BofA Securities issued a research report noting that higher energy prices, the El Niño phenomenon, and direct power supply arrangements have driven the performance of the independent power producer (IPP) sector, with related H-shares rising an average of about 15% over the past month, led by thermal power stocks.
However, the bank believes the impact of rising coal costs will outweigh potential electricity tariff increases, leading to a decline in thermal power profits, while current valuations already reflect expectations for flat or modest tariff hikes.
The scale of direct green power supply remains too small, and its economic benefits are uncertain, making it insufficient to support earnings.
Consequently, the bank maintains its "underperform" rating on HUANENG POWER (HKG: 00902), HUADIAN POWER (HKG: 01071), and CHINA LONGYUAN (HKG: 00916).
The bank expresses greater confidence in the profit recovery of nuclear power.
Based on policy support for tariffs, controllable fuel costs, and attractive valuations, it has upgraded the investment rating for both the A-shares and H-shares of CGN POWER (HKG: 01816) from "underperform" to "buy" in one move.
The H-share target price has been raised from HK$3.0 to HK$3.9, and the A-share target price (SHE: 003816) has been increased from RMB 3.7 to RMB 5.0.
In an earlier separate report, the bank mentioned that the National Meteorological Administration indicated the El Niño phenomenon could lead to higher-than-usual temperatures nationwide, although the current June-July weather forecast remains below average levels.
Rainfall in June is predicted to be lower than the same period last year.
A hot and dry summer could support electricity demand, particularly for thermal power.
Since April, higher energy prices and weather factors have pushed up spot electricity prices, mainly in southern China.
However, these price increases are moderating, and national trends remain divergent.
Following the Shanxi coal mine accident, the period of sustained high coal prices may be prolonged, potentially pushing up monthly tariffs and possible 2027 annual contract prices.
Nevertheless, the bank anticipates thermal power profits will decline because spot plus contract prices are still falling, coupled with rising coal prices and below-average coal inventories.
The bank views the current price-to-book ratio of 0.9x to 1.4x for thermal IPPs as overly optimistic in pricing return on equity, implying flat or slightly rising tariffs this year.
BofA Securities stated it is more confident in nuclear power's profit recovery.
Recent policies have effectively set a floor for nuclear power tariffs in two provinces for 2026, with expansion to other provinces likely next year.
CGN POWER management is relatively optimistic about fuel costs, indicating a projected increase of 10% to 15% over the next five years.
The bank's 2027 net profit forecast for the company is 8% above market consensus, with upside risk from annual contracts.
Trading at around 12 times the expected 2027 price-to-earnings ratio, the risk-reward appears attractive to the bank.
Compared to other H-share IPPs, its P/E premium is roughly in line with the average of 46%, down from a previous premium exceeding 100%.
The bank also sees upside risk in the approval speed for nuclear power projects.
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