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Should You Stick With Duke Energy After A Rough Year?

Duke Energy has received the first two regulatory approvals to proceed with its acquisition of Piedmont. The annual average residential electricity sales will drop 0.5% in 2016, but the prices increase will offset the impact of unfavorable weather conditions. Duke Energy is trading at very reasonable valuation and offers a very attractive dividend yield of 4.58% at current levels. Duke Energy (NYSE: DUK ) has received the first two regulatory approvals to proceed with its acquisition of Piedmont Natural Gas (NYSE: PNY ). Now the approval of Piedmont’s shareholders and permission from the N.C. Utilities Commission is required to complete the transaction. So far the process has progressed smoothly, and Piedmont’s shareholders will meet on January 22, for that purpose. Duke Energy will become the largest gas utility in the state and N.C. Utilities Commission could raise concern over the dominance position, but the management expects to complete the transaction on time. Duke Energy, like most of the other utility stocks, underperformed during 2015 primarily due to uncertainty over interest rate hike. Now finally, Fed has raised the rate and would continue to hike steadily during 2016. The only downside of interest rate increase for Duke Energy is that incremental financial burden could restrict the earnings growth. In this scenario, the investor might be concern over the sustainability of future dividend payments. However, consistently growing regulated electric & gas operations and stout cash flow position will enable Duke Energy to bear the shock and continue to return cash to shareholders. So far this year, Duke Energy has delivered satisfactory performance despite very rough weather conditions. In the coming quarters, the outlook of unregulated utilities is likely to remain challenging primarily due to declining power and natural gas prices and soft electricity demand. On the contrary, regulated utilities will benefit from the supportive regulatory environment, resulting in steady operating earnings growth in 2016. While overall sector earnings are likely to grow 3.7% during, Moody’s (NYSE: MCO ) expects that regulated utilities will witness better operating earnings growth. Source: Factset Duke Energy’s regulated utilities segment recorded operating revenue of $17.09 billion, an increase of only $16 million year-over-year. The flat top-line was due to unfavorable weather during the first half of 2015, but the segment revenue increased 2.7% during the third quarter on the back of mid-single digit increase in electricity demand. Currently, the regulated electricity business is 91.3% of total revenue flowed by 6.4% nonregulated and 2.3% regulated natural gas. Going forward, the addition of approximately $1.4 billion annual sales from Piedmont will significantly increase the revenue contribution of Duke Energy’s existing regulate natural gas business. In the advantageous scenario, the aggressive acquisition of regulated assets will fuel the company’s earnings. (click to enlarge) Source: Company Presentation The commercial and industrial demand is steadily rising, but the mild weather is negatively impacting the demand for residential electricity. The Energy Information Administration (EIA) estimates that annual average retail residential sales will drop 0.5% in 2016, but electricity sales to the commercial and industrial sector will increase by 0.7% and 1.4%, respectively. Source: EIA Duke Energy may continue to witness flat residential usage per customers owing to stable demand and improving efficiency level, but an increase of 0.7% in residential electricity prices will support the growth during 2016. Moreover, the diversified customer base and the addition of new residential customer at a low single-digit, the company added 1.3% new customer over the past twelve months, will boost the top-line at a steady pace. On the other hand, the potential ease in currency headwind and divestiture of poor performing assets could also improve the revenue from international operations. Thus, the trickling down of revenue growth, solid gross margins, and a massive $10 billion investment in gas & electric infrastructure will enable Duke Energy to accelerate an average long-term earnings growth of 4% – 6%. Duke Energy pland to invest approximately $20 billion in new generations and infrastructure development between 2015 and 2019. So far, the company has spent $4.64 billion in CAPEX during 2015, while it generated $5.4 billion in operating cash flow with cash & cash equivalent of $1.37 billion cash. The cash flow position looks pretty healthy, which depict that the company would be able to manage CAPEX and dividend payments without any cut if the interest rate increases further. Duke Energy increases dividends each year, and it has paid the quarterly dividend for 89 consecutive years. Duke Energy is one of the high yield utility stocks and currently, it offers a yield of 4.58%, significantly higher than the average 3.90% yield of large-cap electric utilities in the U.S. Duke Energy has increased the dividend at a CAGR of approximately 2% between 2009 and 2014. Now, the company has recently boosted the increase rate to 4%. The management expressed the intention to increase the future dividend more in line with the long-run earnings growth, which is 4% – 6%. Though interest rate is a threat, the healthy balance sheet will enable the company to maintain the dividend growth. Source: Finviz The balance sheet of the company is very sound with total assets of $121 billion. In contrast, the company has a total debt of $40.2 billion. The debt would increase in 2016 owing to partial debt financing to complete the acquisition and additional debt from Piedmont. Despite the substantial debt, the company’s financial health is likely to remain rigorous as it invests in quality assets to generate growing cash flows, and its total debt to asset ratio, excluding goodwill, is only 0.38 times. Currently, the total debt to equity ratio of Duke Energy is 1.07 times, which seems quite high but is significantly lower than the large-cap electric utilities average and median of 1.38 times and 1.21 times, respectively. Moreover, the interest coverage ratio of 3.85 times depicts that Duke Energy is in a very comfortable position to cover the future interest expense while raising the dividend in line with the earnings growth. Duke Energy delights the investors by raising dividends, which are backed by consistently growing earnings. Unfortunately, Duke Energy is one of the stocks to lose double-digit value during 2015 primarily due to interest rate turmoil throughout the year. On the flip side, Duke Energy is now trading at very reasonable valuation, and its yield has increased due to a steep decline in share price. Duke Energy is currently trading at forward PE of 15.31x, which is slightly less than the utility sector forward PE of 15.5x. That said, Duke Energy is a very decent utility stock to hold for growing dividends and investors should not worry about the interest rate as it is already priced-in.

Enhancing Performance With Low Volatility ETPs

One theme that I will spend more time on in 2016 and beyond is the low volatility anomaly, which has been discussed in considerable detail in the academic world, leading to papers such as the following: In a nutshell, the research supports the claim that low volatility and low beta stocks in the United States and across the globe outperform high volatility and high beta stocks, with low volatility stocks generating substantially higher risk-adjusted returns. Not coincidentally, the groundswell of research pointing to outperformance by low volatility stocks has created a land rush for low volatility ETPs in the first generation of “smart beta” or factor-based investment products in ETP wrappers. Since I believe smart beta or factor-based ETPs is one of the key revolutionary ideas to appear in the investment world in recent memory, I will have a great deal to say about this subject and the many tangential ideas that arise from it going forward. After nine years focusing primarily on the VIX, volatility and related subjects, it is time to charge off in some new directions, starting with some that have a whiff of volatility and ETP innovation. For now, I am going to be content with updating a February 2013 post, with the title The Options and Volatility ETPs Landscape . At that time, I wanted to capture those ETPs that employed a buy-write/covered call approach, employed a put-write strategy, focused on the convertible bond space or targeted low volatility stocks. Well, a lot has changed in the past three years, notably in the low volatility space. This time around, I have some enhancements to the options and volatility ETPs graphic. As is the case with The Current VIX ETP Landscape , I have added yellow stars for those ETPs with an average daily volume of 1,000,000 or higher and pink stars for ETPs with an average daily volume between 100,000 and 1,000,000. Additionally, I have highlighted the new currency-hedged crop of low volatility ETPs by using a red font and have captured the demise of HFIN, a financials buy-write ETF that closed in March 2015 with an X-HFIN designation. (click to enlarge) (source(s): VIX and More) There are a number of other sub-categorizations I will delve into at a future date, but note that whereas FTHI is a buy-write only, FTLB adds an out-of-the-money put. Three other relatively new arrivals, CFO , CDC and CSF , are structured so that they will hold up to 75% of portfolio assets in cash in adverse market conditions. Another intriguing new entrant, SLOW , attempts to avoid sector bias by forcing greater sector diversification than most other low volatility ETPs. So if you found 2015 volatility to be daunting and are looking to dampen volatility in your portfolio in 2016 or tap into the performance benefits of the low volatility anomaly, keep the list above in mind. While comprehensive and including many ETPs with marginal liquidity, this list may not touch upon some of the many new and illiquid products that might be flying under the radar.

Ameren: A Solid Dividend Play With Attractive Long-Term Prospects

Summary Headquartered in Saint Louis, Missouri, Ameren Corporation provides utility services throughout the states of Illinois and Missouri. Ameren’s management expects the company to demonstrate a 7%-to-10% compounded annual EPS growth rate between 2013 and 2018 and a 6% compounded annual EPS growth rate between 2014 and 2019. As of Friday’s Close, shares of Ameren were yielding 3.89% ($1.70) and trading at P/E ratio of 17.9. When it comes to finding a solid dividend investment there’s a lot more that goes into it then just settling on an attractive yield and a reasonably attractive P/E ratio. With that said, I wanted to take a closer look at and highlight a number of reasons as to why I’ve chosen to stay long on shares of Ameren Corporation (NYSE: AEE ) which currently yield 3.89% ($1.70) and offer a P/E ratio of 17.9. Company Overview Headquartered in Saint Louis, Missouri, Ameren is a fully rate-regulated electric and gas utility company that is broken down into three operational segments. These segments are its Ameren Missouri segment (which serves 1.2 million electric customers and 127,000 gas customers throughout the state of Missouri), its Ameren Illinois segment (which serves 1.2 million electric and 813,000 gas customer throughout the state of Illinois) and its Electric Transmission segment (which invests in the various types of multi-value and local reliability projects throughout the state of Illinois). It should be noted that the company has a total of 3.3 million total customers (that total can be broken down into 2.4 million electric customers and 900,000 natural gas customers), 10,200 MW of regulated electric generation capability, and approximately 4,600 miles of FERC regulated electric transmission. ( Company Presentation – December 2015 ) A Pretty Solid Strategic Plan One of the most intriguing things to consider when it comes to investing in Ameren is clearly the company’s strategic plan. The plan, which is a multi-tiered approach, can be broken down into three primary strategies. According to the company’s December Investor Meeting Presentation these strategies include : Investing in and operating its utilities in a manner that is consistent with the existing regulatory frameworks that directly affect the company’s operations in both Illinois and Missouri. The enhancement of regulatory frameworks (such as its FERC-regulated electric transmission service, its Illinois Electricity service, its Illinois Natural Gas service, and its Missouri Electricity service) and advocating for responsible energy policies within both the Illinois and Missouri marketplaces. Creating and capitalizing on opportunities for investment for the benefit of both its customers and our shareholders. As long as Ameren can stay the course, I see no reason why this strategic plan will not be beneficial to shareholders moving forward. If historical stock performance is any indication of management’s success over the last five years (shares of AEE have posted a CAGR of 10.88% since December 2010), then there’s a very good chance we could see the same, if not, an even better performance over the next five years. A Strong Long-Term Earnings Outlook When a company notes that it expects to stay on course and deliver a 7%-to-10% compounded annual EPS growth rate between 2013 and 2018 and also deliver a (very conservative) 6% compounded annual EPS growth rate between 2014 and 2019 to its shareholders, I’m quite impressed. That being said, the 6% compounded annual EPS growth rate between 2014 and 2019 is very conservative considering the fact that it plans on achieving such growth without issuing any additional equity for at least the next 48 months. So what are some the drivers that are directly affecting the company’s long-term earnings growth, you ask? As a whole, Ameren will want to continue to reduce its operational and maintenance-related expenses, its parent company’s interest-related charges, and increase its investments in both electric transmission and delivery infrastructure over the next 12-24 months. It should be noted that analysts expect Ameren to earn $2.61/share for 2015 and $2.71/share for 2016. That being said, the latter of the two estimates which is the $2.71/share estimate for 2016 is a bit conservative especially if we were to apply either of the above mentioned compounded annual EPS growth rates to its estimated 2015 full-year earnings of $2.61/share. For example, if we were to apply the 7%-to-10% compounded annual EPS growth rate we’d see an estimated EPS range of $2.79/share-to-$2.87/share and if we were to apply the compounded annual EPS growth rate of 6% we’d see an estimate of $2.77/share. Recent Dividend Behavior On Monday, October 12, Ameren announced a quarterly dividend increase of $0.015/share, which brings its quarterly dividend payout to $0.425/share. It should be noted that the increase will be paid on December 31 for shareholders of record as of December 9. This boost represents a 3.65% increase from its prior dividend of $0.41/share. Based on the company’s dividend history over the last twelve months, I strongly believe we could begin to see a more consistent pattern of annualized dividend increases over the next 3-5 years as long as earnings growth stays consistent with the above mentioned estimates and the company holds true to its course in terms of maintaining the strategic plan that is currently in place. Conclusion For those of you who may be considering a position in Ameren, I strongly recommend keeping a close eye on the company’s compounded annual EPS growth rate as well as its long-term dividend growth rate over the next few years. Both of these particular growth rates will be directly affected by its ability to stay within the means of the strategic plan that is currently in place as well as the continued investment in its FERC-regulated electric transmission service and the utility services that it provides to customers who reside in the states of Illinois and Missouri.