Large-cap stocks tend to be heavily discussed by the financial media -- and for good reason. Like their small- and mid-cap counterparts, large-cap stocks started off as an idea, and through shrewd leadership and a proven business model, they have grown to market valuations of $10 billion or more, and made some long-term investors millionaires.
For investors, it's hard to exclude these behemoths from their portfolios. The S&P 500, an index of the 500-largest companies by market capitalization, represents approximately 75% of the total stock market, so it's nearly impossible for proper diversification without including large-cap stocks. With that in mind, we asked three of our Foolish contributors for three large-cap stocks to buy in February. Their responses, Dow Chemical (NYSE:DOW), Johnson & Johnson (NYSE:JNJ), and AT&T (NYSE:T), and their investment theses are below:
Merger or not, this chemical stock is poised to grow
Neha Chamaria (Dow Chemical Company): One large-cap stock that I'm eyeing right now is the world's largest chemical company, Dow Chemical. Dow is up about 6% in the past three months, but is trading at only about nine times trailing earnings, offering long-term investors a good opportunity, given the company's ongoing efforts to fortify its portfolio.
Dow's core chemicals business has been under pressure for some time, but management has done a decent job navigating the company. Consider this: During its third quarter, Dow's earnings before interest, taxes, depreciation, and amortization (EBITDA) and earnings per share (EPS) not only expanded for the 16th consecutive quarter, but also hit record quarterly highs as organic sales volumes grew 6% year over year. That's because Dow isn't just a chemicals company anymore, having aggressively divested non-core assets to emphasize its less volatile, higher-margin consumer-driven businesses such as silicone products, packaging, automotive, and electronics. Dow's operating numbers are reflecting the positive impact of its efforts.
That's not to say Dow has sidelined its core business. For example, Sadara -- the world's largest petrochemical facility that Dow is building in collaboration with Saudi Aramco -- is estimated to add $1.5 billion to its revenue in 2017 as it starts production. Meanwhile, the much-talked about impending merger of Dow and DuPont, which will create the world's largest agricultural chemicals and second-largest materials company, should strengthen the investment thesis for Dow, if approved.
Nonetheless, Dow's growth story as a stand-alone company won't get any weaker if the merger fails. After all, it isn't a fluke that Dow has nearly tripled its net income and grown its free cash flow by about 45% in the past five years, and has paid a dividend every quarter since 1912. With analysts pegging Dow's earnings to grow 11% next year and the stock yielding 3% in dividends, it's time to consider this stock.
This healthcare giant is a must-own stock during these turbulent times
George Budwell (Johnson & Johnson): With the Trump administration injecting a healthy dose of uncertainty into the healthcare sector at the moment, investors may want to shy away from more speculative names, and instead turn to tried-and-true performers like Johnson & Johnson. Even though J&J's own management isn't exactly sure what to make of Trump's plans for the pharmaceutical industry -- at least based on their fourth-quarter commentary -- this company should have an easier time than most when it comes to navigating these turbulent waters.
In a nutshell, J&J sports three distinct business segments -- consumer health, pharmaceutical, and medical devices -- that give the company a distinct edge over its peers in terms of maintaining its growth profile in a politically charged climate. As a prime example, J&J has been ratcheting up the profitability of its consumer segment and adding new products to this less controversial business through strategic acquisitions over the past year. The net result is that J&J hasn't been forced to rely on eye-popping price increases for pharma products to generate top-line growth.
All told, J&J's attractive revenue mix should allow the company to continue beating the broader markets in the years ahead -- even if the Trump administration does make lowering drug prices in the U.S. a top priority.
AT&T will be a true beneficiary from tax reform
Jamal Carnette, CFA (AT&T): AT&T should be a large beneficiary of President Donald Trump's economic plans. The most direct way Trump's plans will help the communications and media provider is a tax cut. The nascent outline of both Trump's and the House GOP's tax plan is a decrease of statutory rates from 35% to 20%, or lower. While many businesses are not slated to benefit due to their effective rates being lower than 20%, AT&T's effective rate is approximately 34%. AT&T appears to be a true winner from lower statutory rates.
AT&T appears well-positioned to benefit from another facet of the GOP's tax plan. In a bid to boost exports and increase domestic jobs, The Wall Street Journal [subscription required] reports the House GOP's plan is not to tax foreign profits while harshly taxing imported goods. AT&T's Latin American DirecTV profits should qualify for the favorable tax designation. The end result is AT&T quickly shifts from one of the old-school businesses that have been disadvantaged by the tax code to one that benefits from it.
Next is a potentially more favorable environment for mergers, particularly AT&T's Time Warner bid. Although the Obama Administration allowed AT&T to buy DirecTV, Obama's Federal Communication Commission essentially rejected both the Sprint/TMobile merger and the Comcast/Time Warner Cable merger on grounds of competition. While Trump has spoken negatively about the merger, it appears to be less based on the underlying concerns of consumers and prices and more due to self-involved interest and ire of CNN's coverage of his campaign. It's likely AT&T and Time Warner can satisfy the president by spinning off CNN if traditional dialogue and flattery fails.
There are potential downsides in Trump's plans. First, in the event harsh rhetoric or import bans turn off Latin American leaders, it's possible for Mexico and other countries to respond in kind. AT&T's Latin-American DirecTV holdings and AT&T's wireless holdings in Mexico are particularly sensitive to this risk.
Additionally, the broad outline for plans appear to disallow tax deductibility for interest expense. Last fiscal year, AT&T recorded approximately $125 billion in debt with $4.2 billion in interest expense. While there are risks, however, there's more potential upside for AT&T than downside from the new administration's proposed policies.