Over the period from 1977 through 1983, the Salomon Brothers electric utility model identified undervalued stocks and permitted investors who relied on it to earn excess risk-adjusted returns. In the closing months of 1983, however, the model appeared to be misleading investors; a number of nuclear utility stocks it identified as undervalued, hence as candidates for investment, suffered large price drops. Since January 1984, the Salomon Brothers model has excluded utilities threatened with rate-base write-downs or other adverse regulatory actions.
An examination of the model’s performance from 1984 through 1988 indicates that it can still identify undervalued stocks, permitting investors to earn excess risk-adjusted returns. The excess returns, however, are only half of what they were in the 1977–83 period. They would have been better if the “troubled” utilities had not been excluded from the model.
