NEW YORK (TheStreet) -- "Water may turn out to be the biggest commodity story of the 21st century," says Edward Kerschner, a consultant to Morgan Stanley.

The idea of water investing got a jump start in the late 1990s when a change in tax law allowed for cities to sign long-term water contracts with private companies. Water "rights" are generally held by state and federal authorities in the U.S. Enron had a strategy to acquire water rights and then provide a market in which to trade them.

Enron failed as a result of massive accounting fraud and never got the idea off the ground. Its most famous water company, Azurix, was broken up and sold off in pieces.

American Water Works ( AWK) bought a large amount of Azurix's holdings -- an inauspicious beginning to the water investing market.

Fast forward 10 years as cities are getting less money from the federal government to help upgrade their water infrastructure, and the water companies are becoming an accepted solution.

One option is an actual water company that gets hired by a city, like American Water Works. The stock is up 27% for the past year and pays a 3% dividend. This dividend though is in the mid-50% payout range vs. the normal utility payout range of 65%-70%, so the dividend could be increasing. Investors need to be aware that volumes fell in the third quarter, and the company has pending rate cases.

Aqua America ( WTR) is up 3% for the past year and also pays a 3% dividend. The company is in an investment stage and spending millions on updating systems. As some power customers lost service during hurricanes and freak snow storms, Aqua America made sure its customers didn't lose water.

The company is also getting involved in horizontal drilling for natural gas. Water is needed for the drilling, and Aqua America brings water to the drilling as well as testing the water for safety. "As long as they're drilling, they're going to need water," said Nick DeBenedictis of Aqua America.

If an investor would prefer to diversify his or her water holdings, there are several water-based ETFs to choose from. The PowerShares Water Resources Portfolio ( PHO) invests 90% of its assets in ADRs and common stocks that make up the Palisades Water Index. The fund is down 7% for the past year, but the total return is up 8% for the same period. The PowerShares Global Water Portfolio ( PIO) is down 11% for the past year, but has a total return of 19% for 2010. Doug Kass suggests the Claymore S&P Global Water ETF ( CGW). It is up 1.9% for the past year and tracks the S&P Global Water Index. The index is in two distinct sectors of the water-related business -- water utilities and water equipment and materials. It makes quarterly distributions.

Water futures do not currently exist, although the idea has been floated. The Australian Securities Exchange has a concept designed that envisions water futures. It suggests that farmers have no means of hedging against drought conditions and this would provide for that. 70% of all water globally is used for agriculture. The CME's ( CME) Green Exchange believes that monetizing water is years away, if ever. Although the green exchange trades in greenhouse gases and carbon trading was also once considered a fantasy.

One issue is the need to upgrade the country's aging water infrastructure, and another is the shift in attitudes toward water departments in municipalities.

Expenditures on water infrastructure will rise from $90 billion in 2010 to $131 billion in 2016, according to Global Water Intelligence. GWI also estimates that sales of water and wastewater-treatment equipment will increase from $14 billion in 2010 to $22 billion in 2016.

Cities have always provided clean drinking water and then billed their citizens. However, less than half the money received actually pays for the water services. Strapped governments now want those water departments to be financially independent.

Governments will expect operating cash flow for water utilities to rise from 44% in 2010 to 62% in 2016, according to GWI. Capital expenditures on water infrastructure will also increase from $90 billion in 2010 to $131 billion in 2016.

If the cities aren't leaning on the departments to pay for themselves, they are outsourcing the water service -- a model similar to power companies. Demand is increasing for companies that can upgrade a water facility and take over the operations altogether.

The right of private entities to own water rights was discussed in Washington last Tuesday by the House Subcommittee on National Parks, Forests and Public Lands. Privatization allows the local governments to get an injection of money into their coffers and unload their water problems to the highest bidder. Citizens predictably become upset when their water bills rise, but usually the new water company is addressing decades of neglect.

--Written by Debra Borchardt in New York

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Disclosure: TheStreet's editorial policy prohibits staff editors, reporters and analysts from holding positions in any individual stocks.

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