This high-yield utility stock still has an attractive price

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There is a lack of conviction amongst investors in the stock market. For instance, last month, results from Barron's semi-annual Big Money poll of U.S. money managers revealed a growing indecisiveness in stock markets with only 3 per cent of money managers very bullish, 35 per cent of managers bullish and the majority of managers – 46 per cent – on hold with a neutral stance, up from 29 per cent in the fall of 2015.

One key reason for the lack of confidence in the stock market's ability to rally higher is valuation: 62 per cent of respondents view the U.S. equity market as fairly valued and 26 per cent see the stock market as overvalued.

The net result has been low year-to-date returns in equity markets and volatility, which may continue in the months ahead, especially with growing expectations of further tightening by the U.S. Federal Reserve as U.S. economic data strengthen.

The survey also revealed that 66 per cent of respondents expect a stock market sell-off by 10 per cent or more over the next year. Investors' skepticism over the sustainability of the recent market momentum suggests that things can change very quickly, with many money managers ready to lock in profit and run for the exit.

Given this unpredictable environment, the best investment strategy may be a barbell strategy, meaning investors hold a balance of growth stocks and income stocks. Cyclical stocks are positioned to benefit from improving economic conditions, and earnings growth is anticipated to resume in the second half of the year. At the same time, demand for dividend stocks is not going away, given investors' desire for income, particularly in this low-interest rate environment.

That being said, many high-yielding securities have rallied sharply, so identifying high-yielding securities trading at a reasonable valuation with room to expand is a challenge. However, there is one security with such qualities: Algonquin Power & Utilities Corp.

Here are several key reasons to consider owning this security:

Solid growth anticipated

Oakville, Ont.-based Algonquin's proposed $2.4-billion (U.S.) acquisition of Missouri-based utility Empire District Electric Co. will be transformational for the company. Due to the acquisition, the consensus earnings before interest, taxes, depreciation and amortization (EBITDA) estimate is $447-million (Canadian) in 2016, and its anticipated to jump more than 67 per cent to $749-million in 2017.

Algonquin has the highest EBITDA growth forecast by the Street in the S&P/TSX composite utilities sector index. Management anticipates the pending acquisition of Empire will be accretive to earnings by between roughly 7 per cent to 9 per cent annually over the three years following the deal. In addition, the company sees a solid pipeline of growth opportunities and has several projects nearing completion.

Attractive valuation

According to Bloomberg, Algonquin is trading at an enterprise value-to-EBITDA multiple below its historical average based on the 2017 consensus estimate.

The stock has not participated in the recent market rally given the $1.15-billion financing it announced in February. However, if the company overcomes regulatory hurdles and receives shareholder approval for the proposed Empire acquisition, the stock's valuation may expand, lifting the share price.

Strong operational results

Over the past two years, adjusted EBITDA grew 29 per cent year-over-year in 2015 and 27 per cent in 2014.

Dividend growth

Management targets 10-per-cent annual dividend growth and met this objective earlier this month announcing a 10-per-cent increase in its dividend to 10.59 cents per share (U.S.).

This equals an annualized yield of just less than 5 per cent. In 2014, the dividend was changed to a payment in U.S. dollars from Canadian dollars as the company's cash flows are primarily generated in U.S. dollars.

Emera overhang cleared

On May 17, Halifax-based electric utility Emera Inc. announced the sale of 50.1 million shares of Algonquin, reducing its interest in the company to about 12.9 million shares, or roughly 5 per cent. Emera sold part of its position in order to fund its proposed acquisition of Tampa, Fla.-based Teco Energy Inc.

Analysts' recommendations

According to Bloomberg, the average one-year target price is $13.29 (Canadian), based on seven buy recommendations, suggesting the share price could appreciate about 16 per cent.

Chart watch

The stock has been a laggard relative to other utility stocks in the TSX index. The share price is up 5 per cent year-to-date, compared with the sector's gain of nearly 10 per cent.

However, the long-term chart remains positive, with the stock in an uptrend. There is overhead resistance at $12. There is near-term downside support at $11, which is near its 50-day moving average, and failing that around $10.50, close to its 200-day moving average.

Bottom line

Accumulating shares with a staggered approach on market weakness could reap investors an attractive total return over the next year.

I strongly encourage readers to consult a financial adviser, and to do their own proper due diligence before taking any investment action.

The author does not personally own shares in the security mentioned in this story.

Jennifer Dowty, CFA, Globe Investor's in-house equities analyst, writes exclusively for our subscribers at Inside the Market.

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Web discussion

Globe Unlimited subscribers are invited to join The Globe and Mail's Jennifer Dowty on Tuesday at 1 p.m. ET for a live online chat with Joseph Walewicz, the health care analyst from Laurentian Bank Securities as he discusses his outlook for the sector and his top stock picks.