The global economic outlook has deteriorated since the start of the year. Indeed, factors such as high inflation and rising interest rates recently prompted the IMF to slash its growth forecast.
As a result, defensive shares such as United Utilities (LON: UU) and Vodafone (LON: VOD) could become increasingly popular. They offer a relatively stable outlook that may appeal to investors whose expectations gradually evolve in response to a changing economic outlook.
In addition, their attractive dividend prospects could prove popular in an era where capital growth may be scarcer than it has been over recent years.
Water services company United Utilities released full-year results at the end of May that showed its costs are rising due to high inflation. While this could squeeze profitability in the short run, its revenue is linked to the rate of inflation. As a result, and with the firm seeking to mitigate higher costs through generating efficiencies, it is relatively well placed to overcome a period of rapid price rises.
Furthermore, the firm’s business model is less positively correlated to the economy’s performance than many of its FTSE 100 index peers. An economic downturn could prompt a rise in bad debts, as consumers struggle to pay bills, but this is unlikely to affect the firm or sector to the same extent as other industries. This relative consistency could hold significant appeal if, as is widely expected, the economy’s growth rate slows in response to an increasingly hawkish monetary policy.
In terms of valuation, United Utilities currently has a dividend yield of 4.2%. This is around 0.8 percentage points greater than the FTSE 100 index’s dividend yield and suggests that it offers good value for money. And, with a dividend policy which aims to match inflation over the current regulatory period that runs until 2025, the firm’s income investing prospects appear to relatively attractive.
Vodafone’s share price has outperformed the FTSE 100 since the start of the year. It has gained 9%, versus 1% for the index, but still yields a relatively high 6.2%. This suggests that the company’s market value accounts for potential risks that could be ahead. It also factors in what could prove to be a modest rise in dividends during a period of high inflation.
Certainly, the telecoms company can realistically be described as a ‘quasi-utility’ because its financial performance is less cyclical than that of many firms. However, its financial prospects could be negatively impacted to at least some extent by weaker consumer confidence that has been prompted by a cost of living crisis across its key markets.
Still, Vodafone’s latest results showed that it is making progress in implementing its strategy. It has further simplified its operating model, while seeking to improve returns in mature markets such as Germany.
With its bottom line expected to grow at a double-digit pace over the next two years, it offers superior growth potential compared to many of its large-cap index peers. When combined with its relatively resilient revenue profile, it could become increasingly valued by investors over the medium term.