A 5.5% yield but down 15%! National Grid shares look like a bargain to me

Seemingly undervalued National Grid shares offer a 5.5% yield that may well go higher and the firm can make money in good economic times or bad.

| More on:

The content of this article was relevant at the time of publishing. Circumstances change continuously and caution should therefore be exercised when relying upon any content contained within this article.

Aerial view of York downtown at night

Image source: Getty Images

When investing, your capital is at risk. The value of your investments can go down as well as up and you may get back less than you put in.

Read More

The content of this article is provided for information purposes only and is not intended to be, nor does it constitute, any form of personal advice. Investments in a currency other than sterling are exposed to currency exchange risk. Currency exchange rates are constantly changing, which may affect the value of the investment in sterling terms. You could lose money in sterling even if the stock price rises in the currency of origin. Stocks listed on overseas exchanges may be subject to additional dealing and exchange rate charges, and may have other tax implications, and may not provide the same, or any, regulatory protection as in the UK.

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More.

National Grid (LSE: NG) shares have lost around 15% of their value since their 15 May 12-month high of £11.80.

For a company that owns and operates the electricity and gas transmission system in England and Wales, this surprises me.

Considering its underlying business, its share price, and its yield, I think it looks like a bargain now.

Underlying business strength

The company’s electricity and gas transmission monopoly means that it should benefit when the UK’s economy is strong.

But it is likely to continue making money even when times are tough economically. After all, people will always want to turn the lights on, heat their homes, and cook. Businesses in England and Wales will continue to need power too.

Its H1 2023/24 results covered the period when the UK’s cost-of-living crisis was near its peak. Although down 15% on the same period the previous year, the company still made an underlying profit of nearly £1.8bn.

As part of these results released on 9 November 2023, the firm maintained its five-year financial targets for 2020/21 to 2025/26.

These include an assets’ compound annual growth rate (CAGR) of 8%-10%, and an earnings per share (EPS) CAGR of 6%-8%.

Undervalued compared to its peers

The key stock risk is large debt accruing from regulator-directed investment in the England and Wales power grids.

At the time of its H1 results, it had £44.3bn of net debt. Positively, this was down from £50.5bn in the same period a year before.

However, this needs to be watched, in my view, as it could increase as the transition to greener energy accelerates.

Even with this factored into the share price, the stock looks undervalued to me.

As it stands, National Grid trades at a price-to-earnings (P/E) ratio of 14.5. Centrica is at 1.7, Sempra at 16, Telecom Plus at 16.5, and SSE at 29.1. This gives a peer group average of 15.8.

discounted cash flow analysis shows its shares to be around 27% undervalued at their present price of £10.00. Therefore, a fair value would be about £13.70, although they may never reach that price, of course.

Increased dividends

In 2023, the company’s EPS jumped 22% to 74.2p. This allowed it to raise the dividend by 8.8% to 55.44p.

The H1 results also showed the latest interim dividend being raised by 8.8% — to 19.4p.

If this was applied to last year’s total payout then the stock would yield over 6%, based on the current share price.

Even without this, the yield of 5.5% compares very favourably to the FTSE 100 average of 3.9%.

Since I turned 50, my investment portfolio has mainly comprised shares yielding at least 7%. The few growth stocks I keep have generated double-digit percentage returns annually over the past few years.

National Grid does not fit into either category, but I think adding a utility to the portfolio might make sense.

A well-run utility offers returns in economic good times and bad. And National Grid also has the advantages of an undervalued share price in my view, plus a good yield.

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be assessed. Consider taking independent financial advice.

Simon Watkins has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

More on Investing Articles

Investing Articles

1 FTSE dividend stock I’d put 100% of my money into for passive income!

If I could invest in just one stock to generate a regular passive income stream, I'd choose this FTSE 100…

Read more »

Young mixed-race woman jumping for joy in a park with confetti falling around her
Investing Articles

Forecasts are down, but I see a bright future for FTSE 100 dividend stocks

Cash forecasts for UK dividend stocks are falling... time to panic! Actually, no. I reckon the future has never looked…

Read more »

Young female analyst working at her desk in the office
Investing Articles

Down 13% in April, AIM stock YouGov now looks like a top-notch bargain

YouGov is an AIM stock that has fallen into potential bargain territory. Its vast quantity of data sets it up…

Read more »

Young Asian man drinking coffee at home and looking at his phone
Investing Articles

Beating the S&P 500? I’d buy this FTSE 250 stock for my Stocks and Shares ISA

Beating the S&P 500's tricky, but Paul Summers is optimistic on this FTSE 250 stock's ability to deliver based on…

Read more »

Passive and Active: text from letters of the wooden alphabet on a green chalk board
Investing Articles

2 spectacular passive income stocks I’d feel confident going all in on

While it's true that diversification is key when it comes to safe and reliable investing, these two passive income stocks…

Read more »

Investing Articles

The easyJet share price is taking off. I think it could soar!

The easyJet share price is having a very good day. Paul Summers takes a look at the latest trading update…

Read more »

Young mixed-race woman jumping for joy in a park with confetti falling around her
Investing Articles

9 stocks that Fools have been buying!

Our Foolish freelancers are putting their money where their mouths are and buying these stocks in recent weeks.

Read more »

Three signposts pointing in different directions, with 'Buy' 'Sell' and 'Hold' on
Investing Articles

As the Rentokil share price dips on Q1 news, I ask if it’s time to buy

The Rentokil Initial share price has disappointed investors in the past 12 months. Could this be the year we get…

Read more »