricing is negative at 1.2%, which, if realised, would eat into the dividend yield.

Table 2: ASX 200 sector statistics

The utilities sector, on the other hand, is offering a healthy expected dividend of 5.7% and a forecast capital gain of a very reasonable 9.2%, with the sector currently underpriced at 1.2%, making an adjusted forecast gain of 10.5% to add to the dividends. These statistics overshadow those for the other two high yield sectors of property and telcos.

Based on these broker forecast data, AGL (ASX code AGK) and Spark Infrastructure (ASX code SKI) could make a good contribution to a super fund. If, as I expect, there might be some pull back in the market in the not-too-distant future – particularly in the big banks – the utilities sector may be a relative safe haven. The overall market is only moderately overpriced at 2.8%, while financials at 7.1% is the sector mix that bothers me, being also in the midst of reporting season for three of the big four banks.

Interestingly, in statistics not shown here, my capital gains forecasts by sector show that over the last week or so, Industrials have slipped down a percentage point or two, while the forecasts for energy and materials have improved. Since the upgrade in recommendations only really came in for AGL over the last month, and over the last week or so for Spark, getting into AGL and Spark is a timely decision to consider. Duet is not out of the running if someone wants three utilities’ stocks – but it is a small sector comprising only 1.6% of the index.

I currently own AGL – but no other stock from the sector – in both my super portfolio and my non-super portfolio, with a combined weight of about double the index. Last week, I sold a big portion of my non-super (margin loan) allocation to the big banks (when exuberance breached 6%), having more than doubled my investment in Commonwealth Bank and Westpac, including dividends, but not franking credits nor interest as a risk-reduction action. I bought that stock in 2008 and 2009 and saw no point in paying interest on an investment which I think may lose money over the coming year. I didn’t do anything with those stocks in that sector in my super portfolio, nor do I plan to at this stage. I am in pension mode so there is no tax – nor interest – and I get the franking credits.

Important: This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. Consider the appropriateness of the information in regards to your circumstances.

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