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Utility Stocks: A Good Bet in 2012?

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U.S.electric utility segment includes electric, natural gas pipeline and distributors, water, and independent power producers. The segment was among the most stable sectors in fiscal 2011 in terms of return.

Fiscal 2011 witnessed continued volatility from the European debt crisis, leading the U.S. Federal Reserve to reduce its growth forecast and raising projections for unemployment, as well as leaning on buying more mortgage debt to tide over a troubled economy. 

The year has been hard on investors with major indexes registering low performances. The European debt crisis that plagued the markets last year will continue to worry investors in the coming period. In such a scenario we are hopeful about dividend paying utilities acting as a proxy to the asset classes of treasury bonds and gold.

Utilities’ usefulness in an investor’s portfolio in a volatile economy is magnified with their high yields. Our actively tracked utility stocks currently have an average dividend yield of 3.5% and a forward yield of 4.2%. In contrast the S&P 500 yield stands at just over 2%, while the Dow Jones Industrial Average yield stands at 2.6%.

Prominent among dividend paying utilities includes Veolia Environnement S.A. ([url=]VE[/url]), Cia Energetica de Minas Gerais (CIG - Free Report) , Pepco Holdings Inc. ([url=]POM[/url]), and FirstEnergy Corporation (FE - Free Report) with yields hovering above the 5% mark. In contrast the 10-year Treasury bond currently returns close to 2% and gold futures chain promising a solid annualized return close to 7.1%.

Going forward, as the Fed sells shorter-dated assets and uses the proceeds to buy longer-dated securities, effectively removing duration from the market, longer-dated yields will be kept lower than would otherwise be the case. As a result, the market expects the 10-year Treasury note yield to hover around 2.6% in fiscal 2012, reflecting both persistent flight-to-quality effects and the impact of Operation Twist.

The market in 2012 started on an optimistic note with better-than-expected economic news out of Germany and China. On the one hand, as per the Beijing-based logistics federation China reported a rise in purchasing managers’ index to 50.3 in December from 49 in November.

On the other hand, notwithstanding the Euro-crisis, Germany’s total seasonally-adjusted jobless rate fell to 6.8% in December from 6.9% in November, maintaining a trend that has been broadly unchanged for the last two and a half years.

At home, the Institute for Supply Management Manufacturing (“ISM”) index for December came in at 53.9 up from 52.7 in November and better than the consensus expectation of 53.0. The ISM is a “magic 50" index, where anything over 50 indicates expansion and anything under represents contraction. Thus it indicates that the manufacturing side of the economy was still expanding moderately in December and at a somewhat faster rate than in November.

Looking back at 2011, the U.S. GDP growth also improved steadily with a growth of 2.0% in third quarter, up from 1.3% in second quarter and 0.4% in first quarter. In keeping with the momentum, we expect the final quarter to clock a GDP growth of 2.8%.

Among our actively tracked utility stocks, Southern Union Company ([url=]SUG[/url]), ONEOK Inc. ([url=]OKE[/url]), NiSource Inc. (NI - Free Report) , CenterPoint Energy Inc. ([url=]CNP[/url]) and Progress Energy Inc. ([url=]PGN[/url]) are among the double-digit return stocks over the past 52 weeks. During that period, the utilities (we monitor actively) with an average beta of 0.7% rose 8.9%, on average, clearly outpacing the performance of the S&P 500, which was flat in fiscal 2011.

Going forward given the uncertainty of the geopolitical cum financial landscape and the uncertainty over the extension of the payroll tax cut we would advise investors to park their funds in Zacks Rank #2 (Buy) utility stocks like The AES Corporation (AES), Hawaiian Electric Industries Inc. (HE - Free Report) , Pinnacle West Capital Corporation ([url=]PNW[/url]), Xcel Energy Inc. ([url=]XEL[/url]), Wisconsin Energy Corporation ([url=]WEC[/url]), OGE Energy Corp. ([url=]OGE[/url]) and Consolidated Edison Inc. (ED - Free Report) .

Our bullishness stems from the fact that the underlying fundamentals of the utility sector have remained unchanged. We have focused on companies operating within a constructive regulatory framework and having a stable flow of regulated income, which insulates it from volatile market dynamics.

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