This post about Buffett got me thinking about what stocks Mr. Market is pessimistic about right now and I thought I’d share some of my picks. These are stocks that have trailed the market the last few years, but not without reason. With the exception of BRK.B, I will list dividend paying stocks that I believe can continue paying a growing dividend until their stock price recovers.
BRK.B has trailed SPY for most of the this bull market and that’s understandably upset some investors. I think a big part of it is because a lot of companies have been aggressive with buybacks while BRK.B is extremely conservative when it comes to repurchasing shares (they only just recently started buying back small chunks). Their KHC stake hasn’t panned out well so far. They’ve got huge positions in financials which have trailed the broader market (maybe a case can be made for them being undervalued?) However, their operating businesses and dividends from the stock portfolio have been piling cash into their war chest which helps them broker deals like this. It’s only a matter of when (not if), the next recession comes along Buffet and Munger (or their management team if they are no more) deploy that cash for other favorable deals.
MO is ranked as one of the best performing stocks of all time because it goes through extended periods of undervaluation which allows dividends to pick up shares at dirt cheap prices. MO has been beaten down because of declining cigarette volumes and because it appears they overpaid for JUUL. If you take out the BUD stake and assign a value of $0 to their JUUL and CRON stakes, their legacy tobacco business (cigarettes, smokeless tobacco, cigars), trades for a FCF yield of over 11%. The dividend is safe and will continue to grow, but I don’t expect the stock price to recover until JUUL starts to contribute to their FCF and cig volume declines stabilize. What they lack in geographic diversity, they more than make up in the diversity of their investments and businesses.
BTI has been beaten down for similar reasons. Shortly after they took over RAI (after taking on significant debt) in 2017, the US cig market started showing accelerated volume declines. They are also the dominant player in menthol cigarettes in the US, which makes them more vulnerable than Altria to a menthol ban. That being said, at its current price, they generate around $10 billion in FCF which amounts to a FCF yield of 12.5%. About 60% of that is paid in dividends, while the rest can goes towards debt reduction. They are the second largest tobacco company after PM and often hold a dominant position in certain developing economies (They own roughly 30% of ITC, Indian Tobacco Company which runs a cigarette monopoly in India). Their most recent earnings report showed a strong underlying business that’s also poised for growth. They are also well diversified in terms of product offerings (cigs, smokeless tobacco, vapes and heat not burn)
PM while not as cheap as the other two, it earns a premium because of the Marlboro brand and their lack of exposure to the US in the cigarette market. The stock initially dropped last year because IQOS showed slowing growth. When talks of a merger with Altria surfaced, the stock dropped some more. However, the talks are now off and their most recent earnings report indicates that IQOS sales have picked up again. The company has been hurt by a strong USD, but their underlying business has shown currency neutral earnings growth that’s 8-10% which shows the strength of their business. As IQOS has now been approved for sale in the US by the FDA, it should alleviate their currency issues a bit. Not to mention, any future weakness in the USD will benefit PM. The stock currently has a 6% dividend yield that is safe. This is a slightly dated post, but still mostly relevant for BTI and PM today.
XOM is sporting a dividend yield of over 5% (the largest it’s been in 20 years). The oil and gas industry as a whole has suffered over the last decade from two oil crashes and growing concerns about climate change. XOM has also had issues with meeting their production goals the last few years. That being said, they are one of the best run companies in the oil and gas sector. They have paid a growing dividend for 35 years and despite two oil crashes in the last decade, they have managed to grow their dividend 6% annually while still maintaining the best balance sheet in the industry (many other either froze or cut their dividend). They have been selling off old assets to invest in growth and are confident they can double their earnings by 2025 assuming oil is $60 a barrel. Here’s an informative post about investing in Oil by Joshua Kennon. Also, here’s a really good book that talks about the amount of political power the company has in the US and abroad. The stock price will fluctuate with the price of oil, but the dividend will continue to grow.
WFC used to be considered one of the best large banks in the US until the fraudulent accounts scandal surfaced a few years ago. The fed has imposed an asset cap which has causing the bank to miss out on a strong economy. The stock will likely trade sideways until the asset cap is lifted, but until then, the bank plans on rewarding shareholders with dividends and buybacks. They pan on buying back 10% of all outstanding shares over the course of a year in addition to a 4% dividend. This will supercharge returns when the asset cap is lifted and WFC can make more loans again. Also, WFC and USB are less susceptible to interest rates as they earn a significant chunk of their revenues in fees, unlike their peers. It’s currently trading at a P/B of 1.2. The dividend is safe and will continue to grow at 10% or so. With a starting yield of 4%, it makes for a good entry point.
ABBV, BMY and PFE are some stocks in the pharma sector that deserve some notice, but I haven’t looked into them much. The uncertainty around these stocks revolve around expiring patents/pipeline concerns and leverage taken on for mergers. Pharma stocks like oil can be volatile but can provide tremendous returns over the long run. With consumer staples and tobacco, pharmaceuticals have been one of the best performing industries (all three of these stocks are on the original list).
Nothing is guaranteed, but I feel like at these prices, there is a decent margin of safety in these stocks. Hopefully a few of them pay off moving forward. What are some of your picks?
Disclaimer: Consult your financial professional before making any investment decision.