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October 07, 2005
SRI Utilities Fund Flicks Switch to Power Strong Returns
    by William Baue

The Flex-funds Total Return Utilities Fund uses environmental and social screening in addition to fundamental analysis to identify sustainable utilities.


Utilities represent the backbone of developed and developing societies, fulfilling what have come to be understood as basic human needs for water and electricity. Their impacts on both societal and economic levels makes these companies of special interest to socially responsible investors. Flex-funds Total Return Utilities Fund (ticker: FLRUX), a socially responsible investing (SRI) vehicle, assessing not only the financial status of utility companies, but also how they manage their negative impacts on society and the environment.

"As residents of Iraq and New Orleans have recently become acutely aware, utilities are essential to any modern economy--without them civilization as we know it does not function," said Lowell Miller, president of Miller/Howard Investments, the portfolio manager of the fund. "When we flick the switch, there is a great and important infrastructure behind the appearance of the light."

This balancing act has generated strong performance recently, as the fund has generated year-to-date returns of 18.09 percent, placing it in the 17th percentile compared to peer funds (SRI and non-SRI alike)--in other words, it outperformed 83 percent of funds with similar attributes. One-year performance of 31.03 percent returns looks even better, though it places the fund in the middle of the pack (53rd percentile) compared to peers. Looking at the long term, the fund has generated 9.46 percent annualized returns since its June 21, 1995 inception, placing it in the 42nd percentile.

All fund statistics cited in this article are based on data provided by Thomson Financial Network covering the period ending August 31, 2005.

Mr. Miller attributes recent strong performance to a shift from domestic telecommunications--namely the "Baby Bells," otherwise known as regional bell operating companies (RBOCs)--to cleaner energy.

"Over two years ago we sold all of our RBOC positions and replaced them with natural gas producers, since all new electricity generation is powered by natural gas, so there is a kind of equivalence between gas and electricity today," Mr. Miller told SocialFunds.com. " We tend to favor natural gas producers and distributors, since this fuel is superior to current alternatives and a reasonable 'transitional' fuel from an environmental perspective."

"Our performance has been a function of this driver, plus additional gains from positions in foreign telecom companies, which gives us telecom exposure in a much more protected and higher-growth environment," he explained.

What makes the fund's recent strong performance more impressive is the fact that it has not ridden the wave of growth driving the large-capitalization electric indexes, as the fund screens out nuclear power to which so many of the companies in these indexes are exposed.

"We believe the large-cap nuclear electrics are fully priced, and there are not likely to be the strong gains of the past few years," said Mr. Miller. "Our stocks don't suffer from this full valuation, however, and we remain optimistic that our mix of gas, foreign telecom, suppliers, and transaction candidates can continue to outperform both the sector and the broad market."

The nuclear exclusion is the primary negative screen affecting utilities in Miller/Howard's Social Investment Policy, which also screens for alcohol, tobacco, and defense contracting that utilities companies are generally not exposed to. Positive screening for companies with environmental best practice takes a front seat.

Miller/Howard's social research relies on the SOCRATES database from KLD Research & Analytics, while also referencing the Domini Social Index (DSI) and research from the Interfaith Center on Corporate Responsibility (ICCR), and Institutional Shareholder Services (ISS). This in-depth research contributes to an expense ratio of 1.99 percent.

Questar (STR), the fund's top holding, exemplifies the convergence between strong financial and strong social and environmental performance.

"We originally purchased Questar in the teens about six years ago as a smallish utility with solid financials and a good yield in a growing demographic area," said Mr. Miller. "We were also interested in its track record in a subsidiary of increasing both production and reserves for five consecutive years, and in the fact that the company held substantial interests in the Pinedale Anticline, a gas field in its own region with high potential."

"At the time, we felt we were paying no premium for this diversification," he added. "The potential of Pinedale has been realized, and the company is now up five-fold from cost."

Questar's environmental sensitivity plays a key role in this growth.

"The company has been meticulous in adhering to high standards of environmental stewardship during its drilling endeavors, in part, we think, because it has been drilling in its own backyard," Mr. Miller said. "There has been occasional commentary regarding the environmental impact of any and all drilling, but we believe the environmental benefits of natural gas outweigh the sometimes undocumented objections to drilling in general."

The fund's other top holdings include Sierra Pacific (SRP), Ultra Petroleum (UPL), Pioneer Natural Resources (PXD), and Kinder Morgan Energy Partners (KMP).

 

 
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