Bet on 5 Stocks With High ROE to Trounce Recession Fears

With the U.S. consumer price index rising 8.6% in May – the fastest rise since December 1981 – the odds of a recession later in 2022 have increased significantly, triggering intense volatility in the equity markets. As the high inflationary pressure refuses to abate, the Fed is continuing with its aggressive rate hike policy and raised the interest rate for the federal funds by 75 basis points to 1.50-1.75%. The Fed aims to enforce similar increases in the remainder of the year to restore price stability.

The central bank has also offered a broad outline of its reduction in asset holdings for monetary tightening. The Fed intends to reduce Treasury holdings and mortgage-backed securities by $30 billion and $17.5 billion, respectively, from June and extend the tallies to $65 billion and $35 billion after three months. Despite these initiatives, experts remain anxious about high inflation data and aim to look for cues for probable recession from the upcoming new home sales data and the final University of Michigan consumer sentiment report for June.

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. Louisiana-Pacific Corporation LPX, The Coca-Cola Company KO, Qualcomm Incorporated QCOM, Matson, Inc. MATX and Dillard's, Inc. DDS are some of the stocks with high ROE to profit.

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.

Parameters Used for Screening

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 16 stocks that qualified the screen:

Louisiana-Pacific Corporation: Headquartered in Nashville, TN, Louisiana-Pacific is a leading manufacturer of sustainable, quality engineered wood building materials, structural framing products and exterior siding for use in residential, industrial and light commercial construction. The company’s products are used primarily in new home construction, repair and remodeling and outdoor structures.

Louisiana-Pacific delivered a trailing four-quarter earnings surprise of 14%, on average. It has a Zacks Rank #2. You can see the complete list of today’s Zacks #1 Rank stocks here.

The Coca-Cola Company: The Atlanta, GA-based Coca-Cola Company offers more than 4,700 beverage products (and more than 500 brands), spanning from sodas (or sparkling beverages) to energy drinks. In addition to its primary sparkling soft drinks (carbonated), the company sells a large range of still (non-carbonated) beverages, including water, enhanced water, juices and juice drinks, sports drinks, ready-to-drink teas and coffees and dairy and energy drinks.

The company has a long-term earnings growth expectation of 7% and delivered a trailing four-quarter earnings surprise of 13.6%, on average. Coca-Cola Company carries a Zacks Rank #2.

Qualcomm Incorporated: Headquartered in San Diego, CA, Qualcomm designs, manufactures and markets digital wireless telecom products and services based on the Code Division Multiple Access (CDMA) technology. The products include CDMA-based integrated circuits (ICs) and system software for wireless voice and data communications as well as global positioning system products. The company delivered a trailing four-quarter earnings surprise of 11.4%, on average.

Qualcomm carries a Zacks Rank #2. The company has a long-term earnings growth expectation of 16.3%. Qualcomm is well-positioned to benefit from solid 5G traction with greater visibility and a diversified revenue stream to meet its long-term revenue targets.

Matson, Inc.: Headquartered in Honolulu, Hawaii, Matson offers ocean transportation and logistics services to the U.S. military, freight forwarders, retailers, consumer goods, automobile manufacturers and other customers. The company provides a vital lifeline to the domestic non-contiguous economies of Hawaii, Alaska and Guam and other island economies in Micronesia.  

This Zacks #2 Ranked company delivered a trailing four-quarter earnings surprise of 2.1%, on average. Matson’s fleet of owned and chartered vessels includes containerships, combination containers and custom-designed barges.

Dillard's, Inc.: Founded in 1938, Dillard's is a large departmental store chain featuring fashion apparel and home furnishings. Its merchandise mix consists of both branded and private-label items. The company’s strategy is to offer more fashion-forward and trendy products to attract customers.  

Dillard’s is benefiting from continued momentum in consumer demand and better inventory management. The company has a long-term earnings growth expectation of 14.6% and delivered a trailing four-quarter earnings surprise of 224.1%, on average. Dillard’s sports a Zacks Rank #1.

You can get the rest of the stocks on this list by signing up now for your 2-week free trial to the Research Wizard and start using this screen in your own trading. Further, you can also create your own strategies and test them first before taking the investment plunge.  

The Research Wizard is a great place to begin. It's easy to use. Everything is in plain language. And it's very intuitive. Start your Research Wizard trial today. And the next time you read an economic report, open up the Research Wizard, plug your finds in, and see what gems come out.

Click here to sign up for a free trial to the Research Wizard today.

Disclosure: Officers, directors and/or employees of Zacks Investment Research may own or have sold short securities and/or hold long and/or short positions in options that are mentioned in this material. An affiliated investment advisory firm may own or have sold short securities and/or hold long and/or short positions in options that are mentioned in this material.

Disclosure: Performance information for Zacks’ portfolios and strategies are available at: https://www.zacks.com/performance.

Want the latest recommendations from Zacks Investment Research? Today, you can download 7 Best Stocks for the Next 30 Days. Click to get this free report
 
To read this article on Zacks.com click here.