What started out as a dismal year for utility stocks has suddenly turned around.
Thank the bout of stock market volatility we’ve seen in the past few months. While the overall market sinks, utility stocks have been an island of stability. In fact, they’ve been bond-like in their lack of correlation to the broader market.
Utility stocks spent much of the year under pressure thanks to an outlook for interest rates to climb steadily higher in the months ahead as a result of growing economic stability. To their consternation, dividend-focused investors re-discovered the vulnerability of utilities, as well as pipelines, telecom and real estate stocks, in a rising rate world.
The investing outlook has changed somewhat in recent months. There’s growing talk of a global economic slowdown and investors are starting to wonder just how many more interest rate increases we’ll see. The Bank of Canada passed on a chance to raise its benchmark rate earlier this week, and rates in the bond market have been in decline for a few weeks.
The S&P/TSX Capped Utilities Index has been pretty bad over the past 12 months – the total return to Nov. 30 was a loss of 5.6 per cent, compared to a loss of 2.5 per cent for the S&P/TSX composite index. But in the most recent three months, the utilities index managed a gain of 0.5 per cent while the S&P/TSX composite fell 5.8 per cent.
As for bonds, the FTSE TMX Canada Universe Bond Index has a 12-month total return of minus 0.4 per cent and a three-month decline of 0.6 per cent. Utilities have played a better game of defence in this small sample.
Looking ahead, the outlook for utilities stocks depends a lot on what happens with the economy, inflation and interest rates. The more uncertainty we see, the more appetite there may be for old reliables like the utility sector. And what if the economy firms up again and rates continue higher? If you buy utility stocks today, you’ll have to console yourself with dividend yields in the 3.6 to 6 per per cent range.
Final thought: You can buy the utility index directly through the BMO Equal Weight Utilities Index ETF (ZUT) or the iShares S&P/TSX Capped Utilities Index ETF (XUT). Even after fairly stiff fees of around 0.6 per cent, you get a yield around 4.3 per cent.