Trading Strategies: a FTSE 100 stock with recovery potential
A 24% share price slump may be a good opportunity to pick up stock in a blue-chip company at a low price, argues analyst Robert Stephens. Here he explains the rationale.
27th October 2026 09:15
by Robert Stephens from interactive investor
While the FTSE 100 index has surged 12% higher in the past year, not all its members have produced such exceptional capital gains. Indeed, some UK large-cap stocks have tumbled in price over recent months for a variety of reasons.
In many of those cases, their financial performance has come under pressure due to a tough operating environment for the industry in which they operate. Typically, this has been prompted by persistently high inflation, elevated interest rates and a resulting uncertain near-term economic outlook that has particularly weighed on prospects of cyclical sectors.
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In other cases, company-specific problems such as higher-than-expected costs on customer contracts have contributed to a relatively weak financial performance for some FTSE 100 members. The negative effects of this on their share price may have been compounded by a resulting deterioration in investor sentiment.
Of course, whether falling share prices among UK large-cap firms have been caused by industry-related challenges or company-specific problems, they could provide recovery opportunities for long-term investors.
Focusing on fundamentals
Clearly, it is crucial to focus on the financial strength of any prospective recovery stock. After all, they must be in a position to survive sector or company-related difficulties in the short run to potentially experience a resurgence over the long run.
This is even more significant at present given the near-term economic outlook is highly uncertain. Inflation across several developed economies, for example, is widely expected to remain persistently above central bank targets over the coming months.
This has already prompted a 50-basis point rise in interest rates in the eurozone and a 25-basis point increase in interest rates in the US over recent months, with the Bank of England having the potential to follow suit. These are likely to weigh on the economy’s performance, and therefore the operating environments of many FTSE 100 firms over the coming months.
As a result, ensuring that a potential recovery stock’s net debt is not excessively high relative to its net assets could be a worthwhile consideration for prospective investors. Similarly, making sure that it has sufficient headroom when servicing its borrowings, such as via the net interest coverage ratio, provides guidance on how it may cope with any material future decline in profitability.
Potential catalysts
Identifying potential recovery stocks with a competitive advantage may prove worthwhile. For example, companies that benefit from a high degree of customer loyalty, a lower cost base than their rivals or a relatively dominant market position may be better able to cope with tough industry conditions that have recently worsened investor sentiment towards their shares.
A competitive advantage may also provide them with a superior long-term growth outlook, since they could be well placed to benefit from an upturn in the economy’s performance. Indeed, following the current period of persistent above-target inflation and possible further tightening of monetary policy across several developed economies, improving economic conditions are anticipated.
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In the US and the eurozone, for example, inflation is due to fall to 2.1% by the end of 2028. In the UK, it is set to fall by 100 basis points so that it stands at 2.5% by the end of next year. This could mean that central bank attention gradually shifts towards interest rate cuts that, once time lags have passed, have a positive impact on the economy’s performance. In turn, a looser monetary policy should boost the outlook for a wide range of sectors, thereby acting as an additional catalyst on today’s prospective recovery stocks.
Possible threats
Clearly, investors should seek to understand the gravity of any industry-related or company-specific problems affecting a company’s share price. In some cases, such issues may be permanent, or at least extremely likely to persist over the long run, thereby potentially harming the firm’s financial outlook over the coming years. In such situations, it may be prudent to focus on other potential recovery opportunities.
However, in the case of one-off events that have temporarily harmed financial performance, or industry-related difficulties that are likely to ultimately pass, recovery stocks could offer a favourable risk/reward opportunity on a long-term view. Their low share prices may provide scope for generous capital gains at a time when the FTSE 100 index already trades at a relatively high level.
A disappointing financial performance
| Performance (%) | ||||||||
| Company | Price | Market cap (m) | One month | Since Iran war began | Year to date | One year | Forward dividend yield (%) | Forward PE |
| Babcock International Group (LSE:BAB) | 1,002.75p | £4,892 | 1.5 | -25.8 | -19.3 | -17.9 | 1.2 | 14.5 |
Source: ShareScope, 26 October 2026. Past performance is not a guide to future performance.
Aerospace and defence sector member Babcock International Group (LSE:BAB)'s share price has slumped by 19% since the start of the year. That compares with an 8% gain for the FTSE 100 index.
The financial performance of the company, which designs and builds a range of defence equipment including naval ships and weapons handling systems, has been negatively affected by a £140 million charge on a contract to build warships for the Royal Navy. It was caused by higher-than-expected rework during the outfitting stage of the five-ship programme and contributed to a 21% fall in the firm’s earnings per share (EPS) in its latest financial year.
However, given that the charge is expected to be non-recurring, the company’s financial performance is set to quickly improve. In the current year, for example, EPS is set to grow by 67%. It is then due to rise by a further 11% in the following financial year.
An upbeat long-term outlook
Of course, Babcock is well placed to benefit from an upbeat longer-term outlook for the wider defence industry. Having previously targeted military spending amounting to 2% of GDP per year, NATO increased its aim during 2025 so its members will now seek to spend 5% of GDP annually on defence by 2035. This is likely to lead to a sustained rise in demand across the sector, especially given that NATO includes six out of the world’s 10 largest economies.
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Furthermore, an upbeat long-term outlook for the world economy should provide an additional catalyst for defence sector members. Since military spending is expressed as a percentage of GDP, a prospective fall in inflation and subsequent possible interest rate cuts could further bolster the defence budgets of NATO members in future years.
In the meantime, Babcock’s financial position suggests it has the capacity to overcome financial challenges. Even though its profitability materially declined in its latest financial year, the company’s operating profits were still able to cover its net interest costs over 10 times. And with a net debt-to-equity ratio of 57%, it seems to be in a strong position to reinvest for long-term growth.
Risk/reward opportunity
Clearly, Babcock’s share price could remain volatile in the short run. Investor sentiment may remain weak amid prospective fiscal policy changes in the UK, which is its main market, with a challenging near-term economic outlook having the potential to further weigh on the defence sector. With a new CEO at the helm, investors may also demand a wider margin of safety in case of a shift in strategy that brings a degree of additional uncertainty.
However, given that the firm’s shares trade on a forward price/earnings (PE) ratio of less than 15, they seem to offer good value for money. Indeed, with the company having strong EPS growth prospects over the next couple of years, an upbeat longer-term outlook resulting from growing defence spending among NATO members and a sound financial position, it appears to offer recovery potential.
Robert Stephens is a freelance contributor and not a direct employee of interactive investor.
These articles are provided for information purposes only. Occasionally, an opinion about whether to buy or sell a specific investment may be provided by third parties. The content is not intended to be a personal recommendation to buy or sell any financial instrument or product, or to adopt any investment strategy as it is not provided based on an assessment of your investing knowledge and experience, your financial situation or your investment objectives. The value of your investments, and the income derived from them, may go down as well as up. You may not get back all the money that you invest. The investments referred to in this article may not be suitable for all investors, and if in doubt, an investor should seek advice from a qualified investment adviser.
Full performance can be found on the company or index summary page on the interactive investor website. Simply click on the company's or index name highlighted in the article.
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