Cheap stocks can be hard to find in a high-flying market like the current one.
The S&P 500 is flirting with all-time highs following its best first-quarter performance in a generation, and investor confidence has returned after the pullback at the end of 2018. The Federal Reserve's decision to stop raising interest rates for the foreseeable future, apparent steps toward a trade deal with China, and strong corporate earnings, as well as a healthy IPO market have all helped propel stocks higher this year.
For value investors, that can create a dilemma. Warren Buffett, Berkshire Hathaway CEO and a titan of value investing, has bemoaned the high price tags companies carry today -- at around 22, the market's average price-to-earnings (P/E) ratio is significantly above its historical average closer to 15. But though industries like tech continue to trade at lofty valuations, there are some bargains to be found.
1. CVS Health
The nation's largest drugstore chain became much more than that when it took over health insurer Aetna last year for $70 billion, a move that helped diversify CVS away from the volatility of the pharmacy business where chains have struggled with falling reimbursement prices. It also gives the company a steady income stream and synergistic benefits that are expected to save more than $750 million in 2020.
However, the market seems to have taken a dim view of the deal: CVS stock is down 35% since then, and is now trading at a five-year low following a disappointing earnings report in February. That report included a disappointing earnings outlook for 2019 calling for EPS of $6.68-$6.88, down from $7.08, as the company faces costs to integrate Aetna along with uncertainty on drug rebates. That gives CVS a P/E of 7.4 based on trailing EPS, or 7.7 using the midpoint of this year's forecast.
That looks like a dirt cheap price for a sector leader in a generally stable industry, especially when factoring in CVS's 3.5% dividend yield. The company should be in a better position next year once it's absorbed Aetna and begun to cut costs. Investors can take advantage of the sell-off today, as the pharmacy leader should eventually get off the mat.
2. Winnebago Industries
The recreational vehicle industry is notoriously cyclical, as expensive motor homes tend to move briskly in prosperous economies, but crash when consumers cut back in tougher times. Considering those dynamics, it's a surprise to find Winnebago shares down nearly 40% from the highs they reached at the end of 2017.
The RV-maker should be a key beneficiary of the Fed's recent decision to hold back interest rate hikes, as that will help keep vehicle loans more affordable. Meanwhile, a near-record high stock market, low unemployment, and relatively low gas prices should also help entice consumers to spend on RVs and accessories.
The company has recently made smart moves to diversify into luxury boats with its acquisition of Chris-Craft, and further into towables with its purchase of Grand Design, which has helped cushion some of the volatility in RVs. The company said in its recent earnings report that gross margin improved by 100 basis points to 15.4% and it continued to gain market share. Analysts see earnings per share increasing by 25% over the next two years to $4.01.
With its strong set of brands, favorable macroeconomic tailwinds, and a dividend yield of 1.4%, Winnebago looks like a smart buy at a P/E of just 10.8.
3. Delta Air Lines
The airline industry has a reputation as a minefield for investors, as it's historically been plagued by intense competition, steep losses, and fuel-price risk. However, recent consolidation has helped eliminate competition and boost industry profits, as four airlines now control 80% of the domestic market. That means the industry isn't the trap it used to be.
Delta Air Lines has emerged as a top operator and the world's #2 airline by passenger count. Today it trades at a P/E of just 9.9 and offers a dividend yield of 2.7%. Delta is coming off an impressive first quarter, and the company issued strong guidance for the second quarter and extended its credit card partnership with American Express (NYSE:AXP). The airline turned in a 28% increase in adjusted earnings per share in the first quarter, and adjusted total revenue per available seat mile (TRASM), a key industry metric, rose 2.4% to $16.70, while cost per available seat mile fell 0.2%.
Delta sees TRASM rising 1.5%-3.5% in the second quarter and earnings per share of $2.05-$2.35, up from $1.77 a year ago. The AmEx deal is a factor in that growth, adding one percentage point to TRASM, and the 11-year extension with the credit card company is expected to double benefits to Delta from $3.4 billion in 2018 to $7 billion by 2023.
Analysts also see earnings per share rising 18% this year to $6.68, meaning the stock trades at a forward P/E of just 8.6.
CVS, Winnebago, and Delta all offer investors strong brands with improving fundamentals and reliable profits. At a P/E ratios under 11, these all look like good options for value-hunters even in today's market environment.