During the course of 2014, defensive stocks enjoyed a relatively strong year compared to the FTSE 100. That’s at least partly because investor sentiment was rather weak, with the market viewing the near-term outlook as highly uncertain. And, although the FTSE 100 has made gains thus far in 2015, being up almost 3%, investor sentiment arguably remains somewhat lacking.
As such, defensive stocks, such as those in the utility sector, could continue to appeal to investors during the course of the year and, in doing so, may outperform the wider index.
Defensive Qualities
Clearly, utility stocks such as National Grid (LSE: NG) (NYSE: NGG.US), Pennon (LSE: PNN) and Centrica (LSE: CNA) (NASDAQOTH: CPYYY.US) have considerable defensive qualities. This is perhaps best evidenced via their betas, which provide an indication of how volatile their share prices are likely to be in the future, relative to the FTSE 100.
For example, National Grid has a beta of just 0.7 — this means that its share price should (in theory) move by just 0.7% for every 1% move in the wider index, thus providing investors with a less volatile experience. And, with Pennon and Centrica having betas of 0.6 and 0.9 respectively, they too should offer reduced volatility during the course of the year and, should the FTSE 100 fall, are likely to outperform it.
Reliable Revenue
While Centrica’s exploration arm (which makes up less than a third of revenue) is cyclical, the supply of domestic energy offers a considerable degree of reliability versus many other industries. Certainly, it is a political ‘hot potato’, but demand remains fairly resilient even after price rises, while any increased costs can normally be passed on to the end consumer. In the case of National Grid and Pennon, it’s a similar situation, and both of those companies lack the same degree of political risk that comes with investing in Centrica.
Income Prospects
This lack of political risk is evidenced by the current valuations of National Grid and Pennon versus Centrica. For example, while Centrica has a yield of 6.5%, National Grid and Pennon’s yields are 4.7% and 3.6% respectively. This indicates that, while National Grid and Pennon have considerable appeal as income plays, their valuations are not as attractive as that of Centrica. Even so, all three stocks are likely to be sought by income investors while interest rates remains at a low ebb. And, with such reliable revenue, dividends are likely to be consistent and grow by at least as much as inflation, which for many investors is a key requirement.
So, while the FTSE 100 does have a very bright long-term future, another year of lacklustre performance could mean that National Grid, Pennon and Centrica outperform it. All three stocks offer low volatility, reliable revenue, good value and a stable yield, which makes them excellent defensive prospects.