Companies with high growth rates may generate lots of sizzle, but the "steak" of market outperformance comes from buying companies when they're cheap. As Warren Buffett once said, "You pay a very high price for a cheery consensus.... Uncertainty is actually the friend of the buyer of long-term values."
With the Fed's interest rate hikes and the recent regional bank issues making investors more fearful that a recession may be coming, the following three stocks appear to have been thrown out with the bathwater. These companies should survive the near-term economic headwinds and thrive over the long term, which makes them absolute bargains at the prices they are trading at today.
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LendingClub
Amid the recent banking crisis, fintech LendingClub (LC -2.08%) has sold off to just 0.65 times its book value. But looking out to the future, this neobank, which operates as both a banking institution and a fintech marketplace, looks well positioned to capture lots of the growing personal loan market.
LendingClub is the leading provider of unsecured personal loans, mostly to highly credit-worthy prime customers. Borrowers typically use these loans to consolidate variable-rate credit card balances into lower, fixed-rate loans that are repaid over three or five years. Others use personal loans to pay for home improvements, elective medical procedures, or other needs.
While LendingClub began operating under a pure marketplace model back in 2007, in 2021, it bought online-only Radius Bank, and thus became a bank itself with an established deposit base.
Having those deposits in 2022 was crucial, as it allowed LendingClub to hold loans on its balance sheet and continue originating more. Loans held on the books entail credit risk, but are ultimately expected to be more profitable than loans that are sold through the marketplace. The marketplace generates capital-light growth, so there is a plus to the marketplace model, but that source of funding dried up last year as interest rates rose. So having deposits was a godsend for the company in 2022.
In fact, J.P. Morgan & Chase analyst Reginald L. Smith just initiated coverage of both LendingClub and competitor Upstart, which operates as a pure marketplace. Smith gave LendingClub an overweight rating while Upstart got an underweight rating. The difference in his views of the two fintechs was largely due to the difference in their business models, as well as LendingClub's incumbent position as the largest personal loan provider.
No doubt, the industry is facing headwinds, and LendingClub is not immune. Third-party marketplace revenue was down 28% year-over-year last quarter, which is limiting LendingClub's growth. However, LendingClub's net interest income from loans held for investment was up 63%, offsetting the impact of that headwind.
LendingClub's loans reprice more slowly than the Fed's recent interest rate hikes, so it hasn't been practical for marketplace loan buyers to step in amid the ultra-fast rate increases of the past year. Yet with the Federal Reserve likely nearing the end of its hiking cycle, we could well see loan buyers step back in soon.
Once that happens, LendingClub should return to growth, and its bargain-priced stock could take off.
RH
Rising rates aren't just hurting banks -- they are also causing troubles in the housing market. Higher mortgage rates are deterring buyers, while current homeowners with low-rate mortgages are loath to put their houses up for sale.
That has really hurt the home furnishings market, even high-end retailers such as RH (RH -3.37%). RH's revenue peaked in 2021 at $3.76 billion, and declined to $3.59 billion last year; management recently projected revenues of just $2.9 billion to $3.1 billion in 2023.
However, even if the industry doesn't go back to the boom times of 2021, RH should remain profitable, and could regain and then exceed its 2021 peaks in the years ahead. This is because RH is on the cusp of two big expansion efforts: entering international markets, and making a horizontal growth move into the hospitality and services industry.
This summer, RH will open its first European design gallery, RH England, on a 73-acre, 17th-century estate, complete with three full-service restaurants and three smaller wine, tea, and juice bars. But that's just the start. In the next three years, RH has plans for nine more international openings throughout Europe and Australia.
In addition, RH is just beginning to build out its own branded hospitality and experiential services, such as guesthouses, charted jets, and yachts. Eventually, there will be RH-designed homes, integrating RH's architecture with interior and landscape design.
If these two brand extensions are successful, RH could well exceed its blockbuster 2021 numbers in time. In 2021, RH made $689 million in net income. Today, its market cap is just $5.4 billion, so the stock is trading at less than 8 times peak earnings. That's far too cheap if RH eventually resumes growth after the Fed stops hiking rates and the housing market recovers.
Atkore
Speaking of the slowdown in housing, poor sentiment about construction seems to have hurt the stock of Atkore (ATKR 1.17%), an under-the-radar supplier of wiring, conduit, and plastic and metal enclosures. But while Atkore's products are used in residential construction, the non-residential construction sector -- which has been less affected by the current macro conditions -- is actually a much bigger market for the company.
Atkore saw an above-average profit surge during 2022. Its input costs soared, but demand was even higher, allowing it to impose outsized price increases. However, prices for many of Atkore's core commodities, such as copper, steel, and PVC resin, are now on the decline, so investors appear to believe that Atkore's revenue and profits will revert to much lower levels. Hence why the stock trades at just 6.6 times earnings.
However, that may be too pessimistic. Atkore is a bit more differentiated than a mere commodity supplier of wiring and conduit solutions. It offers a broader range of wiring and enclosure products than peers, allowing customers to order a variety of products in one truck with a single invoice, rather than having to source them from six or seven suppliers.
That simplicity and its high customer service allow Atkore to sell at a slight premium to competitors, as its products only amount to a low single-digit percentage of overall construction costs. It's also why management believes a decent proportion of its recent price increases are sustainable. While Atkore's adjusted EBITDA (earnings before interest, taxes, depreciation, and amortization) reached $1.34 billion in the fiscal year that ended in September, management believes last year's "normalized" EBITDA would have been $757 million outside of excess price increases. At a $5.7 billion enterprise value, that's still a very reasonable EV/EBITDA ratio of less than 8, even at "normalized" profit levels.
But Atkore recently increased its fiscal 2023 EBITDA guidance to $1 billion, so it should still enjoy outsized profits in 2023. Management also has an outstanding track record of capital allocation, returning cash to shareholders via share buybacks while also making small tuck-in acquisitions of regional construction suppliers. Atkore folds these businesses into its corporate structure and improves their operations under its "Atkore business system," improving profitability through synergies and best practices.
And while sales in the single-family housing market are down, Atkore should benefit from the three major infrastructure bills that Congress passed in the past couple of years. The construction of data centers promoted by the CHIPS Act of 2022, the fiber broadband infrastructure build-out funded by the Infrastructure Investment and Jobs Act that President Biden signed in late 2021, and the burying of electrical distribution and transmission lines funded by the Inflation Reduction Act of 2022 will all be boons to Atkore's business. In light of all that, Atkore looks like a deep value with underrated growth prospects.
