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SHARE TIP: Ecofin Water & Power Opportunities (EWCO)
March 18, 2010

BULL POINTS

■ Utilities set for an upturn

■ Specialist management team

■ Takeover activity

■ Discount to net assets especially wide

BEAR POINTS

■ Limited investment pool

■ Regulatory risk

IC TIP: Buy at 143p

Tip style: Value

Risk: Medium

Timescale: Long-term

No-one ever wants to buy the utilities in a game of Monopoly - they aren't cheap, don't offer scope for houses or hotels, and certainly won't win you the game. In the real world, shares in utilities companies have been similarly unpopular in recent years as demand for power plummeted and investors fretted over the industry's debt financing. Even during the spectacular bull run of 2009, these fears meant the MSCI Global Utilities index was down 4 per cent in sterling terms, compared with a 16 per cent rise for the World Index.

But this unpopularity may soon change, driven by cyclical recovery in the demand for power from developed nations and spiced by growth in renewable energy projects in developing economies. Company valuations remain cheap against historic averages and dividends have held up well. Against this backdrop, we reckon the management expertise at Ecofin Water & Power Opportunities Trust could offer high-quality exposure to the upturn in utilities shares.

Ecofin was set up by John Murray and Bernard Lambilliotte in 1992 and has become one of the largest managers of specialist utility funds, with £2bn under management. Mr Lambilliotte has run the Water & Power trust since its launch in 2002. Since then - and after re-investing dividend income - the trust's net asset value is up 253 per cent, which equates to an eye-watering 17 per cent return per annum, according to analysts at Winterflood Securities.

The fund claims expertise across the board. A team of five focuses solely on special situations in utilities and renewables, while a manager in the US examines corporate credit opportunities. The fund also gains exposure to China through the group’s in-house Ecofin China Power & Infrastructure fund, launched last year and supported by a specialist team in Hong Kong.

Mr Lambilliotte uses a bottom-up approach to stock picking based around big themes, of which industry consolidation is currently one. Speculation has been rife of a possible bid for International Power by GDF Suez, while the Ontario Teachers' Pension Plan has been linked with a takeover of Northumbrian Water. Both E.ON and EDF are also contemplating the sale of assets. M&A is now back in fashion and could enhance the fund's returns.

Ecofin Water & Power Opportunities (ECWO)

PRICE143pNAV174p
MARKET CAP£429mDISCOUNT TO NAV23%
No OF HOLDINGS1001 YEAR PRICE PERFORMANCE19%
SET UP DATE19923 YEAR PRICE PERFORMANCE-23%
MANAGER START DATE19925 YEAR PRICE PERFORMANCE144%
BETA-TOTAL EXPENSE RATIO1.7%
VOLATILITY-YIELD3.7%
TRACKING ERROR-GEARING49%
SHARPE RATIO-MORE DETAILShttp://www.ecofin.co.uk/eco/en/products/ewpo/aboutewpo

TOP TEN HOLDINGS (%)

ITC Holdings 10.2
Hansen Transmissions7.3
Ecofin China Power & Infrastructure Fund6.4
Poweo4.6
Transmissora Alianca de Energia Electrica3.5
Northumbrian Water 3.2
E.ON2.8
BG 2.6
Oest Elektrizitatswirts 2.4
EDF2.3

GEOGRAPHIC BREAKDOWN (%)

USA40
UK18
Rest of Europe23
Other18

But it's not all bright for the Ecofin trust. Firstly, its investment pool is limited as the manager typically puts at least 1 per cent of gross assets into each holding, which equates to £4-5m. And the fund can also become heavily geared, which means it has to bear many prior charges before ordinary shareholders can be rewarded. Gearing, which can reach 60 per cent of shareholders' funds, comprises bank debt, zero-dividend preference shares and convertible unsecured loan stock.

What's more, the regulatory landscape is uncertain. Ernst & Young, the professional services firm, estimates that in the next three years the UK's energy companies must commit up to £50bn to meet government targets for cutting emissions of greenhouse gases while guaranteeing electricity supplies. But the general election has caused anxiety over what government assistance will be offered for such capital-intensive projects.