In 2017, US utility stocks have traded at a hefty premium compared to their historical averages. Utilities (XLU) (VPU), on an average, have an EV-to-EBITDA[1. enterprise value to earnings before interest, tax, depreciation, and amortization] valuation multiple of 11.0x against their five-year historical average of 8.0x–9.0x.
Top utility stock NextEra Energy (NEE) has an EV-to-EBITDA valuation multiple beyond 13.0x against its five-year average valuation ratio of 12.0x. Dominion Energy (D) has a valuation multiple above 15.0x against its historical average of ~14.0x.
The chart above shows how broader utilities (XLU) have played out against broader markets so far this year.
Utilities’ price-to-earnings (or PE) multiples also suggest their swelled valuations. Historically, utilities’ price-to-earnings multiples have been ~14.0x–15.0x. However, they are currently trading close to 20.0x. NextEra Energy’s PE ratio is near 19.0x while Duke Energy’s (DUK) is beyond 21.0x.
Going forward, utilities appear sound and stable—even after their premium valuations—primarily because of their fundamental strength. They posted modest quarterly earnings growth this year compared to 2016. Given their fair earnings growth, there don’t seem to be any significant risks for utilities that could significantly weaken them in the near term.
Utilities’ (IDU) earnings growth influences their dividend growth. On an average, their annual earnings growth of ~4.0%–6.0% is expected to drive dividend growth by similar levels for the next few years.
You can compare dividend profiles of the top four utility stocks in Market Realist’s series The Top Utilities by Dividend: NEE, DUK, SO, and D.