Ken Teale, Chief Investment Officer, Nucleus Global Investors, Australia


Ken Teale, Chief Investment Officer, Nucleus Global Investors, Australia

Investing in Utilities may sound to most people something of a backwater however Utilities provide some of societies most essential services, including power, gas and water distribution, services without which a modern society cannot function. Utilities are natural monopolies and are highly regulated, which results in them having stable earnings, regardless of whether economic conditions are strong or weak. Whilst in a recession households will cut back on discretionary spending on goods and services like cars and holidays, they don’t cut back on their consumption of power, don’t use less gas to heat their homes and don’t cut back on how much water they use, which is why an investment in utilities is less risky than an investment in equities.


Also what is less well known is that over the last few decades utilities have delivered returns significantly in excess of the returns on equities to those fortunate enough to hold them. Until recently, investors have not been able to invest in a globally diversified portfolio of listed utilities, because, with the exception of the United States, in most countries these assets were owned by governments. It was not until the large-scale privatisations of utilities in the late 1980’s and the 1990’s in Europe that investors have been able to invest in utilities located all across the world.


So through the WIOF Global Listed Utilities Fund, one can invest in a highly specialised fund, which moves investment into Utilities around the globe, using the expertise of one of the best Investment Managers in this field of investment. The fund itself provides extended investment opportunities in the Utilities and can help to diversify ones portfolio. Utilities have shown resilience in these times of financial crisis leading to stable income and thus strong share support.



Over the last twenty years, the utilities sector has outperformed global equities markets by an average of over 2% per annum and with a lower standard deviation of returns. Had an investor invested USD10,000 in the UBS Developed Infrastructure and Utilities Index in 1990 - the most widely accepted benchmark for the performance of the utilities sector globally and the benchmark used by the fund, it would be worth USD48,394 today. In comparison, had that USD10,000 been invested in the MSCI Global Equity index in 1990 - the most widely accepted benchmark for the performance of world equity markets, it would be worth only USD32,314 today.


What is also important for investors to realise is that the utilities sector tends to outperform the rest of the equities market more when economic conditions are weak and when stock markets perform poorly. Over 2008 and 2009, as most of the world slipped into a deep recession, the profits earned by the companies in our portfolio were not greatly affected. In fact, over this period, most of the companies in our portfolio actually increased the dividends they paid to investors.


Annual Return for Global Utilities vs. Global Equities: 1990 - 2010



The utilities sector includes both regulated electricity, gas and water utilities (the transmission and distribution systems for electricity, gas and water) – which are natural monopolies and unregulated power generation companies - which operate in a highly competitive environment. Because utilities are natural monopolies, the prices they charge for their services are strictly regulated. It is in understanding this regulation, which is the key to understanding why utilities have performed so well and are likely to continue to do so, regardless of the strength of the economies they operate in.


In most developed countries, government regulation sets the prices a utility can charge at a level which enables them to re-coup all the costs associated with providing these services to the public and also earn a return on equity of around 10% per annum. Over the last few decades, an investment in a global portfolio of regulated electricity, gas and water utilities would have typically earned investors a return around 10% per annum, whilst an investment in a global portfolio of unregulated power generation companies would have earned substantially less. An investment in our benchmark index – the UBS Developed Infrastructure and Utilities Index, which represents a combined portfolio of both regulated utilities and unregulated power generation companies, would have earned around 8-9% per annum. We prefer to invest in regulated utilities rather than in unregulated power generation companies, which is one of the ways we seek to mitigate risk and is also one of the reasons why our fund has tended to outperform our benchmark.


Example of the Regulatory Price Setting Process for a US Electricity Utility

Example of the Regulatory Price Setting Process for a US Electricity Utility


Price = Regulator allowed revenue

Forecast demand (kWh)


The returns on equity that governments have allowed utilities to earn have been stable over a long period of time, particularly in the United States, with utilities having been listed for significantly longer. The graph below show the average allowed return on equity for listed electricity and gas utilities in the United States over the last fifteen years (the top two blue lines), compared to the yields on the bonds issued by those same companies (the middle two blue lines) and the yields on US government 30 year treasuries (the bottom yellow line).


Regulator Allowed Returns on Equity for United States Electricity and Gas Utilities since 1993

Regulator Allowed Returns on Equity for United States Electricity and Gas Utilities since 1993


A 10% return on equity is a highly attractive return on capital for a sector which has such stable demand for its services and which does not face competition. Governments allow utilities to earn such a generous return on equity for two reasons, because of the need to provide privatised utilities with enough incentive to undertake the massive level of investment constantly required in this sector and because of the negative social and political consequences of under investment in the infrastructure that delivers these essential services.


The amount of investment required to maintain and upgrade these electricity, gas and water distribution networks is huge. An estimated two trillion US dollars will need to be invested in the electricity transmission system of the United States over the next two decades just to be able to maintain the current level of reliability of the electricity grid. Now that these utilities are privately owned, governments have no choice but to set prices in a way that ensures these utilities are rewarded not only for investing in new infrastructure but also for maintaining their current infrastructure. If prices are set too low and utilities are not able to achieve a healthy return on equity, they will under invest, and deliver unreliable electricity, gas and water services – a poor outcome for society and for politicians who want to appeal to the voting public as skilful administrators delivering rising living standards to their constituents.


Equity markets are expected to perform well for the first half of 2011 at least. Both institutional and retail funds continue to flow into equities and this should continue to propel them higher for a while yet. A significant proportion of institutional investors are underweight equities and there is the expectation that throughout 2011 they will increase their allocation of funds to equities. Whilst predicting the directions of markets is a hazardous occupation, one prediction that the fund can be reasonably confident in making is that an investment in developed market equities should outperform an investment in government bonds issued by those same countries over the next few years. Yields on government bonds are close to historic lows throughout most of the developed world (save some notable exceptions like Greece, Ireland and Portugal), however the budget deficits of the governments issuing those bonds are close to historic highs. Clearly, this is unsustainable. Whilst most of the world is now well and truly out of recession, GDP growth rates are not high enough to stabilise public sector debt at sustainable levels without a sharp dose of fiscal austerity. Growth is being achieved with the aid of extraordinarily loose monetary and fiscal policies and the kind of spending cuts needed to rein in these deficits and ensure debt levels remain at sustainable levels would reduce growth rates sharply and is, to say the least, politically difficult with unemployment at high levels. Therein lies the problem – at some point, governments must cut spending, but few will do so because it is politically unpalatable. At some point however, the bond market will force their hand by demanding higher yields. When this will happen is anyone’s guess, but when it does, we expect investors’ preferences to switch from riskier to less risky assets. In such an environment, a conservative, value based approach, such as that this fund has, will tend to outperform an investment in the market generally and thus the manager believes an allocation to less cyclical, more defensive stocks is appropriate at the present time.




WIOF Global Listed Utilities Fund is managed by the investment company Nucleus Global Investors, a company, which is majority owned by the Principals. Nucleus is one of a handful of specialist utilities and infrastructure managers worldwide and the Principals are all specialists in the sector with experience gained not only from investing in utilities, but also in raising capital for the sector and in the management of infrastructure companies themselves. The company headquarters are in Sydney, with an office in London.


IMPORTANT NOTE: This report has been prepared for information only, and it does not represent an offer to purchase or subscribe to shares. World Investment Opportunities Funds (“WIOF”) is registered on the official list of collective investment undertakings pursuant to part I of the Luxembourg law of 20th December 2002 on collective investment undertakings as an open-ended investment company. WIOF believes that the information is correct at the date of production while obtained from carefully selected sources considered to be reliable. No warranty or representation is given to this effect and no liability can be assumed for the correctness or accuracy of the given information which may be subject to change at any time, without notice. Past performance provides neither a guarantee, nor an indication of future performance. Value of the shares and return they generate can fall as well as rise. Currency fluctuations, either up or down, may also affect value of the investment.Due to continuing market volatility and exchange rate fluctuations, the performance may be subject to significant changes over a short-term period. Investors should be aware that shares in the financial instruments entail investment risks, including the possible loss of the invested capital. Performance is usually calculated on the basis of the relevant NAV unless stated otherwise. Performance shown does not take account of any fees and costs associated with subscribing or redeeming shares. It is assumed that all dividends were reinvested. WIOF prospectus is available and may be obtained through www.1cornhill.com. Before investing in any WIOF Sub-fund(s) investors should contact their financial adviser / legal adviser / tax adviser and refer to all relevant documents relating to the WIOF and its particular Sub-fund(s), such as the latest annual report and prospectus that specify the particular risks associated with the Sub-fund, together with any specific restrictions applying, and the basis of dealing. In the event investors choose not to seek advice from a financial adviser / legal adviser / tax adviser, they should consider whether the WIOF is a suitable investment for them.