The stock market has made a stunning recovery since the depths of the 2020 crash. Indeed, the FTSE 100 has risen by 36% since its lowest point in March last year.
However, not all stocks have made strong gains in the current bull market. National Grid (LON:NG) is a prime example, with its share price currently just 6% higher than it was in March 2020.
Defensive appeal of National Grid shares
A key reason for National Grid’s lack of capital growth could be its defensive status. The company’s shares outperformed the wider index during the 2020 bear market. Therefore, they had less ground to recover in the stock market’s subsequent rise.
This could make National grid shares attractive at the present time. Covid-19 cases may have subsided in the UK in recent months as the vaccine rollout continues. But the threat of further variants and the possibility of additional lockdown measures could mean that defensive shares become more popular in future than they have been in the recent past.
Moreover, National Grid’s valuation is far less excessive than those of many UK shares. The company trades on a forward price-earnings ratio of 15 using the current year’s forecast earnings per share figure. This could represent good value for money, since NG expects to deliver annualised underlying earnings growth of between 5% and 7% over the next five years.
Growth opportunities for National Grid
Central to National Grid’s growth strategy is the proposed acquisition of the UK’s largest electricity distribution network operator, Western Power Distribution (WPD), as well as the disposal of a majority stake in its UK gas transmission business. This will shift a large proportion of National Grid’s income from gas to electricity transmission, with NG anticipating 69% of revenue to be generated from electricity transmission by 2030 versus 58% today.
A move towards electricity transmission could offer superior growth opportunities for the firm. Demand for electricity in the UK is forecast to double by 2050, as regulatory changes mean that all new vehicles sold by 2030 will be electric or hybrid. In addition, the prospects for gas supply may decline as consumers and businesses are nudged towards cleaner options by onerous government emissions targets.
National Grid’s dividend could become increasingly appealing over the medium term, since interest rates are not due to rise until 2024 at the earliest. It currently yields 5.4%, which is among the highest yields in the FTSE 100. It expects to raise dividends per share by at least as much as inflation (CPIH) over the coming years. With an ultra-loose monetary policy likely to cause a rise in inflation, its dividend growth policy could become more appealing to income investors.
Of course, the company’s attraction to other investors may remain subdued in the short run. The UK is forecast to post 5%+ GDP growth in 2021 and in 2022. This may continue to push a large proportion of investors towards growth-oriented companies that can offer superior capital returns than defensive shares. Low demand for National Grid’s shares could leave capital returns somewhat lacking on a relative basis.
Meanwhile, Covid-19 negatively impacted National Grid’s underlying operating profit by £296m in the 2021 financial year. As such, National Grid is not immune from the threat of new variants that prompt additional lockdown measures, although cost reductions in excess of £100m achieved over the past two years helped to offset pandemic-induced costs.
Investment potential of National Grid shares
Overall, National Grid offers a relatively attractive income opportunity. Its high yield and dividend growth prospects could mean it is a natural choice for income investors. It also has long-term capital growth potential as a result of its revised strategy, while its defensive characteristics provide a degree of protection for when the current bull market ultimately comes to an end.
In the short run, though, further underperformance of the FTSE 100 would not be a great surprise as the economic recovery from Covid-19 takes hold.