With many UK stocks soaring, the FTSE 100 is only inches away from securing a new all-time high. On Wednesday (21 May), it ticked very close to 8,800 points — less than 1% away from its high of 8,908 secured on 3 March.
Those leading the charge are St James’s Place, Rolls-Royce and International Consolidated Airlines — each up between 90% and 131% in the past year.
An investment of £10,000 into these three shares a year ago would have more than doubled to £20,484 today! Needless to say, not many portfolios deliver over 100% growth in a year.
The folly of past performance
As the saying goes, past performance is no indication of future results. Looking back only serves to remind us of lost opportunities. What I’m more interested in is where the market’s heading. One way to gauge a growth stock with more gas in the tank is the price-to-earnings growth ratio (PEG).
When I filter for stocks with a PEG ratio below 0.5, an entirely new set of options appear. They are NatWest Group, Standard Chartered and Babcock International (LSE: BAB). Even with prices up between 51% and 68% in the past year, their strong earnings growth has kept their PEG ratios ultra-low. This suggests their share prices have some catching up to do.
It’s not particularly surprising to see two banks in there as they tend to have low price-to-earnings (P/E) ratios. But the inclusion of Babcock interested me — not least because I sold my shares in the defence company last year.
Should I reconsider my decision now? I had to find out.
The budding defence contractor
Babcock International is a British aerospace, defence and nuclear engineering services company. Specialising in managing complex assets and infrastructure, it primarily serves public sector clients, notably the UK’s Ministry of Defence and Network Rail. It operates globally across four sectors, including defence, nuclear, marine and land, with subsidiaries in Europe, Africa, the Americas and Australasia.
But defence is a risky industry, and Babcock’s profits are at the whim of government contracts, strict regulations and unpredictable geopolitics. Budget cuts or diplomatic changes can impact performance, leading to volatile price movements. For now, its balance sheet remains stable — but its £1bn debt load could quickly begin to weigh heavily on the books.
Financial position
Compared to rival BAE Systems‘ £55.47bn market-cap, Babcock’s relatively small, at only £4.5bn. This could help its growth prospects as it takes less buying to move the price. But I’m concerned about the company’s price-to-book (P/B) ratio, which is unusually high at 8.59. This suggests the current price may be overvalued compared to the value of the company’s total assets less liabilities. And at 22.6, its P/E ratio’s also risen above the market average.
To get a real handle on what’s happening, I need to consider its return on equity (ROE). Overvalued stocks typically have a low ROE, but at 44%, that isn’t the case for Babcock.
Overall, it looks to be in considerably good shape, posting a profit of £165.7m in 2024 — more than double the previous year. Unfortunately, I missed the best gains, but still think it’s a stock worth considering in 2025.
