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Why the AGL Energy Ltd share price surged higher today

AGL Energy Ltd (ASX: AGL) is powering up today with its share price surging 2.6% to a six-month high of $26.11 in late morning trade after touching an intra-day peak of $26.52 after Goldman Sachs upgraded the stock to “buy”.

This makes the power utility one of the best performing stocks on the S&P/ASX 200 (Index:^AXJO) (ASX:XJO), which has only managed to inch up 0.1%.

The stock has been on my watchlist even before today’s broker upgrade. I was hoping for a pullback to under $25 before buying into it, but I suspect I will have to bite the bullet and pick it up at a higher price sometime next week.

The stock had been under a bit of pressure last month on concerns about government action to curb fast rising utility bills. It’s an election winner and politicians need all the friends they can get right now.

This prompted the Victorian government to announce rebates for customers of tier-1 energy retailers, which includes AGL Energy and Origin Energy Ltd (ASX: ORG), following the “Thwaites Review”.

The rebates, which start on 1st January 2018 when higher tariffs are expected to hit households, will dent the bottom line of AGL in the short-term, but that was an outcome to be celebrated by investors as the alternative was a lot worse.

The Thwaites Review recommended replacing standing offers with a regulated service offering instead, which would mark the start of market re-regulation.

The decision by the Victorian government to force retailers to give rebates to some customers mean that the risk of re-regulation is a lot smaller. AGL has dodged a bullet!

Citigroup estimated that Victoria’s decision will subtract 1%-3% off AGL’s FY19 earnings given that around 10% of its customer base is located in that state.

This doesn’t end the political risks to the sector, but it’s enough to put the stock on an upward trajectory in the near-term.

What’s more, AGL is well run and its earnings are relatively predictable when compared to the uncertain domestic economic outlook.

It’s worth paying for quality and certainty, particularly given its dividend yield of around 5%, and around two-thirds of analysts covering the stock thinks it’s a buy.

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Motley Fool contributor Brendon Lau has no position in any of the stocks mentioned. The Motley Fool Australia has no position in any of the stocks mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

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