Craig McGee is a senior consultant at Morningstar Canada.
What are we looking for?
Top-performing utilities stocks, with a focus on downside protection.
Following two years of underperformance, the U.S. utilities sector has bounced back and has been leading the way so far this year. Year-to-date, the sector is up almost 14 per cent on a total return basis, while the S&P 500 is up only 5 per cent.
Looking back at our historical database, we identified a number of variables that help to select utilities stocks for our portfolio. For this screen, I ranked the CPMS U.S. database for the 20 utilities stocks with the best combination of the following metrics:
-price to cash flow;
-expected dividend yield relative to the historical (up to 10 years) median yield;
-and low earnings variability.
More about Morningstar
Morningstar Inc. provides independent investment research in North America, Europe, Australia and Asia. Its research tool, Morningstar CPMS, provides quantitative North American equity research and portfolio analysis to institutional clients and financial advisers.
CPMS data cover more than 95 per cent of the investable North American stock market. With more than 110 equity and credit analysts, Morningstar has one of the largest independent institutional equity research teams in the world.
What we found
Using CPMS, I back-tested the strategy to apply the same rules-based approach for the 10-year period beginning April 30, 2004. A portfolio of up to 20 stocks was equally weighted and stocks would be held until they fell outside of the top 40 per cent of the utilities sector, at which point they would be replaced with the next top-ranking stock available.
Over the full time period, the strategy generated an annualized total return of 13.5 per cent, compared with 10.6 per cent for the S&P 500 Utilities sector and 7.7 per cent for the S&P 500 Total Return Index.
Investors are advised to do further research before investing in any of the stocks listed here.