National Bank Financial analyst Patrick Kenny recalibrated his target prices for Canadian pipeline, utility and energy infrastructure companies on Monday, seeing lower interest rates buoying valuations.
“With further doubt cast upon the ‘soft landing’ macroeconomic outlook scenario as sluggish data continues to emerge, and the 10-year GCAN rate having pulled back 50 basis points since the end of Q1/24, now hovering back down around 3.0 per cent, we have updated our cost of capital assumptions in line with our Economics & Strategy Group’s recently revised interest rate forecast,” he said in a research note.
“While our colleagues are now calling for a 10-year GCAN rate in the 2.60-2.75-per-cent range through 2025 on the back of another 175 basis points of expected overnight rate cuts, we highlight expectations of a more normalized 3.0-per-cent range by mid-2026. As such, we have lowered our long-term GCAN 10- year assumption embedded in our cost of capital assumptions across our coverage universe to 3.0 per cent (was 3.5 per cent). Recall, every 50 bps decrease to our long-term 10-year GCAN benchmark assumption results in a 10-per-cent valuation impact to our Pipeline & Utilities valuations, and 5-per-cent impact across our Midstream & Alberta Power names. As such, our target prices move up 7 per cent on average across our coverage list.”
Given that view, Mr. Kenny made these changes:
- AltaGas Ltd. ( “outperform”) to $39 from $36. The average on the Street is $36.88.
- Atco Ltd. ( “sector perform”) to $45 from $40. Average: $43.92.
- Brookfield Infrastructure Partners LP ( “sector perform”) to US$34 from US$31. Average: US$35.30.
- Capital Power Corp. ( “outperform”) to $47 from $44. Average: $44.30.
- Emera Inc. ( “sector perform”) to $54 from $49. Average: $52.67.
- Enbridge Inc. ( “sector perform”) to $57 from $53. Average: $55.36.
- Fortis Inc. ( “sector perform”) to $62 from $56. Average: $59.43.
- Gibson Energy Inc. (“outperform”) to $26 from $25. Average: $25.
- Hydro One Ltd. ( “sector perform”) to $45 from $40. Average: $42.33.
- Keyera Corp. ( “sector perform”) to $38 from $36. Average: $40.09.
- Pembina Pipeline Corp. ( “sector perform”) to $57 from $53. Average: $56.75.
- TransAlta Corp. ( “outperform”) to $15 from $14. Average: $13.92.
- TC Energy Corp. ( “outperform”) to $65 from $60. Average: $59.22.
The analyst also sees dividend yield spreads “offering further valuation torque.”
“Meanwhile, as the 10-year rate has slid back down, buoying valuations across the space, dividend yield spreads for the Pipelines & Midstreamers have tightened up towards their five-year averages (excl. pandemic years 2020-2021) versus the Power & Utilities names in our coverage universe remaining slightly inside normalized levels,” said Mr. Kenny.
“Assuming mean reversion, we highlight further upside potential for TRP, ENB, GEI, CU and EMA, with H, FTS, CPX, PPL and KEY leading the implied downside screening exercise. Having said that, we continue to reiterate the highly contracted and rate regulated return nature of the sub-sectors, providing shelter from inflationary pressures through escalators, supporting valuations amidst ongoing market volatility related to interest rate cut expectations, ongoing regulatory/political uncertainty and the upcoming U.S. election in November. Overall, we continue to recommend high-quality, double-digit (or near double-digit) FCF yields poised for valuation upside, while updating our top pick list to include ALA, TRP, TA, GEI and SES.”