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Investment is full of surprises. I was stunned to discover the identity of the two best FTSE 100 stock during the last month. Both had slipped off my investing radar, but they destroyed the market, rising about 15% each.
Instead of a couple of fast-growing stocks, it’s a couple of out-of-favor water companies, Severn Trento (LSE: SVT) and United Public Services Group (LSE: UU). I did not see him coming.
Well I never
Utility stocks are supposed to be solid defensive buy-and-hold trades, and these two have lived up to that reputation. Severn Trent is up 8.04% over the last year and 41.76% in five years. United Utilities is up 15.18% and 47.23% in the same time frames.
Both have easily outperformed the FTSE 100 as a whole. This represents a modest increase of 4.78% and 5.12% in one and five years. I wish I had bought them many years ago.
What these figures don’t show is that both suffered a decline in early fall, when markets decided that interest rates would stay high for longer. That pushed up bond yields and hit FTSE 100 dividend stocks as investors realized they could earn high rates of income without the added risk of stocks.
If I had known Severn Trent and United Utilities were going to skyrocket over the last month, I would have bought them beforehand. But would he buy them today?
These are clearly premium defensive stocks, but they come at a premium price. Severn Trent trades at 46.43 times earnings. While it yields a solid 4%, a couple of dozen FTSE 100 shares pay more. United Utilities yields 4.19% and trades at around 40 times earnings, which, again, doesn’t exactly get my juices flowing.
Both stocks got a boost on Oct. 16 when broker Jefferies upgraded the water sector, saying its constituent companies “present an unprecedented opportunity for multi-year growth”.
Good income but not great.
Severn Trent’s balance sheet has been boosted by a £1bn capital raise and the board looks set to maintain its current dividend policy, as does United Utilities (and it doesn’t need to raise its capital either).
Water companies need to invest heavily to reduce storm spills, pollution and water leaks, and improve river conditions. In addition, they also have to implement expensive affordability plans to ensure that the poorest households continue to get water.
There is also the vague threat of nationalisation, although I don’t see Keir Starmer’s Labor Party spending much time on that.
However, as monopolistic providers of essential water and sewer services operating under a transparent and well-established regulatory framework, Severn Trent and United Utilities should generate relatively stable and predictable cash flows to keep those dividends flowing.
If interest rates have peaked and begin to fall next year, their stock prices could also be boosted by falling bond yields. My problem is that I don’t like to buy stocks after a good run, in case I arrive at the party just when everyone is going home.
I would happily hold Severn Trent and United Utilities, but today I prefer to buy a couple of high-performing companies. The FTSE 100 is full of them (and many are much cheaper too).
