This is a guest contribution by Bob Ciura with Sure Dividend
Investors tend to associate the Dow Jones Industrial Average with America’s best blue-chip stocks. Indeed, the Dow Jones Industrial Average is comprised of 30 of the largest U.S. companies, diversified across a variety of market sectors.
The 30 stocks included in the Dow Jones Industrial Average are all large-cap stocks with recognizable brands that lead their respective industries. But not all Dow Jones stocks are buys right now. Some Dow components have very low dividend yields, making them unattractive to income seekers such as retirees, while others are overvalued.
With that in mind, we have screened for the top 3 Dow stocks that have the best combination of low valuations, growth potential, and compelling dividend yields.
Best Dow Jones Stock #3: Goldman Sachs (GS)
Goldman Sachs is a giant financial institution, with a market capitalization of $72 billion. It provides a diversified lineup of financial services, including asset management, investment banking, trading, and institutional client services. Goldman Sachs reported first-quarter earnings on 4/15/19 and while results beat analyst consensus estimates, several core metrics declined from the same quarter last year.
Total revenue fell 13% year-over-year to $8.81 billion due to weakness across multiple business segments. Investment Banking revenue was flat, but Institutional Client Services revenue fell 18%, Investing & Lending revenue declined 14%, and Investment Management revenue dropped 12% year-over-year. Higher losses in the bank’s consumer portfolio saw provisions for credit losses increase from just $44 million in the 2018 comparable period, to $224 million in the 2019 first quarter. Earnings-per-share fell 18% year-over-year, from $6.95 to $5.71 due to the above factors.
One major reason for Goldman Sachs’ year-over-year declines is due to a difficult comparison. 2018 was a strong year for the major U.S. financial institutions. But over the past year, the Federal Reserve suspended interest rate hikes, while elevated volatility in global stock markets had a negative impact on client activity as well.
However, Goldman Sachs has a strong long-term growth trajectory. It is among the leading brands in the financial industry. It attracts the best talent, and a short-term decline due to a tough comparison is not a long-term indicator. Share buybacks will also help boost EPS growth going forward. We expect 8% annual earnings growth through 2024.
Goldman Sachs appears to be an attractively valued stock today. Tangible book value per share was $198.25 at the end of the first quarter, and the stock now trades below tangible book value. The stock also has a dividend yield of 1.7%, and the company recently raised its dividend by 6%. Shares trade for a P/E ratio of 8.4, below our fair value estimate of 10.5. The combination of a rising P/E multiple, EPS growth, and dividends could lead to expected returns of 14.3% per year over the next five years.
Best Dow Jones Stock #2: Caterpillar Inc. (CAT)
Caterpillar manufactures industrial Earth-moving equipment, used in multiple industries including construction, oil and gas, and mining. The company is enjoying a period of pronounced earnings growth right now, thanks to strong order activity and cost cuts. In 2018, revenue increased 20% to nearly $55 billion, while adjusted earnings-per-share soared over 60% to a company record.
Despite rising trade tensions to begin 2019, Caterpillar has maintained its positive momentum so far this year. In the 2109 first quarter, sales increased 5%, while adjusted EPS increased 19%. Resource Industries segment revenue increased 18% for the quarter, while Construction Industries saw revenue increase by 3%.
Caterpillar continued to perform well domestically with 7% revenue growth in the U.S. in terms of total machine, energy, and equipment sales. Revenue increased 9% in Asia-Pacific, and 9% in Latin America as well. Caterpillar EPS growth of approximately 12% for the full year.
Caterpillar should be able to grow earnings in the years ahead thanks to the company’s margin-expansion efforts. In 2018 Caterpillar’s adjusted operating margin rose to 13%, and is expected to rise further to 16% in 2019. In addition to cost cuts to drive margin expansion, Caterpillar expects to double its Machine, Energy & Transportation services sales to $28 billion by 2026, from $14 billion in 2016.
Caterpillar has shared its renewed growth with investors. Caterpillar recently increased its quarterly dividend by 20%. Caterpillar is a dividend aristocrat, an exclusive group of 57 stocks in the S&P 500 Index with 25+ consecutive years of dividend growth. With an expected dividend payout ratio below 30% for 2019, Caterpillar has plenty of room to continue increasing its dividend moving forward.
Caterpillar stock trades for a P/E ratio of 10.0, based on 2019 EPS estimates of $12.25. Fair value is estimated at a P/E of 15, meaning the stock is significantly undervalued. An expanding P/E ratio could boost annual returns by 8.5% per year over the next five years. In addition, expected EPS growth of 5.0% per year plus the 2.8% dividend yield produce total expected returns above 16% per year over the next five years.
Best Dow Jones Stock #1: Walgreens Boots Alliance (WBA)
Walgreens is our top Dow Jones stock right now, as it has the most attractive combination of value, growth, and dividends. Walgreens Boots Alliance is a large pharmacy retailer, with over 18,500 stores in 11 countries around the world. It also operates one of the largest global pharmaceutical wholesale and distribution networks in the world, with more than 390 distribution centers.
In early April, Walgreens reported disappointing quarterly results. Revenue of $34.5 billion increased 5% year-over-year, but missed analyst expectations by $40 million. Adjusted EPS of $1.64 also missed, coming in significantly below the $1.72 consensus forecast. Adjusted EPS declined 5% for the quarter.
Walgreens attributed the poor quarterly results to significant reimbursement pressure, generic deflation, and weakening overall market conditions in the U.S. and the U.K. Walgreens also reduced its full-year outlook. The company now expects adjusted EPS to be roughly flat in 2019, from previous expectations of 7% to 12% EPS growth as 2019 will be a year of elevated investments.
Investors have sold the stock due largely to worries about e-commerce competitors such as Amazon, but even in a difficult period, Walgreens grew its retail pharmacy sales by 7.3% last quarter. Prescriptions and pharmacy retail will benefit from the aging U.S. population and corresponding increase in demand for healthcare products and services.
Walgreens is also very recession-resistant. Consumers are unlikely to cut spending on prescriptions and other healthcare products. Walgreens’ adjusted earnings-per-share declined by just 7% during 2009 – the worst of the global financial crisis – and the company actually grew its adjusted earnings-per-share from 2007 through 2010.
Walgreens is a highly appealing stock due to its dividend growth and attractive valuation. Walgreens currently yields 3.4% and the company has increased its dividend for over 40 years in a row. Walgreens is also a cheap stock on a valuation basis. Walgreens stock has a price-to-earnings ratio of just 8.7x, which indicates a deeply undervalued stock. A valuation multiple closer to 13x would still be a reasonable valuation for Walgreens, and would increase shareholder returns by 8.4% per year through 2024.
The 3.4% dividend yield and expected EPS growth of 6%, combined with a higher P/E ratio, would lead to total returns of 17.8% per year, a highly attractive rate of return for value and income investors.
Sure Dividend helps self-directed investors and investment professionals find high quality dividend growth stocks for the long run. We specialize in long-term investing for rising passive income over time. Sure Dividend was founded in 2014 and is trusted by more than 100,000 investors who receive Sure Dividend’s free dividend information.
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