Utilities are no longer cheap stocks. But Ottawa’s plan to double Canada’s power grid by 2050 underscores why investors have been paying up for these stalwarts anyway: They can count on attractive growth – and big dividend hikes – for decades.
Hydro One’s Performance and Valuation
Toronto-based Hydro One Ltd. certainly resides at the pricier end of the sector. The share price has gained more than 92 per cent over the past five years, without factoring in dividends, outpacing the S&P/TSX Composite Index by about 18 percentage points. The spectacular rally has driven the forward price-to-earnings ratio to more than 25, near a record high and well above the 10-year average of a little more than 20. This valuation is well above peers like Fortis Inc. and Emera Inc., whose P/E ratios are under 21.
Hydro One’s lofty valuation is also reflected in its relatively paltry dividend yield of just 2.4 per cent, despite regular increases including a 6-per-cent bump last week. This is considerably lower than peers, with Emera offering yields as high as 4 per cent.
Recent Underperformance
For investors who prefer cheap utilities, it’s tempting to give Hydro One a pass. The stock has underperformed the TSX by 17 percentage points over the past 12 months and gained only 7.5 per cent year-to-date as of Thursday, trailing its peers in the Canadian utilities sector.
Why the Premium Is Justified
Electricity is hot and getting hotter. Electrification trends, including electric vehicles and heat pumps, are straining the grid. Population growth, rising economic activity, and AI data centres add to demand. Ottawa’s national electricity strategy, released last week, aims to double the grid by 2050, benefiting regulated electric utilities like Hydro One.
Hydro One is focused on electricity transmission and distribution in Ontario, positioning it well. CEO David Lebeter noted, “Hydro One is entering a period of significant change. Ontario’s growing population, electrification and economic expansion are fundamentally reshaping electricity demand across the province.”
The company boasts a bulletproof balance sheet and a peer-beating investment-grade credit rating. It expects to increase its quarterly dividend by 6 per cent annually, a sector-leading pace. Emera, by contrast, increased its payout by just 1 per cent last year.
Ontario generates nearly 40 per cent of Canada’s GDP and has a grid that is already 92 per cent clean, supporting electrification. Hydro One can also benefit from connecting provincial grids, as Lebeter mentioned potential stronger ties between Manitoba and Ontario, and Quebec and Ontario.
Given these factors, Hydro One’s lofty valuation may be justified, and the upcoming national strategy makes it look reasonable.
