EEI Conference Preview: Electricity Markets and the War for Coal

The Trump administration has clearly gone all-in on turning the supposed war on coal into a war for coal. Already, the 45th president’s term has brought the prospect of tariffs on imported solar panels, potential tax reforms that undermine incentives for renewable energy, the systematic dismantling of Obama-era air and water regulations, and proposed subsidies to keep money-losing coal-fired power plants running in previously unregulated markets.

Will these actions make any difference? That’s up to the US power industry, whose leaders will meet with the investment community at the Edison Electric Institute’s annual financial conference early next month.

My five best investment ideas from last year’s conference have returned an average of 30.8 percent, outperforming the S&P 500 Utilities Index’s 22.2 percent gain over the same period. Equally important, my conversations with industry executives, analysts and portfolio managers revealed a handful of key takeaways that informed our investment strategy:

• The emergence of the information technology sector as an important driver of utilities’ commercial and industrial sales;
• Faster-than-expected growth in utilities’ earnings per share and dividends, fueled by robust capital spending;
• A sector focused on improving returns and growing rate base by closing older, coal-fired power plants and replacing these facilities with lower-cost options;
• Heavy investment in renewable energy and natural gas; and
• An ongoing commitment to reducing operating risk and debt levels.

These trends remain in force a year later.

Last week, Dominion Energy (NYSE: D) announced plans to construct a solar-power facility to serve Facebook’s (NSDQ: FB) new data center near Richmond, Virginia. The company already operates solar farms for Amazon.com (NSDQ: AMZN), Microsoft Corp (NSDQ: MSFT) and other large tech firms. All told, the Virginia-based utility plans to spend $600 to $800 million annually on clean energy over the next 15 years.

These capital expenditures, coupled with significant investments in natural gas-related infrastructure, have enabled Dominion Energy to increase its guidance for annual dividend increases to 10 percent, from a previous target of 8 percent.

Meanwhile, NextEra Energy’s (NYSE: NEE) guidance calls for annual dividend growth of 12 to 15 percent through at least 2022.  Algonquin Power & Utilities Corp (TSX: AQN, NYSE: AQN), one of our top picks from the Edison Electric Institute’s 2016 financial conference, has targeted annual dividend increases of 10 percent.

As always, we’ll be on the lookout for utilities that could be poised to accelerate their earnings and dividend growth. We have our eyes on one name that hasn’t increased its payout since April 1996 and could be in for a big year; we look forward to meeting with the management team at this year’s conference.

Access Utility-wood

In the run-up to the Edison Electric Institute’s financial conference, we’ll spend weeks poring over third-quarter results and listening to earnings calls for the more than 200 essential-service stocks covered in our Utility Report Card.

All this hard work underpins our never-ending quest to identify the best investment opportunities for Conrad’s Utility Investor subscribers. Meeting with management teams and asking the hard questions that never come up on quarterly earnings calls give us a huge advantage when it comes to generating market-beating ideas.

At least year’s conference, utility executives took an almost universally bearish view on coal’s future as a fuel for power generation and stood by capital-spending plans focused on natural gas or renewable energy. CEO after CEO insisted that these decisions hinged on economics, not regulation.

Despite the Trump administration’s war for coal, recent weeks have dealt the thermal fuel several blows.

In late September, Florida regulators approved NextEra Energy’s plan to shut down the 1,300-megawatt St. John’s coal fired power plant 35 years before its planned retirement date of 2052. The utility and its partners estimate the cost savings of this closure at $183 million.

Given that this facility operated in a regulated market and is relatively young, NextEra Energy’s decision not to keep the facility open and depreciate it over the next 35 years suggests that the market may have reached a tipping point for coal-fired generation capacity.

More recently, Vistra Energy Corp (NYSE: VST) announced plans to close three coal-fired power plants in Texas: the 1,800-megawatt Monticello facility and Luminant’s Sandow and Big Brown stations.

That said, potential tariffs on solar panels imported to the US could slow the development of solar power in the country, while gas-fired plants operating in unregulated markets would feel the squeeze if Energy Secretary Rick Perry’s planned subsidies for coal-burning facilities and nuclear power stations moves forward.

Heavy-handed government intervention in an industry usually results in unintended consequences. How companies react to these potential rule changes will separate the winners from the losers.

We tackled these thorny problems at length in October issue of Conrad’s Utility Investor, identifying three high-quality names for which the Trump administration’s potential interventions could be a near-term bonus, albeit not our primary investment thesis. (See Politics vs Economics: Wholesale Changes.)

Gauging how the utility sector and power producers plan to respond to the Trump administration’s interventions will be at the top of my list at the Edison Electric Institute’s upcoming financial conference.

As always, subscribers will receive an exclusive report with my top takeaways from the conference, as well as my best investment ideas and a list of names to avoid at all costs.

Not a subscriber? Join Conrad’s Utility Investor today to ensure that you don’t miss out on this must-read investment research.

In particular, I plan to pay close attention to companies that own nuclear power plants operating in unregulated markets.

Like coal-fired power plants, Energy Secretary Perry’s proposal would seek to compensate operators of nuclear power plants for providing reliable, baseload capacity.

However, nuclear reactors don’t emit carbon dioxide, mercury or particulate matter—a distinction that has prompted New York and Illinois to grant these facilities’ zero-emission credits to ensure their profitability in wholesale-power markets. Operators have pushed for similar measures in Connecticut, New Jersey, Ohio and Pennsylvania.

These proposals have encountered resistance from consumer advocates, environmentalists who prefer renewable energy, and owners of competing gas- and coal-fired power plants.

A federal rule requiring subsidies at the Independent System Operators that run wholesale power grids, however, would make state-level opposition moot. In fact, New York and other states would probably focus their efforts on blocking subsidies for coal-burning power plants.

Nuclear power plants’ challenging economics in wholesale-electricity markets have occurred despite significant improvements in operating efficiency—a sharp contrast to older, coal-fired power plants that have become increasingly expensive to keep running.

FirstEnergy Corp (NYSE; FE), for example, which operates a fleet of merchant nuclear power and coal-fired plants, has reiterated its commitment to divesting its cash-strapped wholesale-electricity unit.

The management team’s take on the Trump administration’s proposed interventions and their implications for the company’s strategy could make the stock an interesting turnaround play. However, given the risks, we wouldn’t make this call without talking to management as part of our due diligence process.

Big Yields, Done Right

Buying the right names at the right prices and kicking back while we collect fat dividend checks–that’s what Conrad’s Utility Investor is all about. Even better, some of my favorite picks offer leverage to powerful secular growth trends, including renewable energy, the rise of electric vehicles and machine-to-machine communications.

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