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Why Utility Stocks Like Duke Energy Got Zapped Today

Motley Fool - Mon Oct 2, 2023

What happened

Monday wasn't a good day to have utilities in a stock portfolio. Many of these titles took it on the chin, following a notable pop in the value of certain safe-haven investments.

Among the sector's decliners on the day were Duke Energy(NYSE: DUK), Dominion Energy(NYSE: D), and NextEra Energy(NYSE: NEE). The trio's share prices fell by 3.2%, 5.3%, and a steep 9%, respectively. All did worse than the bellwether S&P 500 index, which essentially ended the day flat.

So what

It's relatively straightforward to predict a great many financial metrics for utilities, since they are all subject to rate caps and tend to have a customer base that grows slowly, at best. As a result, their fundamentals aren't very volatile; it's safe to say almost no one buys a utility stock in the hope that a company will suddenly enjoy a windfall profit.

Meanwhile, the high and steady cash flow enjoyed by these companies provides a solid foundation for dividends. This is a key reason income investors favor utilities: They accept a relatively high shareholder payout in lieu of vast leaps in earnings potential.

One of the downsides of this is that a competing safe-harbor investment starts to challenge those kinds of returns. This was the dynamic Monday, when the yield of the federal government's 10-year Treasuries saw a notable leap, advancing from around 4.6% to close the day at 4.685%. This was their highest level since 2007.

Treasuries are backed by the U.S. government, which (hopefully) will never default. So a jump in yield makes them that much more compelling when matched against the dividend yields of even the sturdiest utilities.

Duke Energy, for example, currently pays out at slightly over 4.7%, Dominion's figure is 6.3%, and NextEra comes in a distant third out of the group at 3.6%.

Now what

Two factors were behind the movement in Treasuries Monday. The first was the last-minute deal reached in Congress to keep funding the federal government; following that, many Treasury holders sold out of their positions.

Meanwhile, Federal Reserve officials have indicated that with inflation still a challenge in this economy, further hikes of the regulator's benchmark federal funds rate might be necessary. New bumps in rates would drive up the cost of new debt, pushing down the value of the old, cheaper borrowings.

To be clear, no major U.S. utility is in dire business circumstances. At the moment, it's largely a yield vs. yield story, so investors should watch to see how these companies cope with the competition from the safest investments imaginable. Perhaps we might see a dividend raise or several in the sector before long.

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Eric Volkman has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends NextEra Energy. The Motley Fool recommends Dominion Energy and Duke Energy. The Motley Fool has a disclosure policy.

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