Treasury Rate Breakout Reflects on Utilities

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Despite the confusing unemployment numbers — a huge drop in the rate coupled with the extremely low number in new jobs created — 10-year treasury rates catapulted past the 3.5% level to close Friday, February 4 at 3.65% after spending the better part of the last two months between 3.25% and 3.5%. The ramifications as far as housing, bonds, and precious metals are concerned are obvious, but there’s one other element that is often overlooked. As the market spent a quiet day, literally going nowhere for most of last Friday, the same wasn’t true regarding the Dow Jones Utilities Index, which is available as an ETF, the iShares Dow Jones U.S. Utilities Fund (NYSEARCA:IDU).

As one looks at the chart for the 10-Year Treasury rate, the increase between October 2010 and December 2010 was swift, yet it didn’t completely derail the DJU — although a pull back took place — because the rate was still below the great majority of dividend yields sported by the individual stocks in the index. In the last three days, the rate moved up 20 basis points and is now starting to erode the dividend advantage of utility stocks. In addition, utility companies are among the most capital intensive industries and higher rates will pressure their profitability.

Ten Year Treasury Rate

Symbol Name Close on 2/4/11 Change Dividend Yield
AEP American Electric Power Company 35.62 (0.56%) 5.17%
AES The AES Corporation 12.42 (1.11%) N/A
CNP CenterPoint Energy, Inc 16.14 (0.12%) 4.89%
D Dominion Resources, Inc. Common 43.61 (0.18%) 4.52%
DUK Duke Energy Corporation 18.01 (0.44%) 5.44%
ED Consolidated Edison, Inc. 49.59 (0.56%) 4.84%
EIX Edison International 36.75 (0.57%) 3.48%
EXC Exelon Corporation 42.75 (0.90%) 4.91%
FE FirstEnergy Corporation 39.63 (1.17%) 5.55%
NEE NextEra Energy, Inc. 54.74 (0.45%) 3.65%
NI NiSource Inc 18.40 (0.49%) 5.00%
PCG Pacific Gas & Electric Co. 46.25 (0.24%) 3.94%
PEG Public Service Enterprise Group 32.22 (1.62%) 4.25%
SO Southern Company (The) 37.34 (0.67%) 4.87%
WMB Williams Companies, Inc. (The) 27.46 (0.51%) 1.82%

The table above illustrates the price movement for the components of the Dow Utilities index on Friday, and includes their respective dividend yields. As appealing as dividends are, the above-mentioned utility stocks will undergo a meaningful pull back as rates keep rising, and the trade-off between the sweet dividend and loss in value must be established. Although the index recovered from mid-December until now because rates entered the flat zone, it endured a 5.5% loss between mid-October and late December as the 10-year rate increased from 2.5% to 3.25%, and while the other major indices enjoyed prosperous times. Fed or no Fed, higher rates are coming!

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

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