Direct Line, NCC Group, and Greencoat UK Wind could constitute three of the best FSTE 250 companies to consider next month.
The FTSE 250 has experienced something of a renaissance thus far in 2023. The UK’s secondary index fell to 16,611 points in mid-October 2022, recovered to 18,853 points by the end of the year and has now recovered to 19,916 points.
Of course, it remains far from the 24,194 points it commanded in September 2021, so there remains a chance of decent returns in some of the best FTSE 250 companies that have simply been weakened by the wider economic environment.
UK economic background
Despite the cost-of-living crisis, and the Bank of England’s predicted two year-long recession to weather, the economy appears to be in a better shape than only a few months ago. European natural gas prices have fallen below their pre-Ukraine invasion point and Cornwall Insight is now predicting that domestic energy bills could fall to £2,201 a year by July. For context, it wasn’t long ago that £6,000 annual bills were being predicted for April.
In further good news, CPI inflation has fallen from a peak of 11.1% to 10.5%, and Bank of England Governor Andrew Bailey has told the Commons Treasury Committee that inflation could see a ‘rapid fall’ as energy costs subside.
But some of the fundamentals have not changed. Despite surprise 0.1% GDP growth in November, analysts still expect the country to face a long recession. The base rate stands at 3.5% and is expected to rise through 2023. And the effect on mortgages and the wider housing market is expected to see significant real-terms house price falls throughout this year.
And after a successful ballot of the National Education Union, teachers will soon be joining the increasingly long list of striking professionals demanding inflation-busting pay rises that the government remains keen to avoid. This is a complex policy area, because unaffordable rises — and this is the government line — will only serve to accelerate the inflation-wage spiral, and also send a further message of unreliability to the markets after the disaster of the Truss-Kwarteng epoch.
Then there’s the political situation to consider; new PM Rishi Sunak promised to preside over an era of ‘integrity and professionalism,’ but is now contending with multiple legacy issues; whether bullying claims against Gavin Williamson and Dominic Raab, Nadhim Zahawi’s much publicised tax dispute, and even allegations that former PM Boris Johnson discussed a guarantee on a £800,000 personal loan with the new BBC Chairman weeks before recommending him for the role.
Financial affairs are a politically delicate topic for Sunak to navigate given his wife’s entirely legal but contentious former non-domiciled tax status. This isn’t a political point but is relevant as the FTSE 250 is comprised of domestic companies to a far higher degree than the FTSE 100, and any further political upheaval will likely see the index take another hit during its precarious road to recovery.
Altogether, these factors are making selecting some of the best FTSE 250 shares to buy next month somewhat of a challenge. However, January’s picks, Centamin, ITV, and Games Workshop, have risen by 1%, 9%, and 6% respectively over the past month.
Best FTSE 250 stocks
1. Direct Line (LON: DLG)
Direct Line saw a sharp share price drop earlier this month after being forced to scrap its dividend after December’s ‘prolonged period of sub-zero temperatures’ caused a spike in damage-related claims, including for burst water pipes and tanks.
With over 3,000 customers claiming already, the FTSE 250 company expects this ‘freeze event’ could cost around £90 million, and weather-related claims for the financial year are now expected to total £140 million. Further, while the insurer had previously advised that motor insurance claims costs were ‘tracking closely to our expectations,’ these costs are continuing to increase as the price and parts of used cars continue to rise.
Direct Line is having to toe a delicate line; it needs to raise premiums but is operating within an environment where consumers are watching every penny and in the highly competitive insurance market.
Insurance companies must keep significant capital on the books to ensure they can pay out claims fairly and on time. Inevitably, there is going to be the occasional year where claims are higher than normal, and dividends have to be sacrificed in the interests of the wider needs of the business.
But the company remains one of the largest insurers in the UK, with a focus on motor insuring including brands Privilege, Green Flag, and the eponymous Churchill. February could be an excellent chance to ‘buy the dip’ before March’s results.
2. NCC Group (LON: NCC)
NCC Group is an information assurance company which operates in the software escrow and verification space, as well as cyber security consulting and managed services for its 15,000 global clients.
It’s not hard to see the near-term investment case for the group, as businesses continue to increase spending on cyber-defence to prevent costly attacks. Most recently, Royal Mail has seen an attack which has left customers unable to send parcels overseas for the past two weeks, with no end in sight for restoration of service.
NCC’s software escrow service allows companies to store their source code and key data that allows essential applications to run, meaning they can continue to offer services even if they are hit by a cyber-attack.
Of course, like Direct Line, NCC operates in a hypercompetitive industry. But in November, the FTSE 250 company told investors that constant currency rates at its Global Assurance division are rising at double-digit percentages, and last month it secured £162.5 million in fresh borrowing facilities to fund expansion, at a time of increasingly tight monetary policy.
3. Greencoat UK Wind (LON: UKW)
Greencoat UK Wind is a green energy-focused investment company which owns 45 wind farms across the UK with an aggregate net capacity of 1,289.8 megawatts representing 5% of the UK’s windfarm market share. This is sufficient to power 1.5 million, or 6% of all domestic homes in the country. And it recently invested in a 12.5% stake in Hornsea 1, at present the world’s largest offshore windfarm.
UKW aims to provide investors with a dividend income that increases with inflation while preserving the capital value of its portfolio. However, for context, this dividend is only at 4.8%, far below inflation, but just above the FTSE 100 average dividend yield.
One key investor concern is that the company’s profits will be affected by the windfall tax, which comes in at wind energy sold above £75 per mega-watt hour. However, UKW is now trading at a NAV discount of 5.3%, and the ban on onshore windfarms looks set to be scrapped soon, proving a strong chance for the company to make further investments.
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