The MERALCO effect, 2007 will be the year of utility stocks

The ruling on MERALCO implies a turnaround in government’s populist stand in regulating the power/energy sector. The ruling signifies a move towards a “pro-utility sector/pro-business” stand by the government.

Re-rating looms
For the past 5 years, utility counters continue to trade below market multiples. This shows that investors are putting significant amount of “regulatory risk” in valuing utility counters. Since 2003, the utility sector traded at an average of 30% discount to market. Moving forward, I expect this trend to change. Longer term, as the government continues to show its hands, the sector should be trading at par with the market.

Postive deal flow
Last week, the government successfully bided out Maynilad Water to a consortium led my DMCI Holdings (DMC – P6.10) and Metro Pacific – (MPC – P2.08). Next week, PNOC-Energy Dev’t. Corp. (PNOC-EDC) will list its shares in the stockmarket. Before the yearend, the government will be biding out the power generation assets of National Transmission Corp. (Transco). All these point to the fact that the government is opening up the sector.

Lower risk
So I do believe that we should go where the money is. Assuming all factors are in place, 2007 will indeed be a year for utility counters. The risk profile has changed and valuations cannot stay this low. The risks of holding utility counters have significantly gone down vis-à-vis its earnings profile. Thus, there is every reason to overweight utility stocks for 2007.