Investors are captivated by high fliers and momentum stocks, and with good reason. The gains put up by a company like Tesla (TSLA), which has soared 540% in the last 12 months, are always the envy of Wall Street.
But there’s also money to be made in stocks that were once on the top of their game but have suffered a flop — either thanks to external factors or mismanagement. If you can find one of these battered players right before it bounces back, you can make as much money as in the momentum darlings with nothing but blue skies ahead of them.
There are clearly risks here, as underperformers can frequently continue to circle the drain. The best minds on Wall Street can be faked out by these stocks, thinking they are back on solid ground when nothing has changed.
But if you are skeptical of frothy plays like Tesla and want to tap into big profits by looking in a different direction, consider these five top turnaround players: Hewlett-Packard (HPQ), Micron Technology (MU), Best Buy (BBY), eTrade (ETFC) and Netflix (NFLX).
Year-to-Date Returns: 51% vs. 18% for the S&P 500
Hewlett-Packard (HPQ) has had obvious problems over the years, including a revolving door in the CEO’s office and a penchant for ill-advised acquisitions — from Palm to Autonomy.
However, HP has started its turnaround — or at least its reinvention — and has posted significant gains in 2013. The company has pivoted to enterprise instead of just overpriced ink for desktop printers and cheap plastic laptops, leveraging its depth into the tech space and relationships with top companies. Hewlett-Packard has also gotten serious about costs, laying off 27,000 employees as part of a restructuring announced in early 2012 that is still ongoing.
Naysayers will point out that HPQ stock has crashed since August earnings showed the turnaround is behind previous forecasts, and that its gutting of an R&D budget will cripple the company long-term.
But don’t count out a megacap tech stock like Hewlett-Packard, especially not one with dramatic outperformance in the last year and a cool $13 billion in cash sitting around.
The 2.7% dividend is nothing to sneeze at, either.
Year-to-Date Returns: 180%
Semiconductor manufacturer Micron Technology (MU) makes a host of high-tech products found in computers and mobile devices — mostly in the flash memory space. And as tech investors should know, the biggest cash cow for semiconductor companies has long been the PC business — and a decline in laptop and desktop sales has worked against Micron.
So in 2008 and 2009, Micron underwent a major restructuring and laid off about 15% of its work force in an effort to reverse its fortunes.
Then in 2010, Micron bought flash-memory company Numonyx for about $1.2 billion — giving it a huge leg up in market share and allowing for economies of scale. Over the next few years, MU teamed up with Intel (INTC) on a number of flash memory projects to benefit both of the embattled chip-makers at a time when they needed to work together.
These moves and others seem to have paid off, with Micron stabilizing its top line and projecting a return to profitability in the next fiscal year.
Micron recently has seen a spate of analyst upgrades as a result of its improving balance sheet, including a “buy” rating at Stifel Nicolaus with a target of $24 a share — an additional 35% up from here.
Year-to-Date Returns: 215%
Best Buy (BBY) is definitely feeling the pain thanks to e-commerce competition and pinched margins. But the embattled big-box store has adapted and learned how to survive — and even thrive — in this environment.
Though sales have mostly flat-lined since 2010, Best Buy has managed to stage a pretty substantial turnaround by slashing costs to offset shrinking profit margins. In fact, Best Buy might close out this fiscal year with its first annual profit since 2011, and is forecast to then grow earnings a modest 8% again next year.
And amid better profit margins and operations in brick-and-mortar stores, don’t forget that Best Buy is taking the fight to Amazon (AMZN) on the Internet, too. The company saw double-digit year-over-year growth for online sales in the second quarter as part of a continued push to get people buying both in stores and on the web.
Sure, part of the pop in share price to start the year was thanks to founder Richard Schulze making noise about taking BBY private, and a resulting short squeeze. However, it seems less like manipulation or hype after the recent financials have come out, and instead more like true confidence in the business.
Perhaps investors should have confidence in Best Buy, too.
With a 1.8% dividend, there’s also a bit of a sweetener should the gains fail to keep up.
Industry: Financial Services
Year-to-Date Returns: 85%
The story of the stock market crash is painfully evident in E*Trade (ETFC) stock. In fact, it has actually accelerated and amplified thanks to the business model of this online stock broker.
About halfway through 2007, as the market hit its apex and the broader economy started to show signs of distress in preface to the financial crisis, capital markets began to slow and ultimately stalled out together, and E*Trade fell off a cliff.
It didn’t help that the company also had branched out from mainly an online stock broker into more consumer lending that included mortgages and home equity loans.
But while E*Trade remains significantly below those levels and endured some brutal losses in the intervening years, ETFC has nearly doubled in 2013 as the company’s long slog back to profitability has finally paid off.
Admittedly, the top line is pretty stagnant and trading activity is still pretty weak, thanks both to lingering uncertainty and the low-cost, index fund revolution. And E*Trade may never return to its pre-crisis levels. But fiscal 2014 will usher in the first year since 2007 where the company turns a profit every quarter.
And given the turnaround in the stock market and slow mending of the broader economy, the return of more investors could mean more customers — and thus continued success for E*Trade — in 2014 and beyond.
Industry: Consumer Services
Year-to-Date Returns: 238%
Netflix (NFLX) was nearly left for dead in late 2011 after the Qwikster PR debacle that irritated customers with both the gall of NFLX splitting its DVD and streaming businesses without asking, and the threat of price increases driving away customers.
But the company muddled through, and not only held on to market share amid tough competition from other streaming video providers like Hulu, but grew the business at home and abroad.
Netflix made an ambitious investment in original programming and international growth, and while some bulls expected validation, eventually it shocked even them to see 2013 open with a surprise profit — then an amazing 14 Emmy nominations for its original programming offerings.
And the story is still rolling at Netflix, with House of Cards actually bringing home three Emmy awards for NFLX and international growth continuing at a brisk pace.
Of course, whether the gains can be sustained is anybody’s guess. Competition is heating up from Amazon.com (AMZN) with its Prime Instant Video and others will continue, and the streaming video space is still very young.
But don’t bet against Netflix. A company that theoretically ruined its brand and returns to dominance a short time later clearly has staying power.
Jeff Reeves is the editor of InvestorPlace.com and the author of The Frugal Investor’s Guide to Finding Great Stocks. Write him at email@example.com or follow him on Twitter via @JeffReevesIP. As of this writing, he did not own a position in any of the stocks named here.