No changes in our European utility convictions
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No changes in our European utility convictions

The European utility sector has seen little differentiation in performance across the past three months, with a 9% increase in absolute terms and a 5% outperformance versus the MSCI Europe. Energy prices have fallen, but windfall taxes and price caps introduced in 2022 could limit near-term negative earnings per share (EPS) momentum. But the sector has already de-rated to reflect this.

Capex inflation and higher Weighted Average Cost of Capital (WACC) have increased the LCOE by 24% for offshore wind, 35% for solar, and 17% for onshore wind over the past two years. Some areas, such as offshore wind, have seen impairments and project delays. However, renewables are going through a re-boot process, and measures to break the negative feedback loop should eventually be seen positively.

Although energy prices have fallen from their peaks (e.g., -75% for NBP gas), partially due to demand destruction and increased gas in storage, they remain above the pre-energy crisis levels. The Utilities team stick to their long-term power price forecasts of €70/MWh and £66/MWh. Companies that have extensive energy trading operations or have flexible generation fleets are well positioned to benefit from falling prices and volatility.

The proposed changes to the EU power market design do not indicate an overhaul of the existing market. The proposal also seems to be benign for the industry, and the key risk of mandatory measures for existing assets did not materialize. The European Green Deal Industrial Plan and the US Inflation Reduction Act may be positive factors for the sector over time. Quick state aid approvals and shorter permitting processes are essential.

The team expects re-equitization to continue. There is c€700bn of market cap and €450bn of net debt in the European listed Utility space, on the team's estimates. Across the past 15 months, the cost of debt has risen by c300bps whereas the cost of equity has risen by 100bps, which is a precursor to changing capital structures..

@Mark Freshney