There has been mayhem in many sectors of the FTSE 100 since Friday’s EU referendum result, but the shares of Unilever (LSE: ULVR), Diageo (LSE: DGE) and British American Tobacco (LSE: BATS) have held up well.
What’s the big attraction of these three firms, and why buy them when there appear to be so many bombed-out bargains in other parts of the market?
Defensive
Unilever, Diageo and British American Tobacco (BAT) have several things in common.
Number one is that they’re all ‘defensive’ businesses. That’s to say, demand for their products tends to be relatively resilient through times of economic stress.
Strong consumer brands — and products that are bought over and over again, rather than ‘big-ticket’ items — produce earnings and cash flows that are less volatile than those of companies in many other sectors. And, while their shares do get dragged down when overall market sentiment is at a low ebb, they typically don’t fall as far as others.
For example, in the 2007/9 bear market, while the FTSE 100 dropped by 48% (with many companies plummeting much further), Diageo declined by 31%, Unilever by 21% and BAT by just 4%.
Diversification
In addition to their defensive qualities, Unilever, Diageo and BAT are among the most geographically diversified companies you’ll find on the market.
On any given day, two billion people in almost 200 countries will use one of Unilever’s 400+ brands. Diageo is the world’s leading premium drinks business, with its brands to be found in almost as many countries as Unilever’s. Likewise, BAT is the world’s most international tobacco company, selling over 600 billion cigarettes annually in over 200 countries.
This geographical diversification means that problems in any single economy have a relatively minor impact on the performance of the group as a whole. So, for example, a recession in the UK would have less effect on these multinational giants than on domestically-focused companies such as Lloyds.
Valuation
Naturally, these defensive, globally-diversified businesses tend to trade on premium ratings. Their shares are highly-prized by investors at the best of times, but are particularly attractive during times of uncertainty.
Brexit has sent shockwaves through the market, but, in truth, uncertainty has been rumbling just below the surface ever since the global financial crisis. There’s been only a fragile economic recovery, despite extraordinary stimulus measures, and the valuations of Unilever, Diageo and BAT have been pushed up over the period.
Unilever currently trades on a forward price-to-earnings (P/E) ratio of 22.6 with a 3% dividend yield, Diageo on a P/E of 21.8, also with a 3% yield, and BAT on a P/E of 19.2 with a 3.6% yield.
On the face of it, these ratings and yields might suggest that the shares are a long way from being the most attractive in the market. However, given the qualities of the businesses, the potential for the global economic outlook to deteriorate, or, at the least, the likelihood of a long period of uncertainty, I believe Unilever, Diageo and BAT will continue to see strong demand from investors. As such, it may not be too late to buy these stocks.
