Valuations were high for consumer defensive stocks a few years back. But now they look fairer.
The defensives are known for their stable underlying businesses. They tend to be less affected by the ups and downs of the wider economy than companies in cyclical sectors.
Consistent cash flows in a business often support reliable dividends. But investor demand tends to vary. And that can lead to valuations cycling up and down as defensive stocks fall in and out of favour with changing conditions in the wider economy.
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On top of that, we’ve also endured a long bear market. And to misquote billionaire super-investor Warren Buffett, a falling tide tends to lower all boats. That includes the defensives.
Earnings growth likely ahead
Many attractive-looking defensive businesses are cheaper than they’ve been for some time. For example, Coca-Cola HBC (LSE: CCH) has seen its share price ease since May 2023. Yet City analysts predict earnings increases ahead.
The FTSE 100 business bottles and sells Coca-Cola beverages exclusively in 29 markets. And it also partners with other beverage businesses to sell their products.
The forward-looking dividend yield is in the ballpark of 4%. And with the share price near 2,080p, the anticipated earnings multiple for 2024 is around 12. To me, that valuation appears to be undemanding for such a historically steady operator.
The firm’s multi-year cash flow record looks strong. And since at least 2013, the directors have pushed the dividend a little higher every year. Even the pandemic didn’t stop the progression of the shareholder payment. And that outcome underlines the strength in the business.
However, one risk for investors now is that the share price looks like it’s continuing to trend lower. So maybe there’s a reason for the fall.
It’s possible that sales of Coca-Cola products could ease in the coming months and years, despite their mighty brand strength.
For example, on 10 November Diageo issued a profit warning because of lower consumption and consumer downtrading in the Latin America and Caribbean regions.
The company has some of the strongest premium alcoholic brands on the planet. So, investors can’t rely on brands alone to keep a business growing when economic times are tough for customers. All stocks and businesses carry risk as well as positive potential, even the defensives.
An optimistic outlook
However, in October 2023 with the third-quarter trading update, Coca-Cola HBC posted good trading figures and an optimistic outlook statement. And City analysts anticipate growth for earnings and the dividend of just under 10% in each case for 2024.
Chief executive Zoran Bogdanovic said the business is well placed to deliver the directors’ medium-term targets. So there doesn’t seem to be much sign of distress in the operation despite the ongoing macroeconomic challenges facing most companies.
The stock market’s apparent pessimism about Coca Cola HBC looks like a good trigger for diving in with deeper research now. Perhaps the stock has potential to become part of a diverse portfolio focused on the long term.
