October 2020 Stocks: Financials, Real Estate, Industrials, IT And Pharma

The purpose of this article is to again look at what sort of companies may be appealing for purchase during October 2020. We’re still looking at a market that, for the most part, is overvalued. Despite this, there are significant opportunities available in several sectors. In this article, we’ll look through a few of these sectors and I’ll highlight the companies that I believe to be the most appealingly valued.

As always, it’s about the responsible allocation of investment capital, as best as I can see it in the market’s current position today. We’ll focus on 1-2 companies per sector. This allows me to mention both a grade-A quality, as well as undervalued, lesser-grade companies with a potentially higher yield (yet higher risk).

This article is of particular interest to those among you who feel they need to increase their exposure to the sectors of Finance, IT/Semis, Industrials, Real Estate, and Healthcare/Pharma. I’ve excluded energy stocks due to material unattractiveness and uncertainty based on the overall trends in crude, energy, and similar segments. If you’re looking for energy-based stock recommendations, I would advise you to look at different authors who still cover such equities.

As months prior, the list will be made using my own QO-system of rating stock. It divides stocks into four classes based upon universal metrics that attempt to measure the company’s appeal for a dividend investor and ends in a score of 0.0-4.3, with both current valuation (opportunity) and fundamentals (quality) playing major roles.

It arrives at these scores using 14 trackable data points, including stats such as dividend safety, EPS yield, payout, earnings multiples, credit rating, dividend yield, dividend tradition, moat, and management. I’m constantly updating and developing the tool to be of more use and more precise, and I feel I’ve reached a point where I can comfortably base my investment decisions upon scores reached using the calculations. It of course comes with disclaimers I note when I make scoring and stances – everyone needs to make their own choices, after all.

Let’s look at the companies we’re seeing today.

1. Finance

Finance continues to present appealing prospects for investors. With most other sectors having only modest discounts available in the very “best” of companies seen to quality, the finance sector continues to show investment prospects. The best class-1 company available at double-digit discounts to what I consider to be a “fair” value here is clear, and those of you following my articles will know it well.

Reinsurance Group of America (RGA) continues, despite some recovery from the most undervalued levels, to be the most appealing prospect for high-quality financial investment. That’s not to say that later companies aren’t qualitative, but the company’s operations are, in their fundamentals, simply more defensive than others, and that’s what we’re looking at here.

(Source: F.A.S.T graphs)

Now, the upside has slimmed considerably since we saw a 30-35% upside based on a simple return to normal valuation which we saw a few months back. However, the company is trading at an average weighted current earnings multiple of 11.5, in part due to the current low expectations for fiscal 2020. If we average earnings on a 3-year basis, which I would argue presents a more realistic long-term case for the company’s earnings, brings us to a 3-year average P/E-multiple of 8.89X. The company’s forecasts, both in terms of earnings dropping in 2020, as well as the recovery in 2021, are based on forecasts which on a historical basis have been accurate 91% of the time on a 10-year basis (with a 10% margin of error).

S&P Global views the company as undervalued as well. While price targets have dropped significantly over the past few months, the analysts (8 of them) following RGA currently give RGA a price target range of $93 – $137.5 per share, coming to a mean of $111.5, or about a 10X earnings multiple based on a 3-year average EPS.

If you’ve followed my articles on the company, you know that RGA also has the fundamentals for a safe investment – beginning with its A credit rating, its extremely safe dividend, 20% EPS payout ratio, 16% 5-year dividend growth rate, 25 year dividend tradition, all of it coming to a very appealing chowder number of 18.8 and a 3-year forward PEG ratio of 1.38X. All of that means that based on current estimates and fundamentals, you’re paying a very low price for what is likely to be some very good earnings in the coming few years.

Investors could even view the 2020 fiscal results as a non-recurring outlier to normalize earnings at a far higher rate, raising the company’s target and valuation. Being conservative, however, I value the company at a 10-year historical discount earnings multiple of 11.8X based on 3-year average earnings, coming to a target price of ~$134/share, or an upside of 35%.

This makes RGA, based on fundamentals and opportunity, the best financial stock to invest in today, as I see things.

That’s not to say it’s the only opportunity.

3 Reasons Why Prudential Financial Inc

Prudential Financial (PRU) is available as well. The reason for its class-2 rating is the limited history of dividend stability we find here. Aside from this, PRU is an A-rated company that’s trading at a deeper discount than is RGA.

(Source: F.A.S.T Graphs)

One could argue that the company, in fact, offers a more appealing investment opportunity. There are a few reasons why I view RGA as better than PRU from a qualitative perspective. First of all, the company’s earnings payout ratio is safer. Second, it has a longer dividend tradition, as well as higher dividend growth. I would also argue that the company’s fundamental businesses are more defensive than Prudential.

With all that being said, the company offers some excellent upside. As we can see above, even based on a forward earnings multiple of 6-7X, we’re talking about a 20% annual upside based on essentially trading flat for the coming few years – which I doubt the company will, as expectations have been either filled or beaten for the past few quarters, with the trend seeming likely to continue based on current expectations.

With the point of the article being companies that best combine the two attractive qualities of fundamentals and opportunity, Prudential Financial is a higher-yield alternative to RGA.

Much like with RGA, S&P Global analyst targets have dropped considerably since the pandemic began. 13 analysts following the company now give PRU a target price range of $58-99$/share, with a mean of $72.33/share (Source: S&P Global). It’s important to point out that this target is actually lowered from a mean of $100/share only a year ago.

I belong to the class of investor who doesn’t believe that a company’s fundamental appeal can change that quickly in that short a time. Averaging the company’s forecasted EPS over the next 3 years brings us to $11.31/share, giving us a current 3-year average P/E multiple of 5.64X, with my target being below the historical 9X P/E range, or an 8X earnings multiple of $90.48/share. While this may sound positive, remember that the F.A.S.T graphs target with a 20% annual rate of return is based on an $84/share price, closer to the analyst mean. This makes Prudential’s current undervaluation 40.89%.

For those more interested beyond the simple numbers, I suggest some of the excellent articles on the company found here on SeekingAlpha.

Let’s move on to the next sector.

2. IT/Semiconductors

File:Intel logo (2006).svg - Wikimedia Commons

Believe it or not, things have actually become far more interesting in Semiconductors and software. While we still have Intel Corporation (INTC) trading at valuations such as these…

(Source: F.A.S.T Graphs)

…there are actually even other IT companies available at appealing valuations. Let’s begin with Intel, however. The company hasn’t recovered materially in the last month. Still yielding 2.6%, and trading at a current P/E multiple of 10.5X, a return to normal valuations could reward shareholders with annual returns of 17.2% until 2022. Even at 10-11X, the company would yield double-digit annual rates of return, which I view as an excellent prospect. The same stance from last month still stands on Intel.

Fundamentals, for those that need a reminder. Intel is A+ rated, with a very safe dividend, no more than a 25-27% EPS payout ratio, 7% dividend growth, with its extremely “wide” moat (especially in the server segment), and 21 years of dividend traditions. While others prefer investing in Microsoft (MSFT), I prefer investing in Intel at this time. If we can criticize anything here, it’s the company’s limited expected EPS growth rate for the coming years, but the reversion to a more fair-value mean for the company still signifies a very appealing return prospect, and more than good enough to make me invest.

The difference from last month is that we now have Cisco (CSCO) as well.

Cisco Systems - CSCO - Stock Price & News | The Motley Fool

Now, let’s be clear. Cisco doesn’t have the same dividend tradition, nor the same moat that Intel does. It also has a higher payout ratio. However, it has a better credit rating (by a little bit), a significantly higher yield at nearly 3.8%, a dividend considered “Very Safe” by SimplySafedividends, a higher DGR (14% over the past 5 years on average.

(Source: F.A.S.T graphs)

Simply put, opportunity comes knocking. We have a potential 14% annual rate of return on a reversion to more historically accurate valuations, and the company is expected to grow earnings faster than Intel at this time.

Both companies are in fact appealing, and the question of whether you’re willing to trade higher yield for a higher payout ratio is dependent on your current risk appetite, but also your current portfolio construction. Myself, I’m buying both companies at this time and intend to continue doing so. For more of a deep-dive on Cisco, I recently published an article on the company that tries to analyze the company’s near-term trends and see where things may go from here.

As it stands, this is my alternative for the time being and in this sector.

3. Industrials

General Dynamics Vector Logo | Free Download - (.AI + .PNG) format - SeekVectorLogo.Com

Unlike IT/Semis, Industrials still has much of the same undervaluation we saw last month. The difference is that General Dynamics (GD), has actually become more attractive since last month again. With a drop in share price of nearly $10/share, we’re now looking at a 3.1%+ yield for this defense company again, indicating a significant potential upside in case of a reversion a mean of 15-16X earnings.

(Source: F.A.S.T graphs)

When you’re offered the opportunity to invest in a grade-A defense contractor at 3.13% with a nearly 20% annual rate of return until 2023 based on simply trading at 15X earnings, based on forecasts that on a 2-year basis are right 100% of the time, your interest should most certainly be piqued. Assume that even in a worst-case scenario of flat, or negative development, the company would have to trade at below 7X earnings based on forecasts, for you to lose money in the long term here…things are looking fairly positive in terms of upside. The company has actually traded below 7X earnings once before in the last 20 years – during the worst month/s of the financial crisis. Even if that repeats, the company is very rarely there for long.

I’m continuing to invest capital in the company, and I believe you should consider investing as well, if you’re looking for industrial exposure.

Snap-on Store

Alternatively, we have Snap-On incorporated (SNA). Class-1 rated much like GD, it’s a company that’s currently undervalued 11%. This is far less than GD, but if you have desired exposure to GD yet want more industrial companies, this is the one I would currently go with.

Granted, the company’s overall position in terms of valuation isn’t as good as with GD, and the company’s fundamental business is structured very differently – read my article on the company for more information here – but for a company with an A-grade credit rating that typically trades at a premium, there’s still some impressive upside to be had at these valuations.

(Source: F.A.S.T Graphs)

Returning to its standard valuation, the company offers around 14.5% upside at today’s price. Fundamentals for the company are very much solid. Aside from its credit rating, the company has nearly a 3% dividend, less than 40% EPS payout ratio, a 6% 5-year DGR, 27 years of dividend history, and a narrow moat. If you’re thinking that it doesn’t seem as good an opportunity as GD, then that’s because it is not – I completely agree with you. However, presenting an alternative is always good, and SNA is one of the best, high-quality, safe alternatives currently available, as I see it. If Siemens (OTCPK:SIEGY) continues dropping a bit more and starts touching €95/share prices, we can start talking European companies as an alternative here. Until then, however, valuation remains one of my guiding stars, and with a valuation like this, SNA is a better choice.

The Industrial sector, as such, gives us these two alternatives – with GD slightly superior, but SNA a reasonable alternative, all things considered.

4. Real Estate

Real Estate continues to be full of exciting opportunities for the discriminating investor. There have been some changes since last month, and the most significant of them is that we have a shift in the appeal for one of the first-class companies. AvalonBay Communities (AVB), while still appealing at a 6.3% discount, is no longer the top pick here.

This instead goes to a duo of two stocks.

Federal Realty Investment Trust: Good Upside For A Conservative REIT <span class=

The first one is one you’ll recognize me writing about – Federal Realty Investment Trust (FRT).

The company has been undervalued for a long time, and its undervaluation certainly continues now.

(Source: F.A.S.T graphs)

We’ve been through that I don’t consider the company’s massive premium to be valid going forward, at least not in a conservative thesis. Instead, we’re forecasting a slightly above, or fair value 15X multiple, which generates 10-14% annual returns if the company continues its current trajectory. Dividend safety isn’t an issue here as I see it, given the dividend king status and FFO payout ratio. FFO growth, when including the cratering during 2020, will be poor for the next few years, but the company will nonetheless be able to pay you an appealing 5.4% yield going forward here. I’m targeting a 1%+ stake in my portfolio, and I’m in the last bit of the process of filling that stake at this time.

FRT, while riskier than the second alternative, has a higher yield and can still be considered safe based on absolutely solid, grade-A fundamentals and an excellent history. Continued volatility will likely occur, but in the long-term, I view this company as extremely safe.

Analyst consensus agrees with this assessment, giving the company a price target range of $78 – $110/share, with a mean of $91.35, down from $142.06/share in less than a year’s time. My own target is slightly higher at $98.90/share, giving us a 26% undervaluation at current levels.

It’s my #1 REIT choice this month.

Essex Property Trust Logo Vector - (.SVG + .PNG) - SeekLogoVector.Com

The Essex Property Trust (ESS) is actually a company I personally haven’t come around to buying yet, favoring AVB until now. However, with my AVB position near at capacity, I’m looking at this company with interest. Unlike AVB, ESS has a near-exclusive west-coast focus. While the region is experiencing some trouble, and I belong to the group of people who believe this decline is likely to continue for some time, there’s a difference between experiencing trouble and believing the geography has no future – which I do not believe.

(Source: F.A.S.T graphs)

Essex is in a similar position to AVB and FRT. Even if the company’s until-now-ubiquitous premium no longer is valid, even a fair valuation will result in positive returns here. I’m willing to consider a 15-17X multiple for the company, which returns potentials of 7.6-12% until 2023. This is good enough to interest me, and based on the company’s excellent fundamentals, and never missing a forecast, is even good enough to make me invest in the next few weeks. For a deeper dive into the company specifics, I recommend you check out one of the excellent articles on the company, such as this one by Brad Thomas.

The reason I’ve neglected this particular pick until now is that other companies have offered steeper discounts and better yields at better upsides. With AVB recovering a bit, however, Realty Income (O) above fair value, no other Class 1 company in the real estate/REIT sector offers this sort of appeal at this time.

However, what if you want a higher yield?

Simon Property Group Sues The Gap For Not Paying Rent During COVID-19 Pandemic | News - Indiana Public Media

You probably already know my answer here. It’s Simon Property Group (SPG).

(Source: F.A.S.T Graphs)

What I see here is the overall beginning of a recovery, albeit a slow one, since March of this year. It will take a long time for SPG to recover to anything resembling normal levels, I believe. However, with a yield close to 10%, a P/FFO of 6.5X, A-grade credit, and this company’s fundamentals, I believe your first stop should be SPG, if you want a higher yield.

My own cost basis is an appealing mix of pre-crisis buys, with a majority of COVID-19 buys, bringing me nearly in the green at $70/share. The only reason I’m not making this my #1 pick is that SPG isn’t just my largest real estate holding outside of Sweden, at 2.95% of my portfolio it’s my largest non-Swedish holding, period. The fact is, if the company recovers to anything resembling historical values, I’ll probably be forced to divest a portion to not allow the stake to grow too large.

Current S&P Global analyst consensus for the company varies wildly, with lows of $62 and highs of $162. The current mean is down more than 50% from 2019 levels, to $85.88/share (Source: S&P Global). Me, I view this as too short-sighted and give the company a 10.5X P/FFO, which gives us a target price of $105/share, or an undervaluation of 53.96%

This makes SPG my high-yield choice.

5. Pharmaceuticals / Healthcare

In terms of quality, not much has shifted here in this sector.

Even just considering a return to fair value, not its historical premium, AmerisourceBergen (ABC) still offers more than twice my minimum target annual upside here. The yield isn’t something to write home about – but that’s, again, the only downside to this company.

The company is now what I consider to be 20.5% undervalued, is A-rated, has excellent dividend safety at only 23.7% LTM EPS payout, and 11% 5-year DGR with nearly 20 years of dividend growth history. Since I wrote my last article, the company’s yield has actually grown slightly, now at 1.76%. Investing here presents a significant, appealing 16.59% annual upside until 2022, based on only a reversion to a fairly conservative mean.

Analysts agree, putting the company at a mean valuation of around $111/share, from a price target range of $90 to $127/share (Source: S&P Global). My own price target is slightly above that, at $115/share, representing a current undervaluation of 20.5%. Despite some shifts, this company is still what I consider to be the best, class 1 choice in the sector.

However, anyone looking at purely opportunity and value, CVS Health (CVS), is a better choice.

(Source: F.A.S.T graphs)

Even trading at current multiples, you should view this company as better-positioned to deliver alpha, with a nearly 3.5% yield. We have an undervaluation of 64% based on a $95/share price target which is above the analyst mean of $80.62/share (Source: S&P Global) but represents no more than 9.6X 2023 EPS multiple based on forecasts that turn out correct or positive 100% of the time on both a 1-year and 2-year basis with a 10% margin of error (Source: FactSet). This, as I see it, presents an appealing upside of the sort that we’re looking for, and that is why my #1 choice at this time is actually CVS.

The company’s fundamentals remain rock-solid. How? Investment-grade, BBB credit, Safe dividend, only 28% EPS LTM payout, 13% 5-year DGR, 23 years of dividend growth, and a narrow moat. All of these things bring the company to an extremely solid rating – above 16.4 in terms of chowder number, and justifies making this my #1 Healthcare choice for the time being.

AbbVie Logo | GO2 Foundation for Lung Cancer

If you want high yield, you still have AbbVie (ABBV). At nearly 5.5% well-covered, BBB+ graded yield, we’re looking at one of the better, higher yields in the sector, despite the stock being Class 4 due to its extremely limited dividend history as well as a SimplySafeDividend Dividend Safety which at “borderline” due to Humira, can be seen as poor. I personally disagree with the assessment.

I very recently wrote an article on AbbVie where I made a case for the company not only managing but exceeding expectations. That’s also why AbbVie represents nearly a full percentage in terms of a stake in my core portfolio, and why I’m continuing to invest in the company.

(Source: F.A.S.T graphs)

Even at current trends, the company would deliver annual returns in the heights of 14-15% based on current earnings estimates. We can see the earnings beginning to drop off in 2023. This is no fluke – that’s when the company will truly start to encounter some of its Humira troubles, but even then, it’s widely expected at this point that AbbVie will have shored things up even better than it has now. With BBB+ credit, excellent safeties, and no more than a 50% LTM payout ratio, the company continues to be a question of “if” when it comes to Humira (and “how”), but things are looking good enough to pique my interest – and it should pique yours as well.

Analysts agree, giving the company a mean price target of $108.9/share, which is actually up significantly since 2019 due to further post-Humira clarity (Source: S&P Global). It is also worth remembering, despite its limited history, AbbVie has never missed an estimate or a forecast. I agree with the ~110/share price target here, giving AbbVie an upside of 27% in terms of valuation, making it a “BUY”.

Wrapping Up

So, this wraps up these five sectors that I follow and the relevant choices for October 2020 as they stand today, and as I see them.

Quickly summarizing qualitative stocks, we’re looking at:

Finance: Reinsurance Group of America

Industrial: General Dynamics

IT/Semis: Intel Corporation

Real Estate: Federal Realty Investment Trust

Pharma/Healthcare: AmerisourceBergen

Alternatively, you could consider

Finance: Prudential Financial

Industrial: Snap-on Incorporated.

IT/Semis: Cisco Corporation

Real Estate: Essex Property Trust

Pharma/Healthcare: CVS Health

For the highest possible yield, while still being safe, I personally would look at:

Finance: Prudential Financial

Industrial: General Dynamics

IT/Semis: Cisco Corporation

Real Estate: Simon Property Group

Pharma/Healthcare: AbbVie

There are some changes to this list, but many of the companies are re-affirmations of the same companies from last month. Some have their valuations improved (lower), some worse (higher).

I try to pick, for myself and for you, the very best companies in each sector I follow to construct a risk-adjusted and profitable, long-term portfolio. The aim of my portfolio is not to turn $100,000 into $1,000,000 in the shortest time possible – this is very important to point out. If your goal includes the quickest sort of profit realization and capital appreciation, my approach is definitely not for you.

My ambition is to use the aforementioned capital to provide conservative, monetary safety in the form of dividends, while preferably outpacing the general development of the overall market while allowing me to live off the interest, not the principal. What I essentially do is maintain a 4-5% “interest” account, where the interest continually moves either in tandem with or above inflation levels, while maintaining downside protection through diversification and quality.

I hope that this presents value, ideas, and good reading to some of you, and wish you an excellent day. Thank you for reading.

Disclosure: I am/we are long ABBV, ABC, AVB, CSCO, CVS, FRT, GD, INTC, O, PRU, RGA, SIEGY, SNA, SPG. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: While this article may sound like financial advice, please observe that the author is not a CFA or in any way licensed to give financial advice. It may be structured as such, but it is not financial advice. Investors are required and expected to do their own due diligence and research prior to any investment.

I own the European/Scandinavian tickers (not the ADRs) of all European/Scandinavian companies listed in my articles.

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