Why Diageo plc Should Lag The FTSE 100 This Year

DiageoThere are some stocks that don’t really attract a lot of attention, but just keep on rewarding investors handsomely year after year.

Drinks giant Diageo (LSE: DGE) (NYSE: DEO.US) is one of them, with its share price up 150% over the past ten years to 1,761p compared to a mere 40% for the FTSE 100. There are dividends, too, which over the longer term are pretty close to the index average.

The maker of Gordon’s, Hennessey, Johnnie Walker, Smirnoff, Captain Morgan, and many other well-known brands is considered relatively safe, and over the recessionary years the Diageo share price did not fall as far as the index and it recovered more quickly.

But over the past year, the price has been falling back — over 12 months it’s down 8%, and it’s down 13% since the end of December 2013. By comparison, the FTSE has lost 4% so far in 2014.

Why the fall?

Earnings fell a little last year, but there’s a small rebound forecast for the year to June 2015 — but fundamentally, Diageo looks to be doing fine. In the year just ended, the company was seeing rises in consumption of higher-priced products, with reserve brand sales up 14%. That ties in with the end of recession and a bit of consumer confidence returning, although the trading environment was still said to be tough.

But it does suggest one reason for a drop in the share price, and that’s that people aren’t feeling the need to keep so much of their money in defensive stocks any more. Money is heading back to some of the sectors that were hit hardest by the crash — some are even seeing banks as respectable again and wanting to risk some of their money on them.

There’s also been a move towards smaller cap stocks, with the FTSE 100 lagging behind the lower indices. In fact, over the past two years the FTSE mid-250 (which covers the next 250 smaller companies below the top 100) has gained 34% while the FTSE 100 has only managed 12%.

Nothing to worry about

In short then, there seems to be nothing to worry about. Diageo is still the same solid company it always has been, and we’re most likely just seeing the inevitable correction at the end of a safety-inspired bull run.

Diageo shares are back down to a forward P/E of 17.5 with a 3.2% dividend yield expected, and though that’s a slightly higher valuation than the FTSE long-term average P/E of 14, good companies do attract premiums.

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Alan Oscroft has no position in any shares mentioned. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.