Overview
The five companies covered in this article are profitable S&P 500 stocks. These five stocks have an average net profit margin of over 21%. A company's profitability is very important. Profits signal to banks, suppliers and other lenders that the business can pay debts. Profits earned which are kept in the business are known as retained profits. These funds can be distributed to shareholders in the form of dividends, used to buy back shares or reinvested in the company to facilitate future growth.
Furthermore, these stocks are trading at bargain basement prices based on the fundamental indicator known as the PEG ratio (Price/Earning/Growth). The PEG ratio is a widely accepted indicator of a stock's prospective value. Similar to the price to earnings ratio, a lower PEG means that the stock is more undervalued. Many investors use one as the cut-off point for PEG ratios. A PEG of 1 or less is believed to be a promising indication that significant value exists. As Warren Buffett would say, "Price is what you pay, value is what you get."
One caveat regarding the use of the PEG ratio is you need to perform additional due diligence and determine if the projected growth of the company is from healthy sources such as organic growth. Growth by acquisition or stocks buy backs may be unsustainable at some point.
Finally, these stocks are trading well below consensus estimates and 52 week highs. The companies are trading on average 49% below their consensus analysts' mean target prices and 39% below their 52 week highs. Now we must discern if these stocks are value traps or trades. We need to separate the wheat from the chaff by performing further due diligence. Simply screening for S&P 500 stocks with the highest profit margins, low PEG ratios and trading significantly below consensus estimates and 52 week highs is only the first step to finding winners for your portfolio.
Company Reviews
In the following sections, we will take a closer look at these stocks to determine if value exists. We will perform a review of the current fundamental and technical state of each company. Additionally, we will discern if any upside potential exists based on sector, industry or company specific catalyst. The following table depicts summary statistics and Thursday's performance for the stocks.
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Natural Gas Buying Opportunities
Natural gas companies have been hit hard by the glut of the product on the market, although that is about to change. Natural gas spiked 10% mid-day Thursday after data showed a smaller than expected builds in inventories.
The EIA reported U.S. natural gas stocks rose by 67B cubic ft., below the 71B-75B cubic ft. increase analysts had expected. Working stocks of natural gas totaled 2.94T cubic ft., up 708B cubic ft. Y/Y and 666B cubic ft. higher than the five-year average.
This bodes well for natural gas companies. The following two companies are leaders in the natural gas industry.
Apache Corp. (APA)
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Apache is trading well below its consensus estimates and its 52 week high. The company is trading 33% below its 52 week high and 44% below the analysts' consensus mean target price of $124 for the company. Apache was trading Thursday for $86.01, up nearly 4% for the day.
Fundamentally, Apache has several positives. The company has a forward PE of 6.60. Apache pays a dividend with a yield of .79%. Apache's current net profit margin is 24.27%. The company has a PEG ratio of .82.
I believe Apache presents a buying opportunity at this level. The stock has recently bounced off its low. The stock has recorded higher highs and higher lows in recent days. If the stock breeches the 50 day sma it may be a good point to start a position.
Southwestern Energy Co. (SWN)
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Southwestern is trading well below its consensus estimates and its 52 week high. The company is trading 45% below its 52 week high and 37% below the analysts' consensus mean target price of $36.79 for the company. Southwestern was trading Thursday for $26.94, up over 4% for the day.
Fundamentally, Southwestern has several positives. The company has a forward PE of 18.33. Southwestern's current net profit margin is 20.76%. The company has a PEG ratio of 1.01. EPS is expected to grow by 24% next year.
The drop in Southwestern's stock price has been brutal. The stock rebounded Thursday, but I would wait for confirmation the stock has reversed course prior to starting a position. Avoid this stock until the chart is more favorable. No need to catch a falling knife.
Basic Materials And Gold Buying Opportunities
The CPI and PPI numbers were deflationary in character giving the Fed carte blanche to ramp up another quantitative easing program as soon as possible. Moreover, Europe's only viable tactic is to paper its way out of insolvency. This may bring about a hyperinflationary environment favorable to basic materials and precious metal stocks. The following companies are my three top stock picks.
Cliffs Natural Resources Inc. (CLF)
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Cliffs is trading well below its consensus estimates and its 52 week high. The company is trading 52% below its 52 week high and 77% below the analysts' consensus mean target price of $84.50 for the company. Cliffs was trading Thursday for $47.26, up over 1% for the day.
Fundamentally, Cliffs has several positives. The company has a forward PE of 9.44. Cliffs' current net profit margin is 26.16%. The company has a PEG ratio of .61. EPS is expected to grow by 24% next year. The company pays a dividend with a healthy yield of 5.25%.
Cliffs is flirting with its 52 week low. The stock recently bounced off $46 and has moved higher. This may be an opportune time to start a position.
Freeport-McMoRan Copper & Gold Inc. (FCX)
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Freeport is trading well below its consensus estimates and its 52 week high. The company is trading 39% below its 52 week high and 56% below the analysts' consensus mean target price of $53 for the company. Freeport was trading Thursday for $33.90, up almost 2% for the day.
Fundamentally, Freeport has several positives. The company has a forward PE of 6.49. Freeport's current net profit margin is 24.64%. The company has a PEG ratio of 1.48. EPS is expected to grow by 30% next year.
Freeport's stock price was in a free-fall for most of May, as were many stocks. Nevertheless, the stock has been consolidating at this level for a few weeks and recently moved higher. Freeport appears undervalued at this level. I like the stock here.
Newmont Mining Corp. (NEM)
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Newmont is trading well below its consensus estimates and its 52 week high. The company is trading 29% below its 52 week high and 30% below the analysts' consensus mean target price of $65.89 for the company. Newmont was trading Thursday for $50.69, flat for the day.
Fundamentally, Newmont has several positives. The company has a forward PE of 9.44. Newmont's current net profit margin is 10.61%. The company has a PEG ratio of 1.12. EPS is expected to grow by 43% over the next five years.
Newmont's stock price has recovered substantially in the past few weeks. The stock has broken above the 50 day sma which is positive. The stock is a buy at this level.
Conclusion
We may be at an inflection point regarding the trends in basic materials and commodity stocks. Four of the five stocks in this article appear to have a favorable risk reward propositions based on fundamentals. I like Southwestern, but would wait for additional confirmation of a change in trend prior to starting a position.
Use this information as a starting point for your own due diligence and research methods before determining whether or not to buy or sell a security. If you choose to start a position in any stock, I suggest layering in a quarter at a time on a weekly basis at a minimum to reduce risk and setting a 5% trailing stop loss order to minimize losses even further.
