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THE SUNDAY TELEGRAPH (UK): Breaking views: Equity investors must search for solid dividends in 2005:  A number of large companies fell out of favour with investors in 2004 as a result of management failures, including Marks & Spencer, Shell and Unilever, and now trade at discounts to their peers. ( 2 Jan 04


By Simon Nixon (Filed: 02/01/2005)


It wasn't easy making money in the UK stock market in 2004 - and 2005 could be even tougher. The FTSE100 index may trade on a relatively undemanding multiple compared with other major markets, but whereas share prices last year were boosted by stronger global economic growth, this year the outlook is far less benign.


This suggests that defensive shares should do best in 2005. Traditional defensive sectors such as consumer industries, food, drinks, tobacco and utility stocks should provide a safe haven. They won't necessarily provide much in the way of capital appreciation. Most already trade at a premium to the market. But at least they offer some stability in an uncertain world.


To make their returns, investors should be on the lookout for stable companies with healthy dividends, since dividends rather than capital growth are likely to comprise the bulk of total returns in 2005.


Defensive companies that meet this description include tobacco stocks BAT and Gallaher, which have historic yields of 4.4 per cent and 3.8 per cent respectively, drinks groups Diageo and Scottish & Newcastle, with yields of 3.7 per cent and 4.7 per cent, and electricity companies ScottishPower and Scottish & Southern, which yield 5.2 per cent and 4.5 per cent. Lloyds TSB may be worth a punt for the near double-digit yield, although there is a risk this dividend could be cut.


Picking the right sectors will be crucial. But it's only part of the story. Investors will also have to be careful about sidestepping the pitfalls in 2005. That means being wary of retailers and stocks with major exposure to property such as HBOS and Alliance & Leicester. Amber lights are also flashing over those with big dollar earnings. And it's probably worth being wary of mining stocks among last year's strongest performers but vulnerable if the world economy slows.


To make capital gains, investors are going to have to identify companies that look undervalued relative to their peers.


A number of large companies fell out of favour with investors in 2004 as a result of management failures, including Marks & Spencer, Shell and Unilever, and now trade at discounts to their peers. If the management teams at these companies succeed in turning them around, the shares could be re-rated. The same is true of Invensys and Marconi, two companies in the middle of major restructurings. If these management teams fail, shareholders may find salvation via a takeover bid. 


Deals of 2005


Indeed, takeover bids could be the one thing that drives share prices higher in 2005. Mergers and acquisitions business in December was back to levels last seen during the dotcom bubble. This was partly driven by private equity groups buying listed companies. Judging by the record sums raised by private equity groups in the past year, that activity looks set to continue in 2005.


Retailers have featured high on the hit lists of the buyout groups and could do so again in 2005. Marks & Spencer and WH Smith should get a reprieve after seeing off bids last year. But several underperforming retailers still remain vulnerable, notably J Sainsbury, JJB Sports and French Connection.


Much depends on the state of the bond markets. Recent takeovers have relied on the availability of cheap debt. If spreads widen in 2005 - as some analysts predict - highly leveraged buyouts will become difficult to finance.


Industry consolidation rather than financial buyers will drive any takeover activity in the drinks sector. Scottish & Newcastle looks the most vulnerable. SABMiller has tried to merge with the Scottish brewer before. In the past year, SAB's share price has soared, boosted by the strength of the rand and its success in reviving Miller, its US acquisition.


SAB now trades on 19 times 2005 earnings, compared with 15 for S&N, so a deal need not dilute SAB's earnings. An SAB bid for S&N could be the catalyst that persuades the families that control many of Europe's biggest drinks groups to relax their grip, paving the way for further industry consolidation, including a long-awaited bid for Allied Domecq.


Finally, one of the most iconic relics of the dotcom bubble could finally be laid to rest in 2005.'s luck seems to have run out at last. The online travel group issued a profits warning as it struggled to integrate its 14 acquisitions. And the chairman, finance director, chief operating officer and marketing director all quit in the past year. Now that rival Ebookers has been sold, it could be Lastminute's turn. 


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