Fitch Ratings has a stable outlook for the U.S. utilities sector in 2021 as economic uncertainty persists amid a global pandemic.

"The stable outlook for the sector is supported by low interest rates, low commodity costs, modest secular sales growth assumptions and balanced rate regulation," Fitch Ratings analyst and Senior Director Philip Smyth said Nov. 10 at the 2020 Virtual Edison Electric Institute Financial Conference. "Impacts from COVID-19 have been better than expected year-to-date and should prove manageable from a credit perspective in Fitch's view."

Fitch expects Henry Hub natural gas prices to hover around $2.45/MMBtu in 2021 with interest rates at about 1.2%.

The rating agency noted that utility regulators, by and large, have been supportive throughout the health crisis as companies implemented moratoriums on utility service disconnections and at some point will seek recovery of related costs.

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Fitch noted the sector does face "event risk" stemming from wildfires in California, "the intensity and frequency of weather events" and governance aspects tied to political lobbying activities.

FirstEnergy Corp.'s board of directors terminated former CEO Charles Jones Jr. and two senior vice presidents following an internal review of the company's role in an alleged bribery scheme behind the passage of Ohio's nuclear subsidy law.

"FirstEnergy is in a state of flux, obviously. The terminations of the CEO and two very senior officers was distressing. It opens the company to a fair bit of uncertainty," Smyth said. "The key question becomes is this just a problem with internal compliance and corporate governance or is there a larger problem beyond this?"

FirstEnergy also recently parted ways with its chief legal and ethics officers.

"If it turns out that the board is cleaning house and trying really hard to get its house in order, that actually could be a positive development," Smyth said. "I do think that you're going to see more headlines and more announcements as we go forward. ... The real concern for us in the negative outlook is what if this spills over to some kind of criminal activity or something of that ilk. There are no indications of that but that would be a chief concern."

M&A

Fitch also addressed an apparent uptick in transaction activity in 2020 and how that impacts utility credit.

"There's definitely a big increase in deal activity. We seem to be getting an announcement every so often," Fitch Ratings analyst and Managing Director Shalini Mahajan said, pointing to Dominion Energy Inc., DTE Energy Co. and Exelon Corp. as companies that have sold assets and are either evaluating or planning "spin-off transactions."

Avangrid Inc. in late October announced its plan to acquire PNM Resources Inc. in a $4.32 billion cash deal. Reports also have surfaced in the past few months about NextEra Energy Inc.'s interest in potential tie-ups with Duke Energy Corp. and Evergy Inc.

"So, I think the common theme that we do see across all these transactions is the pivot to regulated businesses," Mahajan said. "Clearly, the utility holding companies and the sector in itself actually is at a cusp of a secular trend of electrification of the U.S. economy."

The analyst said the transaction activity comes amid a likely increase in regulated rate base growth opportunities.

"We do think [the transactions] are positive for credit," Mahajan said. "We like the regulated businesses. In general, the regulatory environment has been very supportive of rate base growth."

The utilities' planned use of proceeds has been positive for credit as well, with companies looking to pay off holding company debt and reinvest in their utility businesses, according to Fitch.

The move comes after a largely debt-funded wave of transactions in 2016.

"As long as these are more equity supportive, I think that would be positive for credit," Mahajan said. "We've definitely seen the sector overextend themselves on debt and leverage last time around. There's been a long period of correction."

Removing risk

CenterPoint Energy Inc., meanwhile, is looking to offload one or two of its regulated gas utilities to fund a $3 billion increase to its 2021-2025 capital spending plan.

"I think there is value to diversification. Certainly, we view diversification as a positive thing," Fitch analyst and Director Julie Jiang said. "But in the meantime, CenterPoint operates LDCs in eight states. So, I think they do have some room for divestiture. We don't know which ones will be sold at this time."

Fitch views the planned sale as "largely neutral to credit" in the short term and likely credit positive in the long run.

"So, what's going to be life-changing for CenterPoint is still going to be [Enable Midstream Partners]," Jiang said. "The options are still the same. With [OGE Energy Corp.] on board, I think the sale becomes more feasible. From a credit perspective, of course, we would prefer a cash sale to remove the entire risk."