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All Contents © 2020The Kiplinger Washington Editors
By Benjamin Cole, Contributing Writer
| December 9, 2019
As the calendar turns to 2020, investors need to appraise the stock markets in a new light. 2019 came and went with three interest-rate cuts – not the hikes many suspected at the start of the year – and the longest economic recovery of the postwar era continued. The market has subsequently shot to sky-high prices, setting up a 2020 in which value stocks should be … well, valued.
The S&P 500 trades at more than 23 times its trailing 12-month earnings – a level seen only a few times in the market's history. The index also trades at a sky-high 19 times analysts' estimates for future earnings. That's sustainable as long as investors have enough reasons to be bullish. But several things – another breakdown in trade relations, the U.S. entering recession and more – could spark an exodus from expensive stocks.
It's not all bad. The market's best value stocks – which often have defensive qualities, including paying significant amounts of dividend income – would likely thrive in a flight to quality.
Here are 10 of the best value stocks to buy heading into 2020. It's a short list, to be sure, as 2019's rally has driven a wide swath of stocks into frothy territory. But each of these stock picks offers value and a favorable fundamental outlook heading into the new year.
Data is as of Dec. 8. Dividend yields are calculated by annualizing the most recent quarterly payout and dividing by the share price.
Market value: $25.6 billion
Dividend yield: 2.6%
Forward price-to-earnings (P/E): 11.5
Cruise-ship operator Royal Caribbean Cruises (RCL, $122.07) has posted three straight years of income growth, and is expected to expand its profits by high single digits to low double digits over the next two years – growth any investor would be happy to see out of their value stocks. Yet RCL shares trade at just a little more than 11 times future earnings estimates – well below the industry average and far less than the S&P 500.
While you're surely familiar with the Royal Caribbean brand, RCL actually operates three other brands: Celebrity Cruises, Azamara and Silversea Cruises. Combined, those operations span 63 ships, with another 15 on order.
Those vessels also have become much larger over the past few decades – great for cruise-line operators because they shrink per-capita operating costs. Before the 1900s, ships were likely to carry less than 2,000 customers. But the largest now float well more than 6,000 passengers, and are more fuel efficient – a major cost consideration. Royal Caribbean's fleet includes the four biggest titans in the water, including the $1.35 billion Symphony of the Seas. This cruise ship, which launched in 2018, holds 6,680 passengers and 2,200 crew throughout 18 decks split into seven "neighborhoods."
Cruise operators are building larger ships not just for economies of scale, but to handle burgeoning demand. The Cruise Lines International Association's 2019 outlook estimated 30 million travelers would cruise in 2019, up from 10 million in 2009. Major line operators including Royal Caribbean are beginning to ply the China coast – a potentially gigantic market in years ahead. And while the cruise lines are competitive with one another, there are massive barriers to new entrants. New ships cost hundreds of millions (if not billions) of dollars and require intensive design skills.
In discussing Royal Caribbean, credit-rating agency Moody's says, "Royal Caribbean Cruises Ltd.'s (Baa2, P-2) credit profile benefits from its solid market position as the second largest global ocean cruise operator based upon capacity and revenue which acknowledges the strength of its brands. RCL is well diversified by geography, brand, and market segment."
Market value: $16.4 billion
Dividend yield: 2.7%
Forward P/E: 8.0
Magna International (MGA, $53.62) is a Canadian Dividend Aristocrat that operates in the prosaic world of manufacturing large automobile components and parts, and sometimes even whole vehicles (under contract) for the major automakers.
Automobiles are not regarded as a growth industry, but indeed, Magna has been growing for years. And it recently topped the Street's earnings views when it reported third-quarter profits of $1.41 per share despite an ongoing GM strike. The company is expected to take a step back this year, but analysts also see the company rebounding to roughly 2018 levels next year.
There are other growth prospects, too. For instance, in July, the company signed a deal with China-based BAIC Corp. and the local government to build and operate an electric-vehicle manufacturing plant in Zhenjiang, China, that should be operational in 2020 with a planned output of 180,000 vehicles a year. By way of comparison, Tesla (TSLA) makes about 360,000 units a year.
The global auto industry might be soft, but Magna has a profitable role efficiently providing components to major automakers, and it's expanding its presence in China. When you consider that all that potential trades for just 8 times earnings estimates, you'll understand MGA's place among the best value stocks to buy for 2020.
Market value: $17.1 billion
Dividend yield: 3.7%
Forward P/E: 5.8
Shinhan Financial (SHG, $37.09) is not a household name – at least, not in the U.S. Shinhan is a $17 billion holding company behind Shinhan Bank, the largest and oldest bank in South Korea, with roots extending back to 1897.
Despite the august history, Shinhan isn't immune from weakness. Shares have only appreciated 4% year-to-date, as the bank has struggled with geopolitical tensions, trade tussles, a slowing GDP outlook in South Korea and globally, and lower interest rates. That's right – the Fed isn't the only central bank lowering rates. South Korea has executed a pair of rate cuts with less than a month to go in 2019.
Nonetheless, a forward P/E of less than 6 seems a bit much.
For one, that's cheaper than many of its foreign-bank peers. The price also seems cheap for a consistently growing company. Shinhan has posted a half-decade of uninterrupted profit growth and is on pace to record its sixth in 2019. Q3 profits, for instance, were up 22% year-over-year.
Shinhan also stands out among other value stocks for its upbeat perception among analysts. Seventeen of the 22 analysts covering SHG shares rate it a Buy or Strong Buy. The other five, while not bullish, aren't bearish either, dishing out Hold-equivalent ratings. And their median price target implies roughly 23% upside for the year ahead.
Shinhan's credit analysis is solid, too. Standard & Poor's gave SHG an "A" long-term rating and "A-1" short-term rating, writing, "The ratings on Shinhan Financial Group reflects the group's strong market position as the largest financial holding company in Korea."
Market value: $79.5 billion
Dividend yield: 2.2%
Forward P/E: 9.6
Investment-bank goliath Goldman Sachs (GS, $224.61) is stretching its tentacles, delving further into commercial and even consumer banking. Recently, the nearly $80 billion financial stock has added products such as its Marcus by Goldman Sachs online bank, as well as the Apple Card via its partnership with Apple (AAPL).
The industry outlook for financial stocks isn't exactly transparent. Low interest rates are cramping commercial banking operations. Budding legacy-free fintech competition is eating established players' lunches. Some companies are eschewing the initial public offerings that banks such as Goldman Sachs underwrite, instead opting to execute their own direct listings.
Nonetheless, Goldman has found a way to not only grow, but grow explosively. Revenues have been climbing higher since 2015, but spiked by 50% year-over-year in 2018. Income growth hasn't been as consistent, but that's understandable given the variance among all of Goldman's business lines.
GS shares trade at less than 10 times forward-looking estimates, which – like several of the value stocks on this list – include expectations for a recovery in 2020 after an operational pullback in 2019. That's less than what you'll pay for mega-banks such as JPMorgan Chase (JPM) and Bank of America (BAC), and in line with rival Morgan Stanley (MS). More impressive is its low valuation despite a rip-roaring 34% run in 2019.
Something to watch in 2020: The company is doing a "front-to-back" business line review that should be out in January. That's one of the few things keeping BMO Capital analyst James Fotheringham on the sidelines at the moment. Otherwise, his recently raised price target of $278 per share implies roughly 24% gains in the year ahead.
Market value: $5.7 billion
Dividend yield: 1.1%
Forward P/E: 9.8
Toll Brothers (TOL, $40.88), one of the nation's largest homebuilders, also trades for less than 10 times analysts' forecasts for next year's earnings. And also like Goldman, that low valuation comes despite a decent run of 24% in 2019 that's just barely below the S&P 500's return.
Toll Brothers is far from alone – most of the rest of the homebuilding industry has soared across 2019. Indeed, Toll is underperforming competitors such as PulteGroup (PHM) and KB Home (KBH), in part because its 2019 numbers aren't coming in as robust as they did in 2018. But, yet again, analysts are expecting improvement for this value stock in 2020, projecting low-single-digit sales and profit growth. TOL shares also trade at a slightly lower multiple than the aforementioned competitors and others.
Because Toll Brothers develops real estate, credit is its lifeblood. Fortunately, the credit-raters like the company. Moody's wrote in November that its investment-grade Ba1 rating "reflects the company's position as the sole national homebuilder with a meaningful focus on the upper-end homebuilding segment, a widely recognized brand name, and significant financial flexibility stemming from its ability to greatly restrict land spend."
Low interest rates, high housing demand and limited home supply have buoyed the industry in 2019, and that's expected to continue into 2020. Several experts are predicting those low rates to persist, and low supply to remain thanks to homeowners staying in their homes much longer than they had in the past. If next year is anything like 2019, Toll Brothers will be among the best value stocks to hold in 2020.
Market value: $2.3 billion
Dividend yield: N/A
Forward P/E: 10.0
Wesco International (WCC, $55.21) is a diversified manufacturer and distributor of electrical, industrial, and communications parts and equipment. The company boasts relationships with literally thousands of brands, and its products are used in everything from intelligent buildings and cloud computing to alternative energy and physical security.
Wesco's growth, both on the top and bottom lines, has fluctuated a bit over the past decade, but both have been pointed in the right direction over the past couple years. Analysts expect growth to continue in 2019 and extend to at least next year. Revenues are forecast to grow at 2% annually, while profits should expand by mid- to high single digits.
Those modest growth estimates have earned the stock an unequally modest valuation. WCC shares trade at about 10 times earnings – cheaper than the industry average of about 11.
One thing that sticks out at Wesco is an aggressive share buyback program – it's in the midst of a $400 million program set to expire in 2020, and has so far repurchased $275 million. For comparison's sake, Wesco is worth just $2.3 billion by market capitalization.
This is a boring stock with little media coverage. But its product diversification and value prospects make WCC a stock worth looking at for 2020.
Market value: $2.2 billion
Dividend yield: 5.8%
Forward P/E: 10.5
If Kontoor Brands (KTB, $37.90) doesn't sound familiar, don't worry – its brands, which include Wrangler and Lee jeans, certainly are.
Kontoor Brands is a brand-new company that was spun off from apparel conglomerate VF Corp. (VFC) in May 2019. And for the moment, it seems like Wall Street hasn't quite figured out the stock, as it trades at a little more than 10 times estimates – less than half what some competitors are priced at, and less than half of VFC's forward P/E.
In the latest company conference call, management explained plans to expand Lee and Wrangler sales geographically, to nearly untouched China and the Far East, as well as into other apparel, such as T-shirts – something they barely touched while under the VF stable. Other jeans brands sell five tee-shirts for every pair of jeans, but before the Kontoor spinoff, Lee and Wrangler sold 500 pairs of jeans for every T-shirt. Kontoor also has introduced an All Terrain Gear outerwear line into Wrangler.
It's early days, but Wall Street has been upbeat of late. Over the past three months, five analysts have sounded off on KTB shares, with four of those rating the stock a Buy. Even the lone dissenter – Barclays' Adrienne Yih, who rates the stock Equal Weight (equivalent of Hold) – notes that the company has international growth potential, as well as light exposure to China product sourcing. That latter quality stands out as long as the U.S. and China are at trade odds.
Courtesy Don Sniegowski via Flickr
Market value: $21.5 billion
Dividend yield: 3.2%
Fifth Third Bancorp (FITB, $30.25) might not be a national brand, but it's not a no-name either. This large-cap regional bank boasts more than 1,200 full-service locations in 10 states, primarily across the American Midwest and Southeast.
And like many U.S. banks, it's getting bigger not just organically, but through M&A. In May, FITB closed on its acquisition of MB Financial, another Midwest bank. Importantly, it got a credit-ratings agency's thumbs up after the acquisition (often, these agencies look skeptically at M&A because of debt exposure). Nonetheless, DBRS upgraded Fifth Third's credit rating, viewing the acquisition as "strategically compelling as it improves Fifth Third Bancorp's franchise by adding scale and expertise in the highly competitive, but attractive Chicago market."
The stock's 2019 performance of about 29% has been just above the financial sector's, which in turn has been slightly better than the broader market. FITB has earned it – profits are on pace to grow by about 11% in 2019, and revenues are running even faster, with analysts expecting a 14.5% improvement. The issue analysts see is next year; on average, the pros think revenues will pull back by 2%, while profit growth will slow to mid-single digits.
That said, UBS's Saul Martinez upgraded the stock to Buy in October 2019. In addition to fee momentum and additional merger savings, he sees FITB as one of just a handful of banks in his coverage area that will generate positive operating leverage in the year ahead. He also sees the stock as a value – and thinks the stock's P/E will right itself (meaning higher prices ahead) as investors catch on to its profit growth.
Market value: $12.5 billion
Dividend yield: 4.0%
Forward Price-to-Funds From Operations (P/FFO): 19
Vornado Realty Trust (VNO, $65.56) is a real estate investment trust (REIT) that owns prime New York City properties, as well as theMART in Chicago and 555 California Street in San Francisco. While its office and residential portfolios are doing well, its retail properties are a bit slack – a factor that has weighed on the REIT amid a strong 2019 for much of the real estate sector.
Vornado is investing in and preparing for market its large-scale Farley, Penn1 and Penn2 mixed-use office building projects in New York, comprising 5.2 million square feet of space between the Midtown and Chelsea districts, heavily serviced by mass transit and a few blocks from the Empire State Building. This is a large buildout for Vornado, which owns about 20 million square feet of office space in New York.
In the company's latest conference call, management said the projects are proceeding well, and promise to bring in higher rents. In particular, VNO is hopeful about the repositioning of the 860,000-square-foot former James A. Farley Post Office into creative-office space.
"As closings continue through 2020, we retain all net proceeds which importantly will be redeployed into the Penn District redevelopments, turning this capital into highly accretive earnings and propelling our future growth," Vornado President Michael J. Franco said during Vornado's most recent quarterly earnings call.
However, the company also said it would earn $3.40 per share in funds from operations (FFO, an important profitability metric for REITs) in 2019, down from $3.76 last year. Its FFO difficulties in 2019 are one likely factor for the stock's slow year.
Indeed, SunTrust analyst Michael Lewis recently lowered his FFO estimates for the company, to $3.42 per share this year and $3.44 in 2020. That said, he maintained a Buy rating on the stock because of its deep-value proposition – it trades at a considerable discount to the net value of its assets compared to office-REIT peers. A 4% dividend yield, meanwhile, puts Vornado among the better-yielding value stocks to buy for 2020.
Market value: $294.1 billion
Dividend yield: 5.0%
Forward P/E: 17.7
Some of the best value stocks are inexpensive because investors simply don't know about it. Exxon Mobil (XOM, $69.51) is followed by a small army of analysts, however, so there's barely any aspect of the integrated oil giant that's not examined in detail. Instead, Exxon simply becomes a value once good, old-fashioned pessimism drives its stock price too low.
The oil industry has been struggling with low prices for most of the past half-decade. A significant plunge in 2014 took crude oil out of triple-digit prices, and they haven't returned since. America's shale revolution added even more production from a market that didn't need it. Now, the markets are flush with supply, but not so much with demand.
But analysts do see good things ahead. In 2019, analysts project Exxon to report an 8.3% decline in revenues and a 45% plunge in profits. But next year, the company is expected to recover, with a small 2% rebound in revenues and a 41% pop on the bottom line.
Among the reasons to be optimistic are its 45% interest in the Stabroek block offshore Guyana. Exxon made a massive find, the Tripletail-1 well, in mid-September, that "adds a yet-to-be-determined volume to the estimated 6 billion barrels of recoverable oil discovered at these first three development areas in the Stabroek block."
Also, Exxon hasn't spent the past few years sitting still. It has innovated various ways to make its operations more profitable in low-oil-price environments. Neil Hansen, vice president of investor relations, said during the company's most recent earnings conference call that "even at $35 a barrel, we expect to generate a 10% return" out of Exxon's upstream operations.
Exxon trades at a forward P/E that's roughly in line with the energy sector, and a bit cheaper than the broader market. But its value proposition also includes a high 5% dividend yield, driven higher in large part thanks to lower stock prices. Thus, XOM will pay you while you wait – and if crude prices recover, watch out.