SHANGHAI: Utilities stocks have emerged as an unlikely favourite of investors in Asia, and bets are growing that their standout rally this year has further to go.

Powering the sector’s boom after two years of losses are supportive local policies and the frenzy surrounding artificial intelligence (AI), which is causing a dramatic increase in electricity demand in many parts of the world.

As concerns grow about a potential global economic slowdown and rising geopolitical tensions, utilities firms’ high dividend payouts and the defensive nature of their stocks are also being touted as tailwinds.

Up nearly 14% since the year began, the MSCI Asia Pacific Utilities Index is on track for its strongest annual gain since 2006. It ranks second, behind tech, in the list of 11 sub-gauges under MSCI’s broader Asian benchmark.

“It’s important to take a step back and consider the broader - and transformational - drivers of secular growth in the sector,” said David Smith, senior investment director of Asian equities at abrdn.

“In recent years, there’s been a recognition that electricity demand growth, coupled with the demands of the energy transition, will require substantial and far-reaching investments into energy grids and power generation, as well as the software that controls grids.”

Local factors such as a robust Indian economy and China’s environmental ambitions are also playing a role in utility stocks’ relative outperformance versus the broader Asian market, as against their peers in the United States and Europe.

Aided by a growing population and an expansionary fiscal policy, India’s power producers have thrived as local electricity prices rose on the back of supply shortages.

In Japan, the government’s plan to accelerate the restart of nuclear reactors has spurred a rally among power companies that had struggled for years after the Fukushima disaster in 2011.

“Asian countries have better fiscal balances and the political will to spend while the United States is in the election year and so spending on power, infrastructure is not high on their agenda,” said Britney Lam, head of equities-long/short at Magellan Investments Holding Ltd. “Cash flow, dividend yields is the flavor as we head into rate cuts.”

Among the heavyweights in MSCI’s Asian utilities sub-index, India’s NTPC Ltd, Power Grid Corp of India Ltd and Japan’s Kansai Electric Power Co have each risen close to or over 30% this year.

Top gainers including Malaysia’s YTL Corp, India’s Torrent Power Ltd and China’s CGN Power Co have all surged more than 50%.

India is “a very exciting place to be right now, when it comes to utilities and the broader grid capital-expenditure thematic,” said Smith of abrdn. “There’s clear and visible investment into the grid, an ambitious goal of increasing renewables capacity to 500GW by 2030, regulatory and policy continuity, and some high quality, well-managed companies that are potentially well-placed to capitalise on this.”

In China, the popularity of utilities firms partly results from a weak economy and a struggling stock market that has prompted investors to flock to defensive stocks with higher dividends.

Meantime, Beijing’s lofty climate goals and an ongoing power market reform also have brightened the sector’s outlook.

These measures are “expected to rationalise the public utilities pricing mechanism, reshape the value of assets such as water, electricity, and rubbish disposal, and stimulate the vitality of green consumption through further institutional reform and innovation,” Topsperity Securities Co analysts including Guo Lei wrote in a note.

The utilities sub-gauge is the best performer under China’s CSI 300 Index, with a gain of about 27% so far this year. The broader benchmark is down 2.5%.

 - Bloomberg