Blackout time for utility funds

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Blackout Time for Utility Funds

By Jerry Morgan Newsday Sunday, February 4, 2001 ; Page H03

Last year, investors in utility funds got a power surge as the funds did well because the tech sector collapsed. This year, it's blackout time.

At the beginning of 2000, utility analysts said, the dividend yields on utility stocks were higher than bond yields, because those stock prices were so low. Technology was flying, so investors pulled out of utilities and went into tech.

Then tech collapsed and some money found its way into utility funds; deregulation, good earnings and tight capacity in power generation made the earnings picture look good for utilities and helped push up their stock prices, said G. Jay Evans, the fund manager and senior vice president at Boston-based Galaxy Funds.

Evans's Galaxy Utility Index Fund, for example, posted a 59 percent return last year. "Utility stocks were the alternative," he said. "They were healthy and very liquid. You could get into them and you could get out."

But when the Federal Reserve Board cut interest rates by half a percentage point in the first week of this year, it sent a message to investors that growth stocks would be back. "The world has changed. It was a tidal shift. The tide came and the tide went out," Evans said. As of last week, his fund was down more than 10 percent for the year to date.

Utility funds used to be easy to understand, full of monopolistic but regulated telephone and electric and natural-gas companies that were guaranteed a specific rate of return. Since the returns were definite, so were the regular dividends they paid. They were considered "widows and orphans" funds because of their stability.

No more.

Deregulation has changed them. Now utility funds are full of telecoms and unregulated power-generation companies. The funds own foreign power plants and energy producers. They have to deal with electric companies that are still regulated in deregulating markets. And so, like other stocks, they are at the mercy of the markets.

Utility-fund managers and analysts say the situation in California, where rolling blackouts have been ordered because of power shortages, is exacerbating the perception that all utilities are in trouble. "There is a fear that the California problems will spread, but they won't," said Mark Luftig, a manager of the Strong American Utilities Fund, managed by W.H. Reaves, a Jersey City investment firm that serves as subadviser to the fund.

The California situation is an example of deregulation that isn't working properly. The aim of deregulation is simple: to free the markets so more companies can compete, which should drive down prices. The problem is that the deregulation is incomplete and that the energy situation has changed the picture.

In California, the problem is so simple, one wonders why it wasn't foreseen. The price of natural gas has risen sharply because supplies are tight and demand is high. California utilities built new gas-fired power plants because they are relatively cheap. But energy demand increased, driven by a booming economy and more and more energy-sucking computer use, just as oil and gas prices began rising sharply.

But California's state-regulated utilities have price caps on what they can charge customers, so they can't pass the higher fuel costs on to customers. As a result, they don't have the money to pay for the natural gas. So there is a multibillion-dollar disparity that is causing power outages, the threat of a cutoff in supplies and the possibility, if not the probability, of power-company bankruptcies.

While the demand for power has been ongoing, natural-gas exploration, development and production was curtailed in the late 1990s when prices were low, and the supply has yet to catch up. "The gas is there, everyone knows where it is," Luftig said. "But no one has been drilling for it."

Not everyone agrees. Kim Schnabel, a utility and energy analyst at TIAA-CREF, the huge private pension fund and investment firm in New York, said he is concerned that natural gas supplies might not last much longer this winter.

With the situation complicated, are utility funds still a good investment?

"Utility funds are not as speculative as other funds," said Ed Paik, utility analyst at Liberty Funds in Boston. "They are still regulated, and their longer-term outlook is still slow growth with a fairly predictable cash flow and fairly predictable profits. But there are some things they can't control, and they can be affected by events like any other industry."

But Morningstar fund analyst Paul Herbert said: "It depends on what kind of investor you are. You have to look into the funds. Some are still electric and gas utilities, but some are really telecom funds in drag. It is important for investors to check on expensive stocks, the P/E ratio. It is not easy to say that a utility fund is the safe vehicle it used to be."

© 2001 The Washington Post

-- Swissrose (cellier@azstarnet.com), February 05, 2001


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