Wholesale electricity prices in Alberta recently did something they haven't done for years. They soared, more than doubling in January and February from the same period last year.
The surging prices, while unwelcome news for anyone paying a utility bill, spell opportunity for investors, according to analysts at Canaccord Genuity.
The firm says the recent price spike shows Alberta's electricity market is tightening, which will benefit the power producers and utilities serving the provincial market.
Among the best positioned, in the view of the firm's analysts, is Capital Power Corp., although they say Canadian Utilities Ltd., TransAlta Corp., TransCanada Corp., Maxim Power Corp. and AltaGas Ltd. all have leverage to the Alberta market through power plants they own there.
Many of these companies also have decent dividend payouts, suggesting investors could be rewarded through both a high yield and rising share price.
"We believe that by participating in the Alberta electricity market, investors can achieve superior risk-adjusted return," the firm said in a recent note to clients.
Canaccord believes its theme of investing in Alberta power producers has long-term appeal because it expects demand growth for electricity to outstrip supply additions for the next four years. The tightening of the market is showing up most graphically in the amount of reserve, or spare generating capacity, in the province. It's at the lowest level in at least 14 years, according to Canaccord.
Moreover, Canaccord analyst Juan Plessis says he believes investors haven't yet cottoned on to the dramatically improving outlook for electricity prices in Alberta, which caused him to hike his target price on Capital Power to $33, from $31.
The shares of the power producer have an attractive dividend yield of 5 per cent. In response to its outlook for higher electricity prices, Canaccord revised sharply upward its earnings estimate to $2.10 a share next year from $1.75.
Making money from rising electricity prices is a new investment theme, although for the time being it seems restricted to Alberta.
Prices elsewhere in North America have been stable to weak because so much electrical generating capacity is fuelled by cheap natural gas, depressing prices. Meanwhile, the recession has clipped demand for the juice from industrial customers.
Alberta is starting to shake off these negative trends. Its economy is booming through construction of new oil sands projects and other economic developments, which will drive demand for power up by an estimated 4 per cent annually over the next few years, according to Canaccord.
At the same time, the supply of electricity is being constrained owing to TransAlta's shutdown in December of its Sundance 1 and 2 coal-fired units, after the company concluded it's no longer economic to keep its aging plant open. Earlier in 2010, the company also shuttered its Wabamun station for similar reasons.
There have been new power plants and wind farms built in the province, but recent and projected additions to supply are modest compared with the amount of generating capacity being taken off line coupled with the growth in demand. The province can't evade higher prices by importing electricity because it has only limited transmission connections with neighbouring Saskatchewan and British Columbia.
On specific picks, Capital Power gets the nod as a top buy because it has significant leverage to rising power prices in the Alberta market and the shares have the potential to rise sharply "as planned projects are completed and begin to generate cash flow."
TransAlta also has high leverage to the Alberta market and an attractive 5.6-per-cent dividend yield. However, the decision to shut Sundance is being disputed by TransCanada, which had a power purchase agreement for the plant's output. TransAlta could be ordered by regulators to reopen the plant, but Canaccord said it believes the risk is low and the facility will be retired.
The firm has a "buy" recommendation on TransAlta and a $27 target price.
Canadian Utilities also is rated a "buy," and is attractive because it has a conservative balance sheet and offers the possibility of rising dividends, Canaccord says. TransCanada, another "buy," sports a 4.4-per-cent dividend yield and rising power prices "should enhance longer-term growth."