Valuations suggest credit investors are depending on the “regulatory compact,” (whereby the monopoly utility agrees to invest in assets to service customers in return for prices that are set to allow them a reasonable return) to give sufficient protection from industry changes. While the regulator/utility construct has usually resulted in low-risk returns to credit in the past, technological change creates precisely the environment where slower-moving incumbents and their regulators can fall behind the curve, risking credit volatility, or disrupt the regulatory compact, possibly leading to unexpected losses for bondholders. Investors may be also wary of optimism about solar power, given a recent history of losses in that industry. We believe that sector spreads should be wider to compensate for the potential risk of regulator missteps and/or a permanent change in the utility business model. Whether because of biases or analytical complexity, the market (and its constituent prognosticators) has tended to be late in pricing technology-driven shifts, particularly in industries that have had stable operating models (such as telcos and airlines).
Posted on: Wed, 28 May 2014 01:47:04 +0000
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