LONDON (ShareCast) - Nomura has downgraded its rating for United Utilities (UU), saying that the stock is now a fully valued take-out option.

UU's year-to-date performance has been strong, with the shares outperforming UK 10-year Gilts by 9% and the FTSE 100 by 5%. Nomura says that this was driven by media rumours that it is an M&A target.

Analyst Jonathan Constable said: "We estimate that the shares are pricing in an acquisition in the next six months with a probability of one-fifth for each of UU and SVT [Severn Trent] (equivalent to a 36% probability of at least one of the two companies being acquired)."

Meanwhile, the broker says that regulatory and RPI uncertainty create some headwinds for the industry as a whole.

"The ONS‘s consultation on the calculation of the RPI inflation index is expected to reduce the 'formula effect‘, which has kept RPI almost 1% above CPI recently. We estimate the negative impact on a typical water company‘s equity valuation could be around 2%."

Nomura concludes by saying that while M&A activity in the sector is plausible, "we think fair probability is in the price".

The broker has made the following ratings and target price changes across the sector:

United Utilities: downgraded from 'buy' to 'neutral', target cut from 715p to 660p.
Pennon: target cut from 755p to 730p, 'neutral' rating kept.
Severn Trent: target cut from 1,645p to 1,550p, 'neutral' rating kept.

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