Six recession-beating stocks that still look good

By Associate Editor David Stevenson Jun 04, 2009

David Stevenson

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Tesco store

Yesterday's headlines were just like old times – well, those from four months ago, at least.

Gloomy stories were all over the place. "European consumer spending and exports contracted the most in at least 14 years in the first quarter", says Bloomberg. The UK "needs an emergency budget" to stop a full-scale debt crisis, says the Policy Exchange think tank. Even the ever-optimistic Federal Reserve boss Ben Bernanke was warning that the US budget deficit "threatens financial stability".

And it seems that stocks are taking note. After their recent strong rally, it looks as if they've run well ahead of themselves. So maybe it's time to look at 'defensive' shares again – such as those we pointed out four months ago...

The world's still deep in recession

In the second week of February, we spotlighted in the magazine (Seven companies that will prosper in the recession - if you're not already a subscriber, claim your first three issues free here) several shares we reckoned would do well in tough economic times.

Since then the FTSE 100 index is up 5%. And the top performers have been all the riskiest stocks. Banks, general retailers, house builders – all the things hit hardest by the market's initial collapse have enjoyed big bounces.

But yesterday's headlines were a sobering reminder that despite what the stock market's cheerleaders may be claiming about 'the start of a new bull market', many underlying problems are still nowhere near resolved

The world's still in a deep recession, and governments are borrowing vast sums in the hope they can turn things round. "Bernanke is right to be worried" about America's debts, says Pimco's Mohamed El-Erian in the FT. "The markets have already fired a couple of clear warning shots", with both US bonds and the dollar being hit.

Why you should stick with defensive stocks

Meanwhile, "there's a lot of optimism around in Europe that's probably not justified", says Andy Lynch at Schroder Investment Management, who is "particularly wary of bank stocks and those most sensitive to the early stages of an economic pick up", says the Wall Street Journal. He's recommending "cheap quality" shares with more stable earnings and good balance sheets.

We agree – the truth is that no one really knows how this will all play out. But as Tim Price of The Price Report points out, that's why it's a good idea to stick with defensive stocks. If stock markets keep rallying, you get some of the upside. If they don't, you can at least be confident that the companies will survive, and hopefully get paid a decent dividend while you wait for better times.

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How are our 'recession-proof' shares doing?

So how are our 'recession-proof' shares doing? Well, on average they've undershot the overall market since we tipped them, as you'd expect, although a few have seen decent gains. But we'd stick with them – as we'd hoped, despite the recession, the news emerging from these stocks is generally getting better.

First there's Tesco (LSE: TSCO). It's done nothing share price-wise since February, but the cash keeps flowing in. The price to earnings ratio (p/e) for the current year is now as low as 11.3x, falling to just over 10x for the following year, while the forward dividend yield is now over 4%, according to analysts Tapan Jindal and Manoj Goel at ARC. They see Tesco as "both a growth and a value stock" with a £4 12-month price target - 11% above today's price, and a handy return in troubled times.

Fast food chain McDonalds (US: MCD) also goes from strength to strength. It's up 7% since we mentioned it, yet still looks cheap. On a p/e of 12x for 2009 and 11x next year, again with the forward yield topping 4%, the home of the Golden Arches still looks like a stock to hold.

So much for the bigger fish – what about the smaller fry? Doorstep lender Provident Financial (LSE: PFG) has dropped by 2% over the period despite making "a good start to 2009", says management. But that's cut the current year p/e to 10.7x and lifted the dividend yield to a whopping 8%. That makes the stock "a genuine defensive safe haven with robust credit quality, unique for a lender", says Noble Research. Again, one to hold.

Even further down the size chain come the pawnbrokers Albermarle & Bond (LSE: ABM) and H&T Group (LSE: HAT). Again, no great fireworks on the share price front, though the latter is up 17% since early February. But the news from the companies is excellent. Within the last three weeks, both firms have issued upbeat updates, with trading "significantly ahead" of expectations.

That's got analysts making double-digit upgrades to their profit estimates, putting Albermarle on a prospective p/e of 10.3x for the year to June 2010 and a yield of 4.4%, and H&T on just 8.1x current year earnings, yielding 3.3%. If you hold either stock, there seems no reason to sell – in fact, buying more might be a better plan.

And finally, what about a stock I'd have expected to flourish in the current environment – the insolvency practitioner Begbies Traynor (LSE: BEG)? As more firms go bust, a business like this should be cashing in. And on insolvencies it has been – 2009 first-quarter figures show the number of UK companies facing "critical problems" has soared 87% year-on-year to a new peak. But the corporate finance side has had a slight setback, hence the recent 13% slide in the share price. But with a prospective p/e of 11, this could mean now's a good time to get back in.

These stocks haven't been the flavour of the last four months. But profits are growing consistently and valuations are cheap. And as markets start to remember just how many unsolved problems there really are out there, those are the sorts of stocks you want to stick with.

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Published in Tips & advice | More articles by David Stevenson

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