Many quality businesses are getting caught up in the wave of stock sell-offs that is sweeping the market. Share prices of diversified industrial giant Caterpillar (CAT 1.29%), Latin American e-commerce titan MercadoLibre (MELI 2.35%), and fintech leader PayPal (PYPL 2.04%) and are all down in price by roughly 20% in the last six months. From their 52-week highs, PayPal and MercadoLibre are both down 40% or more.
Here's why all three blue-chip stocks are worth buying on sale now.
1. Caterpillar: The value and income play
Caterpillar sells its equipment through a dealership network. When dealer inventories are high, it means dealers either have too much inventory and not enough customer demand, or they are expecting a lot of demand, so they increase inventories. When inventories are low but perceived demand is high, that means customers are likely to order more equipment from Caterpillar. This second scenario seems to be in play right now.
In the third quarter, Caterpillar's dealers decreased inventory by $300 million. Caterpillar said that dealer inventory is about flat from where it was at the end of 2020 -- which was down $2.9 billion compared to 2019. For context, consider that 2020 was the largest dealer inventory reduction since 2013. This is all to say that dealer inventories are still very low.
Dealer inventories matter because they show that although Caterpillar has recorded mostly mediocre results this year, it could still be on the brink of a multi-year cyclical upswing with the broader economy. COVID-19 variants, inflation, and geopolitical risk could throw a wrench into when exactly this happens. But in the meantime, investors will collect a dividend that's yielding 2.3% and knowing that Caterpillar has increased its dividend annually for 27 consecutive years.
2. MercadoLibre: The e-commerce play
South American e-commerce giant MercadoLibre has seen its share price cut in half in just three months. Yet even with that sell-off, MercadoLibre stock is still up nearly six-fold over the last five years. The company's Q3 revenue broke yet another record and was, coincidentally, six-fold higher than Q3 2017. The company is profitable, growing quickly, and does the same thing as Amazon, PayPal, and Shopify in a fast-growing market. So why has Wall Street suddenly turned sour on MercadoLibre?
For starters, MercadoLibre recently announced a sizable equity offering, meaning it will sell shares to raise cash to fund its growth. The company also isn't likely to meaningfully grow profit over the short term because it's spending a lot of money on growth. MercadoLibre is the industry leader in a market that still needs time to undergo its digital transformation. MercadoLibre has a mere $53 billion valuation, which is less than a fourth of what PayPal sports. Given that the Latin American e-commerce market is still in the early innings, MercadoLibre looks like a great buy now.
3. PayPal: The fintech play
Speaking of PayPal, the digital payment solutions provider is yet another well-known growth stock that is treading water right above its 52-week low. The company's top-line growth has slowed, and its profit and free cash flow (FCF) are flatlining.
Like MercadoLibre, it's hard to imagine PayPal's business not growing well into the future. PayPal is a leader in business-to-business payment solutions, e-commerce, and even peer-to-peer payments through Venmo.
On one hand, the sell-off in higher-growth, lower-profit names like Square (SQ 4.28%) makes sense. Square doesn't generate nearly the cash or profit that PayPal does, so its investment thesis is largely tethered to revenue growth. I agree with my colleague Will Healy that investors should not ignore PayPal's advantages amid Square's competitive moves. For PayPal's stock price to be down 40% from its high when it transformed itself into an incredibly profitable business simply doesn't add up.
Quality options to choose from
Caterpillar, PayPal, and MercadoLibre are completely different companies, but they are all in growing industries. Caterpillar's exposure to energy, construction, and the overall pulse of global economic output is something that will go through cycles but should grow over time. Latin American e-commerce and the war on cash are trends that should continue to expand as existing technology takes root in developing countries and new technology brings more of the global economy online.
Investors looking for bargains could do well to find their favorite industry and then select companies that have a real chance of shaping and growing that industry in the future. Whether it's searching for gems in developing markets or simply buying a leader like PayPal, there are plenty of ways to take advantage of the sell-off in a way that suits your risk tolerance.