Utility stocks have a reputation for being quiet performers, typically delivering steady earnings and dividend growth, resulting in decent but often unspectacular returns. This trend continued in the first half of the year, with utility stocks measured by the Utilities Sector SPDR ETF showing a 7.6% gain and a 9.3% total return when dividend income is included. However, these returns paled compared to the S&P 500’s impressive 14.5% gain and 15.3% total return over the same period.
Yet, amidst the generally steady performance of utility stocks, Constellation Energy emerged as a remarkable outlier. Shares of this leading nuclear energy producer surged by over 70% in the first half of the year, driven by several key factors that set it apart from its peers.
Accelerating Growth and Strategic Initiatives
Constellation Energy’s accelerated growth trajectory became evident when it unveiled its financial outlook for 2024 and beyond in late February. The company, a prominent player in clean energy production, projects a minimum of 10% annual growth in base earnings through the end of the decade. This ambitious growth plan is supported by robust dividend growth, with the company boosting its payout by 25% this year, significantly surpassing its 10% annual growth target. Additionally, Constellation Energy launched a new $1 billion share repurchase program, further signaling its confidence in sustained growth.
This aggressive growth strategy positions Constellation Energy for faster and more extended growth compared to its peers in the utility sector. For example, NextEra Energy, another leading clean energy-focused utility, expects to grow its adjusted earnings by 6% to 8% annually through 2027 while increasing its dividend by approximately 10% per year through at least 2026. This forecast is among the best in the sector, as many other utilities anticipate 5% to 7% annual earnings growth with dividend increases that, at best, match their earnings growth rate.
The AI Data Center Catalyst
Another significant factor contributing to Constellation Energy’s impressive first-half performance is the growing expectation that nuclear energy will play a crucial role in powering data centers related to artificial intelligence (AI). These facilities consume considerably more power than traditional data centers, which are already highly energy-intensive. Constellation Energy is actively working to secure power purchase agreements with large technology companies to support its nuclear facilities, potentially enhancing its already robust growth outlook.
A Premium Valuation with Trade-Offs
The excitement surrounding Constellation Energy’s future prospects has propelled its stock to high levels, with a forward price-to-earnings (P/E) ratio of 26 times. This valuation is significantly higher than its peers in the utility sector and even above the S&P 500’s nearly 23 times forward P/E. Although not as pricey as the growth-focused Nasdaq-100, which trades at almost 29 times forward P/E, Constellation Energy’s valuation reflects its superior growth potential.
While Constellation Energy deserves a premium valuation due to its faster growth rate compared to its utility peers and many other companies, this high valuation comes with trade-offs. Its forward P/E in the mid-20s is reminiscent of where NextEra Energy traded a few years ago. Although not a bargain, it is not excessively expensive, especially for a company growing at an above-average rate.
However, the high valuation contributes to a low dividend yield, recently around 0.7%. This yield is well below the S&P 500’s dividend yield of 1.3% and other utility sector peers, such as NextEra Energy, which offers a 2.8% yield, with some utilities offering even higher yields. Constellation Energy’s low dividend payout ratio allows it to reinvest more in growth and return additional money to investors through share repurchases.
High-Powered Growth Ahead
Constellation Energy is on track to deliver double-digit earnings growth through the end of the decade, significantly outpacing its peers in the utility sector. This strong growth outlook has driven investors to bid up its stock, resulting in a premium valuation compared to its rivals and the broader market. The company has the potential to continue outperforming, particularly if it capitalizes on AI-related growth opportunities. Therefore, Constellation Energy remains an enticing option for growth-focused investors.
However, for those seeking income and lower volatility, the high valuation and low dividend yield might make Constellation Energy less attractive compared to other utility stocks. Investors must weigh the potential for high-powered growth against the need for stable income and lower risk when considering an investment in Constellation Energy.
