The Water Crisis: The Myths and Facts Investors Should Know - Barron's

byJohnny Syntax -August 27, 2022

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The global water business amounts to about $655 billion a year.
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Figuring out how to invest in the water business isn’t always easy for investors. That is, in part, because understanding the water industry’s fundamentals can be difficult. Before investors can deploy cash, they need to know what’s what in the sector.

RBC analyst Deane Dray has been following the water industry for decades, and tracks 17 water subsectors that range from water utility to water meters. Dray—who is sometimes referred to as “Dr. Water”—has impressive water credentials as well as a framework for water investing.

In the 1990s, “I was a relatively young, new analyst …there was this trend in M&A that we were calling the ‘holy trinity,’” explains Dray. Back then, he says, industrial companies wanted to be in three businesses: medical products, security, and water. Half the companies he followed were buying into water, but “there was nothing written on [water], no water primer.” So he wrote one himself in the 1990s, in the form of a Wall Street research report. Now he regularly speaks at water conferences, including ones hosted by the U.N.

Dray sizes the global water business at $655 billion a year. That’s big, but not so impressive when the figure is divided among the subsectors. And investors should remember that smartphone sales total roughly $1 trillion a year, in comparison.

Dray has a smartphone analogy for potential water investors. “Around 40% of the water in the U.S. piped from a water utility is lost,” says Dray, referring to water that leaks from pipelines. “If I told you that 40% of the iPhones were falling off a truck, [people] would call out the National Guard.”

Dray tells his clients to focus on technology leaders—such as Xylem (XLY), which can diagnose such leaks remotely—and warns against investing in commodity water products such as generic pipes, pumps, and valves.

Xylem stock has returned almost 16% a year on average for the past 10 years, while the S&P 500 has returned a little less than 14% a year on average.

Along with his framework, he also has water myths that he likes to dispel. Here are three of them.

Myth: Water is the Next Oil

The oil business, for starters, is worth multiples of the water business. Water investing won’t catch up in this lifetime. Water and oil don’t mix in other ways. For instance, there are many substitutes for oil: Natural gas, wind, solar, nuclear power, etc. But there is absolutely no substitute for water.

Myth: Water Falls From the Sky and Should be Free

“Water is systemically underpriced in most developed markets,” says Dray. “The average U.S. water bill is less than an average cellphone bill, and priced roughly four times lower than water in Denmark.”

Dray isn’t arguing for higher water costs, but he does point out that people don’t pay as much attention to conservation when it doesn’t cost anything. (Note: Don’t run the water while you brush your teeth.)

Myth: The World Is Running Out of Water

Dray points out that the Earth has about as much water as it did 2 billion years ago. Fresh water supplies can be depleted, but it is always a regional problem. In a pinch, people can remove the salt from saltwater—for a price.

An Important Technology

The nexus of droughts, waste, regionality and cost might just be desalinization—the process of taking the salt out of saltwater. (Roughly 97% of the world on the Earth is saltwater.)

Desalinated water costs, roughly, $2,000 per acre-foot to produce at a water plant. Knowing how much desalinated water costs is a good way to understand the price tag of fixing regional shortages.

That number doesn’t include distribution and utility charges. Desalinated water costs roughly 20 or 40 times what wholesale water costs for U.S. residential customers.

An acre-foot is a unit of volume, meaning one foot of water on 1 acre of land. It works out to about 326,000 gallons. It also works out to about 436 CCF, or hundred cubic feet. CCF is a unit that might be on your water bill. An average U.S. household might us about 160 CCF a year. Call it one-third of an acre-foot.

Units help investors compare, too. An acre-foot of gasoline costs more than $1 million these days, or 500 times more than desalinated water. That’s essentially why water is regional.

One final risk Dray cites is puns. The industry is “awash” in water puns, he adds. “You have to be careful because you will drown.”

Write to Al Root at allen.root@dowjones.com