The utilities sector is growing amid the AI ​​boom and expectations of interest rate cuts

In an unexpected turn of events, the utilities sector has become a dark horse in the stock market race, with some players even overtaking leading tech giants. This explosive growth is the result of a perfect storm of factors: the artificial intelligence boom, interest rate cuts and the nuclear renaissance.

Utilities Select Sector SPDR Fund (XLU
Tools Select sector SPDR Fund
), which tracks the S&P 500 utilities sector, has had two distinct catches. The first half was characterized by average results, with most of the advantages resulting from just five actions:

1. Vistra Corp (VST)
2. Constellation Energy (CEG)
3. NRG Energy (NRG)
4. Public Service Enterprise Group (PSEG)
5. NextEra Energy (NEE)

These companies, particularly independent power producers, have leveraged their overall scale and nuclear assets to capitalize on growing demand from data centers, artificial intelligence infrastructure and electric vehicle charging stations.

The third quarter saw a more even distribution of returns across XLU components, with an average increase of 20%. This broad-based increase began after the first negative month-over-month Consumer Price Index report of -0.1% in early July and continued uninterrupted through September, when the Federal Reserve began its widely anticipated interest rate cut cycle.

Turning Vistra Corp from Underperformer to Performer

Vistra Corp has become a flagship example of sector transformation. As one of the largest Texas-based independent power producers, Vistra operates in deregulated markets such as Texas and PJM, where it generates and sells electricity at market prices. This business model differs significantly from regulated utilities, where allowable returns on equity are determined by utility commissions.

Historically, Vistra, formerly TXU, has been valued at a discount compared to other utilities, due in part to stagnant domestic electricity demand, an oversupply of natural gas that has kept U.S. electricity prices among the lowest in the world, and the growth subsidized renewable energy production. These conditions led to price volatility and contributed to multiple bankruptcies in the industry, including the bankruptcy of Vistra’s former parent company, TXU, in 2014.

However, as reported, Vistra has made a remarkable turnaround through a series of strategic moves, including closing unprofitable coal-fired power plants, repurchasing 33% of its stake between 2018 and 2023, and acquiring 4,048 MW of nuclear generation assets from Energy Harbor in March 2023 through Utility diving.

This latest move was particularly significant, making Vistra the largest unregulated power generator with 6,400 MW of nuclear capacity. As such, Vistra’s current business model is well positioned for the future energy landscape. It balances intermittent renewable energy generation with growing energy demand driven by artificial intelligence, data centers and electric vehicles.

Energy of the Constellation Now Rising Phoenix

Constellation Energy’s journey is equally fascinating. After struggling with exposure to Lehman Brothers in 2008, it was acquired by Exelon in 2011. In 2022, Constellation regained independence as Exelon split its regulated utilities and unregulated energy companies. Today, as the largest nuclear power producer in the U.S., Constellation is well positioned to meet the growing demand for reliable, clean energy.

In fact, one of the most important events in the industry took place on September 20, 2024, when Constellation Energy and Microsoft announced a groundbreaking power deal. The aim of the agreement is to resurrect the Three Mile Island nuclear power plant in Pennsylvania, which will be the first-ever restart of this type.

According to Reutersthe agreement stipulates that Microsoft will purchase energy from the restarted plant for 20 years. The Three Mile Island unit will produce 835 megawatts of electricity, or “enough to power approximately 700,000 homes.”

Tools with AI-like multiples

Interestingly, two of the big winners in the industry, Vistra and Constellation, are now more likely to associate sports valuations with high-growth technology stocks. They boast the highest price-to-earnings ratios and lowest dividend yields in XLU, with the exception of struggling California-based PG&E.

While the utilities sector has had a remarkable run of good times, challenges remain. The rest of the XLU Index has only recently recovered from its 2022 highs as interest rate increases weighed on capital spending, debt service, dividends and cash flow.

However, the future of the sector is bright, driven by several key factors:

1. Strong demand, as evidenced by PJM’s record power drawdowns in August 2024
2. Potential for further interest rate cuts
3. Ongoing investments in grid modernization and renewable energy integration
4. The key role of reliable power in supporting artificial intelligence and data center development

As the lines between traditional utilities and technology-enabled energy providers continue to blur, investors should keep a close eye on this emerging sector. The tools of tomorrow may look very different from yesterday, but one thing is clear: they will play a key role in powering our AI-powered future.