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October 04, 2002
Utilities: They're Not Just for Widows and Orphans Anymore
    by William Baue

Utilities may represent a wise investment in this bear market, especially for socially responsible investors seeking to capitalize on companies that have the best environmental records.

Conventional wisdom says that utilities stocks are for "widows and orphans" because these investments have historically been a safe source of dividends and returns. This year, however, the Dow Jones Utility Index (DJU) is down 31.76% in part due to the effects of the Enron scandal, lawsuits related to the California power crisis in 2001, and problems related to unregulated merchant power. Yet, this downturn in the market may give social investors an opportunity to invest in utilities that have been careful to maintain their balance sheets while continuing to address air pollution, global warming, and the supply of renewable and efficient energy.

"Looking forward, we have to assume that a substantial rally may occur at any time," said Miller/Howard Investments President Lowell Miller. "We can't tell when a snap-back will occur, but we're more than in the zone right now." Miller/Howard's Better Than Bonds/Utilities portfolio is based on research that shows utilities are, over time, a better total return vehicle than bonds. "Our portfolio holdings are at attractive levels for private market buyers. The return on capital and return of capital to an 'owner' is terrific right now. As earnings come in and scandals recede, these stocks will be found attractive by public market buyers as well."

Utilities have historically bounced back from down periods exceptionally well, according to Mr. Miller. For example, in 1974, after two successive down quarters, the Dow Jones Utilities Index (DJU) gained almost 40 percent in the three subsequent quarters. Similar rebounds occurred in 1987 and in 1994, Mr. Miller noted.

Miller/Howard also sub-advises the only socially responsible utilities mutual fund, the Flex-Funds Total Return Utilities Fund (ticker: FLRUX). In addition to screening for environmental issues such as greenhouse gas emissions and violations of the Clean Air Act, the fund screens for militarism, nuclear energy production, and employee relations.

"Utilities have been traditionally strong in the areas of diversity and employee relations," Miller/Howard Director of Social Research Irina Branzburg told Social investors' concerns over utilities primarily have to do with the environmental impact inherent in this sector.

In June,
Innovest Strategic Value Advisors released research that suggests that environmentally responsible utility companies outperform electric utilities with poor environmental practices. The study rated the environmental performance of 28 electric utility companies.

"We have abundant research showing that environmental leaders outperform in the stock market," Innovest Managing Director Frank Dixon told "In this case, the 14 electric companies with above average environmental ratings outperformed the below average group by nearly 3000 basis points over the past three years. Our top-rated companies were FPL Group (FPL) and Pinnacle West (PNW)." (Ed. note: FPL and Pinnacle West own and operate nuclear power generating facilities)

Mr. Dixon noted that consumers' increasing environmental awareness and more stringent government regulation of utilities, especially from states, might create strategic profit opportunities for social investors interested in utilities.

"For example, renewable energy and distributed generation technologies have the potential to gain significant market share in a deregulated energy services market," said Mr. Dixon. "Large opportunities also exist to help customers improve energy efficiency, and consumers are becoming increasingly interested in green power options."

Both Innovest and Miller/Howard expressed concern about utilities involved with nuclear power.

"What perplexes us is why most investors are still willing to tolerate the enormous potential liability, costs, and scientific uncertainties that are unique to nuclear power," said Miller/Howard Research Analyst Gideon Moor. "Furthermore, we wonder whether the investing community honestly believes that new nuclear power plants can live up to their historical reputation as the lowest-cost-provider in an age of accelerating electricity deregulation and commoditization [sic] accompanied by stricter environmental and public safety regulations and concerns."


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