3 value stocks to buy for smart investors

Value stocks that have high earnings growth potential in the next five years.

  • By Faisal Humayun,
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With ultra-expansionary monetary policies coupled with re-opening of economies globally, stock markets have surged. The indexes in the United States have almost erased all losses incurred due to the novel coronavirus-driven economic slowdown.

As bullish sentiments sustain, it makes sense to remain invested or consider fresh equity exposure. However, investors need to abstain from stocks that are trading at rich valuations. At any point of time, there are value stocks up for grabs.

Let’s discuss three value stocks in this column that trade at attractive valuations. These names can deliver strong returns with a medium to long-term investment horizon.

Alibaba Group

Before I talk about the growth potential for Alibaba (BABA), investors will question the company’s categorization as a value stock. BABA stock currently trades at a price-to-earnings-ratio of 26.68. This might look expensive.

However, I would focus on the company’s potential earnings growth. Analyst estimates suggest that earnings growth is likely at 18% annually for the next five years. Therefore, factoring the potential growth, Alibaba Group is a value investment.

I also believe that the company’s earnings growth can accelerate in the coming years. The first reason is e-commerce expansion in Southeast Asia besides strong growth in China. Another reason is the company’s strong growth in the cloud business, which holds immense potential. For FY2020, the company’s cloud business growth was 62% with total revenue touching $5.7 billion.

It’s also worth noting that Alibaba reported free cash flow of $18.5 billion for the last financial year. The company has high financial flexibility and has pursued inorganic growth in the past. Acquisitions can also trigger higher earnings growth in the coming years.

Overall, BABA stock is attractively valued considering the growth potential. I believe that the stock belongs to the core portfolio. With Asia’s e-commerce boom, Alibaba Group is well positioned to make it big.

Chevron Corporation

In the recent market meltdown, energy stocks were battered. Several stocks have trended higher with renewed economic optimism and relatively higher oil prices. Among value stocks, Chevron Corporation (CVX) deserves a mention.

One of the reasons to like Chevron Corporation is the company’s quality balance sheet. The company expects its net-debt ratio to remain below 30% even if Brent remains at $30 per barrel through the year and in FY2021. Brent is already trading at $40 and Chevron Corporation is a long-term cash flow machine. To put things into perspective, Chevron expects free cash flow of $4 to $5 billion annually just from the Permian.

With strong fundamentals, the company’s diverse asset base will translate into sustained production and cash flow growth. Another reason to like CVX stock is the fact that the company pays an annual dividend of $5.16. With ample liquidity buffer and improving oil price, dividends are sustainable. Furthermore, dividends will increase once the current headwind is navigated.

At a current EV/EBITDA of 5.9, CVX stock is worth considering. As a matter of fact, another fundamentally strong name, Exxon Mobil (XOM), trades at an EV/EBITDA of 8.3. Therefore, on a relative basis, the stock is attractive.

Qualcomm Incorporated

QCOM (QCOM) stock also finds a place in my basket of value stocks. Again, the stock is trading at a P/E of 24.6, but earnings growth is likely at 18% on an annual basis over the next five years. While QCOM stock trades at a price-earnings-to-growth ratio of 1.34, the industry PEG is 2.68. Clearly, the stock is attractively valued in the industry with strong growth potential.

It’s no secret that Qualcomm is “the” company to consider in the 5G space. On the potential for the coming years, it’s estimated that 5G will enable $13.2 trillion of global economic output by FY2035. The application and impact will be across sectors like healthcare, manufacturing and automobile, among others.

It’s worth noting that Qualcomm has provided guidance for 5G handset shipments at 175 to 225 million for the current year. As economies re-open and consumption spending on non-essentials increases, the company stands to benefit.

From a balance sheet perspective, Qualcomm reported $10 billion in cash and equivalents as of March 2020. With a strong cash buffer, there is ample flexibility to invest in research-driven growth. I would consider QCOM for the core portfolio with 5G growth acceleration likely for the coming decade.

As of this writing, Faisal Humayun did not hold a position in any of the aforementioned securities.

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