Reaves Utility Income Fund (UTG) is our recommended investment for exposure to the utility company sector, says Tim Plaehn, editor of The Dividend Hunter.

I added the fund to the recommendations list in November 2015. This closed-end fund has been a steady income producer. The UTG dividend increased four times since I added it. In a volatile market, UTG is an investment that provides stability, monthly dividends, and an attractive yield.

Investors have long viewed utility companies as safe-haven dividend stocks. These highly regulated companies provide electric power, natural gas, and water to homes and commercial customers. The regulatory agencies approve the rates a utility charges its customers.

Rates are set so that the utility can cover the infrastructure spending to maintain and upgrade its assets and then earn a fixed rate of return above the necessary capital spending. The locked-in regulated profit margins give a high level of cash flow predictability. As a result, utility stocks are favored as steady and moderate dividend growth payers.

The Utilities Select Sector SPDR ETF (XLU) yields about 3.0%. But the Reaves Utility Income Fund gives utility sector exposure and a current 6.7% yield.

The S&P utility sector makes up just over 3% of the S&P 500 universe. There are about 80 listed U.S.-based utility companies. The utility sector is highly regulated by both the states and the federal government. Thus, the industry is not glamorous, with few examples of outperformance or instances of crashing and burning.

Reaves Asset Management was formed in 1961 and has about $3.5 billion of assets under management. The company uses a bottom-up investment approach built on long-term and ongoing relationships with utility management teams and regulators.

With its sole focus on the utility sector, Reaves has a profound understanding of the operations and financial results of the companies in the group. I stay in touch with the portfolio managers, and we have phone conversations several times a year.

As of the end of June 2021, UTG held positions in 42 different stocks. About 65% of the portfolio is traditional electricity, gas, water utilities, and telecom stocks. The fund also owns media companies like Time Warner cable and energy and utility infrastructure companies as smaller portfolio percentages.

As is typical for a closed-end fund, UTG uses moderate leverage to increase its dividend cash flow. Currently, leverage is at 17%. In dollar terms, the fund has an asset capitalization of $1.94 billion, and the leverage allows it to own $2.34 billion of assets.

Some closed-end funds trade at significant discounts or premiums to their net asset value (NAV), the total fund assets divided by the number of shares. Over the last 52 weeks, the average premium for UGT was 1.52%, and the current (as of 09/22/21) premium is 1.68%. The premium is not onerous, but if you see UTG trading at a discount, take it as a sign to add some shares.

UTG launched in February 2004, and the fund has paid a dividend every month since — yes, this is a monthly dividend investment. The dividend has never been reduced, and has in fact been increased 13 times in the last 16 years, with the most recent increase, of 5.56%, in June 2021. Since UTG joined the Dividend Hunter portfolio, the dividend rate has grown by 25.6%.

The UTG dividends have always been 100% dividend or realized gains income without any return-of-capital (ROC). Paying ROC in dividends is a tactic some closed-end funds use to support dividends that really have not been earned by the portfolio.

The occasional, end-of-year special dividend payments (six in the fund's history) show that the portfolio managers have been very successful with their efforts to invest in the utility sector profitably. The bottom line with UTG is that you get a conservatively and expertly managed utility stock-focused fund.

Recommendation: UTG is a conservative addition to any income portfolio. Currently, the yield is almost 7%, with low to moderate dividend growth potential and monthly dividends. That is an attractive combo for a typically low-volatility fund investment. (Disclosure: Editor Tim Plaehn holds a long position in UTG).

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