I Bet These Investors Have Smug Grins Right Now

The Motley Fool

When I heard the news, I had to double-check my sums. And sure enough, £20 divided by 91 pence did indeed equal 22.

My calculation confirmed - as if we didn't know already - that we're in the midst of a bull run.

The magnificent Severn

To put you in the picture, the £20 is the price a consortium could be willing to pay for each share of Severn Trent (LSE: SVT).

Meanwhile, the 91 pence is the adjusted earnings per share figure reported by the water supplier for the twelve months to September 2012. And, of course, the 22 is the resulting P/E ratio.

Now I don't know about you, but paying 22 times profits for any blue chip - let alone a regulated utility - looks very ambitious to me.

Let me stress that the £20 is a rumoured price... but even so, Severn Trent shares traded at £18 before the bid approach.

Which suggests some investors have been happy to pay at least 20 times trailing profits for what is fundamentally a low-growth business.

As I say, we're in the midst of a bull run.

The hunt for a certain income

Question is... why would anyone want to pay 20-plus times profits for Severn Trent, especially when the wider market trades on a multiple of 13?

Well, a clue comes from the potential bidders. You see, the consortium circling the water firm includes two pension funds. And as you'd expect, pension funds like to invest with long-term certainty to ensure their members never go short in retirement.

In years gone by, government bonds (or gilts) used to be the obvious choice for such dependable returns. But these days, with the UK's triple-A rating long gone and monetary policy keeping medium-term gilt yields below 1%, the hunt for reliable long-term income has turned to shares.

And when it comes to shares, you can't get more reliable than utilities.

Somebody somewhere must be working overtime on a spreadsheet

Severn Trent's dividend record underlines the predictability. After privatisation in 1989, the blue-chip's annual payout has gushed from 17.6p to 70.1p per share - equivalent to a compound growth rate of almost 7%.

What's more, the group plans to keep its dividends flowing, with payout lifts of RPI plus 3% every year until 2015.

Throw in two chunky special dividends paid in recent years - and assuming all of us will still need to use water! - and you can start to see why some pension funds would like to own Severn Trent all for themselves.

But at 20-plus times earnings!? I am sure those pension funds must be working overtime on a spreadsheet to justify that valuation.

For what it's worth, the bosses at Severn Trent today said the approach "completely fails to recognise the existing and potential value" of the water supplier. Those bosses must be working hard on a spreadsheet, too.

Have I said we're in the midst of a bull run?

Whether this approach comes to something or nothing is difficult to say right now. But I bet Severn Trent investors are sitting pretty with smug grins right now, having seen their reliable plodder double in value - as well as produce handsome dividends - since the financial crash.

My view? It's hard to see 'smart money' buying a regulated utility after the price has rallied 100% to a P/E of 20.

Indeed, as so often happens in bull runs - powerful investors get carried away with a rising market... and giving us sensible Fools the option to cash out with a healthy gain and smug grin. The task now of course is to find 'the next Severn Trent'...

And that's something I've charged the expert team at Motley Fool Share Advisor to do straight away.

23 'buys' for today's bull run

Because in a bull run, you never know how much a keen bidder could be prepared to pay for your favourite shares.

In fact, the Share Advisor team may have already unearthed another 'reliable plodder' that can one day capture the imagination of the market (or ambitious pension funds).

Certainly looking through the team's 23-share 'buy' list, I see many names with what I believe are decent prospects and confident dividends... yet languish on ratings well below Severn Trent's P/E of 20.

You can see these 23 'buys' for yourself by joining Motley Fool Share Advisor today.

It's just my opinion, but I can't see all those 23 'buys' remaining cheap for long if this bull run continues.

Until next time, I wish you happy and profitable investing!