Recent macro uncertainty and stock market volatility has forced investors to run for safety. Some over hyped and overvalued Web2.0 stocks are now testing reality, while a lot of quality stocks are also bearing the brunt and are now available at attractive valuations. I believe it is prudent to shift towards deep value names in this environment. Since Warren Buffett is the greatest value investor of our times, I scanned his portfolio for low PE stocks which can provide attractive investment opportunities in the current environment. The following is a list of his ten holdings which are trading at a forward PE of less than 10.
Wells Fargo & Company
General Dynamics Corporation
General Motors Company
The Bank of New York Mellon Corporation
Gannett Co., Inc.
I like Wells Fargo, DirecTV, Sanofi and Gannett the most among above stocks. However, I would like to avoid General Dynamics despite of its low PE because of uncertainty over defence budget cuts in medium term. Here's a detailed look at these stocks.
Wells Fargo provides one of the best risk adjusted return potential among the large cap banking stocks. Wells Fargo is one of the well-capitalized banks with a strong balance sheet. Thanks to its balance sheet strength, it is more immune to any near term slowdown or eurozone shock than its large cap banking peers like Citigroup (C) and Bank of America (BAC). On the other hand, it is likely to see a good upside as the broader economy recovers in the long-term. It also has a good potential to gain market share from relatively weaker banks. At a current valuation of less than 9x forward PE, it appears to be a very good investment for investors with low risk appetite who are looking to build a position in financial services sector.
DIRECTV is trading at a forward PE of 8.86. DIRECTV, Inc. provides digital television entertainment in the United States and Latin America. The company provides direct-to-home digital television services, multi-channel video programming distribution services, as well as video-on-demand services, approximately 160 national high-definition television channels and four 3D channels.
DTV is posting good growth in Latin America. In a matured, low growth U.S. market, DTV is shifting its focus to customer management and retention, non-programming cost mitigation and negotiating digital managing rights for programming contracts. This selective targeting of higher credit scoring, higher ARPU subscribers and additional flexibility into programming contracts is expected to drive up margins.
Further, the company continues to buy back shares rapidly. It announced a $6 billion repurchase authorization for 2012. Overall, I believe, DTV is expected to benefit from its focus to higher end customer base in the U.S. and fast growing Latin American markets, providing substantial upside potential in the near term.
Sanofi has a dividend yield of 4.5% and a payout ratio of 48%. Sanofi is an attractively valued, well diversified, sustainable growth company. Going forward, otamixaban for ACS, the dengue fever vaccine, eliglustat (Gauche's) and the anti-PCSK9 antibody are the four major pipeline assets to watch out for. Each of these has over $1bn sales potential and could provide significant upside to Sanofi's growth targets. I find Sanofi's stock cheap at 9.5x forward earnings given the good growth prospects from these pipeline assets.
Gannett Co., Inc. is an international media and marketing solutions company, delivering content and services across an integrated, multi-platform portfolio. The Company's portfolio of national brands includes USA TODAY and CareerBuilder. The company increased its dividend 150% to $0.80 per share in February. It also announced its plans to buy ~$300 mn worth of shares in next two years. GCI expects to return about $1.3 billion of cash to holders by 2015.
GCI also laid a plan to lift total revenues 2-4% annually through 2015. Besides circulation pricing increases, three key growth areas highlighted in the plan were improving user engagement of USA Today sports network; improving client adoption in GannettLocal targeting GCI's 150k SMB clients; and Digital Subscriptions.
If management's growth plans work, one can expect a further upside to the stock price and a dividend increase. In the meantime, the attractive 5.90% yield will provide a downside support to the stock price.
General Dynamics is one stock in the above list which I think one should avoid. General Dynamics is trading at a forward PE of 8.38. I would like to avoid General Dynamics because of its defence exposure, which will get adversely affected due to federal budget cuts. I am bearish on General Dynamics because of a slowing defence budget, which will place a cap on the top-line growth for General Dynamics and the other defence primes. Given the dire state of Federal finances, I see this defence budget slowdown continuing for the next several years. In addition, General Dynamics' business jet end market might also see a slowdown. Although valuation appears to be low, the company is unlikely to see much upside as defence remains an unloved sector among investors.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.