After achieving a 10-year high of 475.6p in November, Tesco (LSE: TSCO) shares declined almost 11%. But they have since bounced back, climbing 16% in the past month alone — more than any other major retailer on the FTSE 100.

Sainsbury’s also had a moderately good start to the year but Marks & Spencer, after a strong start, has slipped behind. So what’s going on with Tesco? Let’s take a closer look.

Underwhelming festive results

First off, Tesco’s festive trading update on 8 January was disappointing. The grocery giant reported UK like-for-like sales growth of only 3.2% over Christmas, missing City forecasts and slowing from 3.9% in Q3. Yet behind the slow growth was surprisingly good results. Market share rose 31 basis points to 29.4% — the highest in a decade, full-year profits reached near the top of guidance, and online sales popped 11.2%.

Meanwhile, Whoosh delivery rocketed 47% and its Finest premium range grew 13%. But investors didn’t care. Shares plunged 5% that day, as ‘good enough’ wasn’t actually good enough, after 2025’s 27% rally pushed valuations sky-high.

Marks & Spencer, by comparison, did exceptionally well and Sainsbury’s edged up 1.3% on 5.2% sales growth.

Analysts attributed the weak Tesco results to consumers opting for lower-cost rivals such as Aldi and Lidl. This has forced it into deeper discounts, eating away at revenue despite steady sales volumes.

Still good value?

Tesco has long been a favourite of mine for steady, defensive income. But with business rates set to rise in April, the growth outlook for 2026 is under pressure. The company already holds over £10bn in debt, with earnings growth for 2026 tipped to be negative at -4.2%.

But this short-term weakness hasn’t derailed Tesco’s long-term prospects. With a 29.4% market share, it remains the largest supermarket chain in the UK, providing essential goods that consumers buy regardless of economic conditions.

And yet, analysts don’t expect much price growth in 2026. The average 12-month price target is around 478p — slightly below today’s price. Plus, the 3.5% yield is slightly below average — albeit well-covered by earnings and cash flow (and backed by an excellent track record). 

Forecasts suggest dividends will rise 4% to 14.2p per share in 2026 and 10% to 15.7p in 2027. This amounts to a forward yield of 3.8%, with 7.89% average growth over five years.

Looking ahead

Overall, the UK retail sector’s seeing notable signs of improvement, despite new tax headwinds. Tesco’s recent rally exemplifies this, following 12 months of growth that saw it outperfrom M&S. With no dividend to speak of a high valuation, M&S must rely on good FY2026 results to keep investors interested.

But Tesco isn’t the only retail stock with potential in 2026. For dividend-chasers, Sainsbury’s 4.3% yield looks more attractive — with the caveat of less coverage and slower growth.

Those seeking deep value in retail might be swayed by JD Sports‘ 7.2 forward price-to-earnings (P/E) ratio. Although the struggling sportswear giant has had a tough few years, it now looks low-priced and primed for recovery.

Still, when it comes to good old solid reliability, Tesco remains one of my top stocks to consider for defensive income.