Utilities at a Crossroads: The AI-Driven Growth Cycle Meets Policy and Regulatory Headwinds

The utilities sector is entering a multi-decade growth cycle, but its ability to fully monetize this opportunity now faces a critical test. The core driver is a fundamental shift in demand. After decades of stagnation, US electricity consumption is accelerating, with projections for a more than 50% increase from 2020 levels to 2050. This isn't just a modest uptick; it's a structural re-rating of the grid's purpose, powered by two converging megatrends: the electrification of the economy and the explosive growth of artificial intelligence.

AI is the most potent near-term catalyst. Data centers, the physical backbone of AI, are rapidly becoming the single largest new source of power demand. Their share of total electricity consumption could nearly triple by 2028, rising from 4.4% in 2023 to an estimated 6.7%–12%. This isn't a marginal trend. It is forcing utilities to plan massive grid upgrades and generation capacity to meet a surge that is already underway. The scale of the required investment is staggering. The PJM regional grid, which serves 67 million customers, forecasts that its summer peak usage will climb by about 70 GW over the next 15 years. To put that in perspective, that's a peak increase of more than 40% from the record high set in 2006. A significant portion of that load growth is directly tied to data centers, with projections for electricity demand from data center growth to grow up to ~30 GW between 2025 and 2030.

The mechanism is clear. AI-driven data center expansion is creating an urgent need for new transmission and generation resources. This is already translating into action, with utilities securing multi-year deals with hyperscalers and initiating billions in planned investments. The result has been a powerful earnings and valuation re-rating, with the sector posting year-to-date gains of 20.25% in 2025 and delivering third-highest year-over-year earnings growth among all eleven sectors. The growth engine is undeniable. Yet, the path from this structural demand to sustained shareholder returns is now constrained by a new layer of friction: policy and regulatory uncertainty. The very growth that utilities are planning for may be subject to the political and bureaucratic processes that govern how and when they can build, price, and recover these essential investments.

Financial Impact and Valuation: Growth vs. Cost

The powerful growth narrative is translating into tangible financial results, but the path to earnings is a classic utility lag. The sector's performance in 2025 was stellar, with the Morningstar US Utilities Index up 22% for the year. This surge was driven by robust earnings growth, as utilities posted third-highest year-over-year earnings growth among all eleven sectors at 23.1% in Q3 2025. The mechanism is straightforward: AI-driven data center demand is accelerating capital deployment, and that investment is beginning to flow through to the top and bottom lines.

Yet, the forward view suggests a moderation. Projected earnings growth for 2026 has cooled to around 9.1% year-over-year. This deceleration is a natural consequence of the sector's capital-intensive nature. Utilities are spending billions on new transmission and generation to meet future demand, but the revenue from those projects typically realizes over a multi-year period. The initial euphoria of the AI story may be pricing in peak demand expectations, while the financial reality reflects the time it takes to build and recover those costs.

This creates a valuation setup that is both rewarding and vulnerable. Utilities are trading at a premium with low dividend yields that still attract investors seeking income. However, this premium makes the sector sensitive to two key variables. First, its low yields mean it offers little cushion against rising interest rates, which can pressure all fixed-income-like assets. Second, and more critically, the sector's ability to pass on costs to consumers is subject to regulatory decisions on rate cases. As rising energy costs may lead to regulatory limits on rate hikes, the path to sustained earnings growth faces a direct policy headwind.

The bottom line is a sector in transition. The structural demand from AI and electrification is undeniable and has driven a powerful re-rating of the sector's earnings potential. But the financial impact is lagging the investment cycle, and the resulting premium valuation leaves utilities exposed to both monetary policy shifts and the political friction of regulatory approval. The growth story is real, but its financial payoff is a multi-year journey.

The Policy and Regulatory Reckoning

The structural growth story for utilities now collides with a new layer of friction: policy uncertainty and regulatory friction. While demand accelerates, the rules of the game are changing, creating a direct headwind to earnings growth. The most immediate shock came from the One Big Beautiful Bill Act (OBBBA), which passed in 2025 and axed most federal subsidies for clean energy and electric vehicles. This legislative U-turn forces a strategic pivot for utilities and developers, removing a key financial incentive that had long supported project economics. The sector must now rely more heavily on market demand and state-level policies, a shift that introduces significant uncertainty and could slow the pace of renewable deployment.

At the same time, the very success of the growth narrative may trigger a regulatory backlash. As utilities invest billions to meet soaring demand, the resulting energy costs are rising. This dynamic creates a political and regulatory pressure point. Rising energy costs may lead to regulatory limits on rate hikes, directly capping the ability of utilities to pass through their investment costs to consumers. This is the core vulnerability: the sector's premium valuation and earnings growth are predicated on its ability to recover capital and earn a return. If regulators constrain that recovery, it squeezes profit margins and undermines the return on investment for shareholders.

The pace of project development has therefore become a critical competitive advantage. With subsidies gone and regulatory scrutiny increasing, the ability to move projects quickly through permitting and interconnection is paramount. The evidence shows this is already a major industry concern, with large interconnection queues for data centers ballooning in key markets. In response, some states are introducing stricter rules, and the Department of Energy is pushing for federal action to regulate these large loads. This creates a power struggle and adds another layer of time and cost. The mechanism is clear: policy uncertainty and regulatory friction are creating a new layer of risk that could cap the sector's earnings growth, even as demand accelerates. The utilities that succeed will be those that can navigate this complex new landscape, securing approvals faster and developing lower-cost alternatives to stay competitive.

Catalysts and Risks: What to Watch in 2026

The structural growth thesis for utilities now hinges on a handful of forward-looking variables. The path from soaring demand projections to sustained earnings growth will be validated or challenged by three critical catalysts and risks in 2026.

First, the pace of data center commissioning is the most direct gauge of demand realization. The evidence is clear: the PJM regional grid is at the epicenter of this shift. Its 2025 Long-Term Load Forecast set a staggering baseline, projecting a 70 GW increase in summer peak usage over the next 15 years. More specifically, the grid's evaluation of large load requests confirmed that electricity demand from data center growth alone is projected to climb up to ~30 GW between 2025 and 2030. The mechanism is straightforward. If these loads materialize on schedule, they will validate the need for the billions in transmission investments utilities are planning. Any significant delay or cancellation would undermine the core growth narrative. The sector's ability to secure these deals and get them built is now the primary competitive advantage.

Second, regulatory filings and rate case outcomes will be the primary test of whether utilities can pass on their rising costs. The sector's premium valuation assumes a reliable path to cost recovery. However, rising energy costs may lead to regulatory limits on rate hikes, creating a direct cap on profit margins. The coming year will see a wave of rate cases in major regions, where utilities must justify their capital investments and proposed price increases. The outcome of these proceedings will determine if the financial returns from the massive build-out can be captured by shareholders. A trend of constrained approvals would signal a fundamental shift in the regulatory environment, capping earnings growth even as demand accelerates.

Third, the Federal Reserve's interest rate path remains a key macro tailwind. Utilities are a capital-intensive sector, and their financing costs are sensitive to monetary policy. Further rate cuts could provide a meaningful boost to the sector's financial profile. As noted, more interest rate cuts could be catalysts for this ETF. Lower borrowing costs would ease the pressure on utilities' balance sheets, improving cash flow and potentially enhancing the returns on their long-term projects. Conversely, a prolonged period of high rates would amplify the cost of capital, making it harder to fund the grid upgrades needed to meet AI-driven demand.

The bottom line is that 2026 will be a decisive year of validation. The sector's ability to translate its structural growth into financial returns depends on the convergence of these three factors: the on-time commissioning of data center loads, favorable regulatory outcomes on cost recovery, and a supportive monetary policy backdrop. Watch these variables closely; they will determine whether the AI-driven growth cycle delivers for investors, or if policy and cost pressures ultimately cap the upside.