Utility funds, those staid and conservative investments you once thought were too boring for your money, are beating growth-and-income funds in total returns this year and giving growth funds a run for their money.
The 100 utility funds tracked by
are posting a respectable 14.7% average year-to-date return through Dec. 17, compared with an 11.5% return for growth-and-income funds. Both groups are trailing the
return of 22.8%, but then again, so are almost 90% of actively managed funds.
The laggards include growth funds, which are posting a mere 15.3% average year-to-date return, barely keeping their noses in front of utility funds.
Given those relative returns -- and the utility sector's strong reputation as a lower-risk investment -- utility fund investors this year may very well have gotten a free ride, or at least a more comfortable one. They have enjoyed solid returns without the gut-wrenching volatility that has struck other sectors.
Take a look at how these funds performed, both up and down, over the course of this year.
As you can see, these funds aren't highfliers. But they also didn't suffer big dips in the third quarter when the average diversified domestic equity fund lost 15.0%. Their steady ascent was the smooth ride many investors were looking for this year. And they might be a good place to stash some cash next year as well.
"Utilities definitely have been a much smoother ride than growth funds," says Marshall Schield of
Schield Management Co.
in Denver, which specializes in sector investing. "The same may hold true in 1999 because utilities are not selling at the high valuations that the rest of the market is and therefore would be less susceptible to any earning surprises and a big selloff."
Leaders' Returns Top 30%
Of course, the average returns in the sector don't do justice to its leaders. Take the $466 million
Fidelity Select Utility fund, which is posting a 33.7% year-to-date return, the best of any utility fund and solidly in front of the S&P 500. Other big winners are the $481 million
MSDW Global Utility fund, with a 32.5% return, and the $278.8 million
American Century Utility fund, which shows a 22.9% year-to-date return.
But as you might guess from the similarity of their returns, these funds hold many of the same stocks. And that extends to holdings beyond the traditional realm of water-gas-electricity companies. Instead, these holdings have a distinctive telecom bent. The trio all have variations on an
combination in their latest filings.
So before we put power grids and water works in the buy-now category, we must point out that a lot of utility funds might actually look a lot more like highflying telecommunications funds when you pry under the hood.
Telecom Stocks Boost Performance
"The telecommunications sector has become extremely important," says Steven J. Lehman, portfolio manager for the $1.6 billion
Federated Utility fund. "It's now more than 70% of the market cap of the utility group. So it's easy to see why the utility funds, with the telecom sector, are doing so well this year."
Schield notes that utility funds aren't the only place you can find this kind of cross-pollination, especially if you look at the sector the utilities have been moving in on: growth funds.
"Some of the growth funds are tech funds in disguise," he says.
Still, while the nature of utilities has been changing over the past several years, as we wrote in
November, your basic utility fund is still just that: a lower-risk place to sock away some money when you think the market might go south. Deregulation in the industry has led to stronger earnings and growth recently, adding some upside potential in the sector in times you wouldn't expect it. The downside is that it has also snatched away some of the guaranteed market share that regulated monopoly utilities enjoyed for years.
Still, that new blend of growing, competitive companies and steady revenues from power, gas, water and telephone bills each month goes a long way in explaining utilities' steady cruise this year. And utilities also benefited in 1998 from favorable monetary policy. The interest-rate cuts were a big boost to utilities, which typically have huge physical plants and a good bit of debt service to go along with them. And that means lower interest rates help a lot.
Rate Cuts Helped
"Utilities continued to gain as the market slid, and then didn't slide as the market began to gain," says Christopher S. Edmonds, president of
and a contributing editor to
. "Because when the market started to gain
in October, it was at about the same time that the Fed began to ease rates, and so the monetary climate became very favorable." (For a look at Edmonds' series on utilities deregulation, click
But it's easy to call the shot for the year that was. A tougher thing is to call the year ahead. As you might expect, the utility experts we talked to saw the steady running of this sector continuing into next year, largely because of the things they saw this year.
Utility funds remain a defensive play and thus a safe place to remain with uncertainty ahead. "I think a lot of the problems you had in 1998 were not resolved with the selloff in 1998," says Schield.
Lehman, the fund manager, also is bullish on the sector for the future. But he also thinks recent performance has begun to make others take notice.
"The utilities have been a bit of a secret. People don't realize how well they've done and how these companies are changing," Lehman says. "But investors are reawakening to the appeals of utilities."
Adds Edmonds: "As long as monetary policy remains positive ... I think utilities can have a good year. But expecting S&P
500 returns from utilities year in and year out will disappoint investors."