U.S. equity markets ended their four-day losing streak aided by better-than-expected corporate earnings and broad-based growth across sectors. The solid start to the week restored the growth momentum that was apparently paused by a market correction triggered by credit rating agency Fitch trimming the long-term foreign currency issuer default rating for the United States to AA+ from AAA. The downgrade was made citing “expected fiscal deterioration over the next three years.”
Despite signs of a resilient economy with the personal consumption expenditures price index rising 2.6% in the second quarter, moderating inflation with the Federal Reserve hiking interest rates by a quarter percentage point, and solid corporate earnings, markets appeared to be under “constructive rotation.” However, investors have broadly taken the decline in stride as fundamental views about the economy, in general, remain relatively strong.
The focus has now shifted to the Fed’s Sep 19-20 policy meeting. This will likely be another market catalyst, with investors looking for cues about the broader economy and the trajectory of future interest rate hikes.
As investors employ a wait-and-see approach in a classic example of “backing and filling” in the market, they can benefit from “cash cow” stocks that garner higher returns. However, identifying cash-rich stocks alone does not make for a solid investment proposition unless it is backed by attractive efficiency ratios like return on equity (ROE). A high ROE ensures that the company is reinvesting cash at a high rate of return. AutoNation, Inc. AN, Suzano S.A. SUZ, KLA Corporation KLAC, Nexstar Media Group, Inc. NXST and América Móvil, S.A.B. de C.V. AMX are some of the stocks with high ROE to profit from.
ROE: A Key Metric
ROE = Net Income/Shareholders’ Equity
ROE helps investors distinguish profit-generating companies from profit burners and is useful in determining the financial health of a company. In other words, this financial metric enables investors to identify companies that diligently deploy cash for higher returns.
Moreover, ROE is often used to compare the profitability of a company with other firms in the industry — the higher, the better. It measures how well a company is multiplying its profits without investing new equity capital and portrays management’s efficiency in rewarding shareholders with attractive risk-adjusted returns.
In order to shortlist stocks that are cash-rich with high ROE, we have added Cash Flow greater than $1 billion and ROE greater than X-Industry as our primary screening parameters. In addition, we have taken a few other criteria into consideration to arrive at a winning strategy.
Price/Cash Flow lesser than X-Industry: This metric measures how much investors pay for $1 of free cash flow. A lower ratio indicates that investors need to pay less for a better cash flow-generating stock.
Return on Assets (ROA) greater than X-Industry: This metric determines how much profit a company earns for every dollar of asset, which includes cash, accounts receivable, property, equipment, inventory and furniture. The higher the ROA, the better it is for the company.
5-Year EPS Historical Growth greater than X-Industry: This criterion indicates that continued earnings momentum has translated into solid cash strength.
Zacks Rank less than or equal to 2: Zacks Rank #1 (Strong Buy) or 2 (Buy) stocks are known to outperform irrespective of the market environment.
Here are five of the 20 stocks that qualified the screening:
AutoNation: Incorporated in Delaware in 1991, AutoNation is the largest automotive retailer in the United States. Apart from retailing new and used vehicles, the company offers vehicle maintenance and repair services, vehicle parts, extended service contracts, vehicle protection products and other aftermarket products. In addition, AutoNation arranges financing for vehicle purchases through third-party sources.
It has a VGM Score of B. The stock delivered a trailing four-quarter earnings surprise of 4.8%, on average. AutoNation carries a Zacks Rank #2.
Suzano: Headquartered in Salvador, Brazil, Suzano produces and sells eucalyptus pulp and paper products. With more than 90 years of experience, this vertically integrated firm is one of the largest producers of paper and graphic products in South America.
Suzano has a long-term earnings growth expectation of 6.9% and delivered a trailing four-quarter earnings surprise of 10.4%, on average. It has a VGM Score of B. It sports a Zacks Rank #1.
KLA Corporation: San Jose, CA-based KLA Corporation is an original equipment manufacturer of process diagnostics and control equipment and yield management solutions required for the fabrication of semiconductor integrated circuits or chips. The company has a comprehensive portfolio of products addressing each major PDC subsegment — photomask (reticle) inspection, wafer inspection/defect review and metrology.
KLA Corporation carries a Zacks Rank #2. It has a long-term earnings growth expectation of 9.4% and delivered a trailing four-quarter earnings surprise of 8.3%, on average.
Nexstar Media: Headquartered in Irving, TX, Nexstar Media is a leading diversified media firm that produces and distributes engaging local and national news, sports and entertainment content across television, streaming and digital platforms. It also offers premium multiplatform and video-on-demand advertising opportunities at scale for businesses and brands seeking to leverage its strong client base.
The company has a long-term earnings growth expectation of 10% and delivered a trailing four-quarter earnings surprise of 21.4%, on average. It has a VGM Score of B. Nexstar Media sports a Zacks Rank #1.
América Móvil: Based in Mexico City, America Movil is the leading provider of integrated telecommunications services in Latin America. It offers enhanced communication solutions in 25 countries in Latin America, the United States and Central and Eastern Europe.
The company delivered a trailing four-quarter earnings surprise of 15.3%, on average. America Movil carries a Zacks Rank #2.
America Movil, S.A.B. de C.V. Unsponsored ADR (AMX): Free Stock Analysis Report
KLA Corporation (KLAC): Free Stock Analysis Report
AutoNation, Inc. (AN): Free Stock Analysis Report
Nexstar Media Group, Inc (NXST): Free Stock Analysis Report
Suzano S.A. Sponsored ADR (SUZ): Free Stock Analysis Report
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Zacks Investment Research
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