The Dow Jones Industrial Average is down about 10% year-to-date (YTD). Of the 30 stocks in the index, 14 stocks are also down at least 10% for the year. That should make it relatively easy to find undervalued Dow stocks to buy.
Despite being down nearly 3% over the past month, the Dow has clawed back about 14% of its value since hitting a one-year low on Oct. 13. However, a Santa Claus rally looks very unlikely with less than two weeks left in 2022. Per CNBC, E*Trade Managing Director Chris Larkin had the following to say:
“As we near the end of December, investors are still waiting on that Santa Claus Rally, with stocks coming off back-to-back down weeks for the first time since September […] Data showing inflation cooling may have given the market a short-lived boost, but the Fed standing firm with Powell driving home the point that rates could remain elevated for quite a while likely grounded some investors.”
While the Grinch is likely to ruin all chances of good news in the waning days of 2022, I’ve been asked to come up with three undervalued Dow stocks to buy before Wall Street catches on. Of the 30 stocks in the Dow, there are at least 10 to 15 choices. All three have reasonable healthy returns on capital combined with low price-to-sales (P/S) and forward price-to-earnings (P/E) ratios.
Here are my three choices for undervalued Dow stocks to buy:
Home Depot (HD)
Home Depot (NYSE:HD) is down about 23% YTD. Of course, that doesn’t make it the worst performer of the Dow in 2022 — there are 10 names in worse shape, according to Finviz. But if you’ve owned HD stock over the past five years, you’ve gotten used to a rising share price.
I like Home Depot stock for several reasons, which I’ll get into. Before I do, though, there is one real concern facing retailers: Theft. It’s unusually high in 2022, according to retail executives. Former Home Depot CEO Bob Nardelli recently discussed the situation:
“It’s unbelievable what’s happening and what we’re allowing to happen […] Again, unfortunately, the abdication is put in the hands of corporations like Walmart, Target, and the gas stations, for example, that have to take control and protect their property and their employees.”
I’m a big fan of Judd Legum’s Popular Information. His recent reporting suggests that retailers might be playing this up to distract consumers from the reality that retailers have raised prices above inflation to drive profits higher.
If you’re a shareholder of Home Depot or considering HD stock, I would not let some of these sensational headlines scare you away.
Home Depot’s financial strength is a major attraction. It currently has $2.46 billion in cash on its balance sheet and just $41.74 billion in long-term debt. That’s a manageable 13% of its market capitalization.
In addition, Home Depot’s return on assets and return on invested capital are both very healthy at 22.8% and 37.4% respectively over the trailing 12 months.
As for its valuation, Home Depot currently trades at about 2 times sales, its lowest valuation since 2018. The housing shortage in the U.S. will keep HD stock doing well for shareholders for many years to come.
Dow Inc. (DOW)
Dow Inc. (NYSE:DOW) is down 13% YTD, slightly worse than the Dow Jones Industrial Average.
When I think of Dow Inc., I conjure up images of the company’s construction products. However, Dow’s products are actually used in thousands of different applications, most of the brands tucked out of sight for the average person to recognize. With $55 billion in annual sales in 2021, Dow’s products impact virtually every industry and sector, even sports.
That’s right. The company has a unit called Dow Sports Marketing Solutions, which looks to partner the company with sports organizations and athletes to develop innovative, next-generation products that will enhance sporting competitions worldwide. Since the company was spun off from DowDuPont in April 2019, Dow’s business and finances have gotten exponentially stronger.
For example, the company’s three-year cumulative free cash flow (FCF) in April 2019 was $5.6 billion. At the end of the second quarter, it was $15.9 billion. In the nine months ended Sept. 30, its FCF was also $4.18 billion, more than 20% higher than a year earlier.
Dow’s FCF yield has increased from 9% in 2019 to 20% for the trailing 12 months ended Sept. 30. I consider anything above 8% to be in value territory.
With a dividend yield of 5.7%, income investors ought to be very attracted to DOW stock as well.
Disney (NYSE:DIS) is in contention for the worst-performing stock of the Dow 30. With shares down about 45% YTD, only Intel (NASDAQ:INTC) and Salesforce (NYSE:CRM) are doing worse than DIS stock.
DIS stock did get a lift from the Nov. 20 announcement that Bob Iger would return to the company as CEO, replacing Bob Chapek. Iger left just under a year ago after serving as Executive Chairman since stepping down as CEO in February 2020. As CEO for 15 years, Iger was arguably one of Disney’s most successful leaders.
However, DIS has since fallen below $91.80, where it closed trading on Nov. 18 right before the news hit.
Iger has a lot of work to do to right the Disney ship. As part of this work, he plans to continue the hiring freeze that Chapek initiated in early November. While the freeze is on, Iger will closely examine the company’s cost structure.
His two biggest challenges will be turning Disney+ into a profitable company segment while also reigniting its creativity, which took a back seat to growth under Chapek.
Disney reported a fourth quarter 2022 loss of $1.5 billion on Nov. 8 from its streaming business. For all of fiscal 2022, it lost about $4 billion. However, the company has said that Disney+ would be profitable by 2024.
Given that the monthly price of Disney+, Hulu and ESPN+ are rising in December, the worst losses could be over.
Currently trading at slightly less than 2 times sales — its lowest multiple in the past decade — the long-term investor would be hard-pressed to find a better value than DIS stock in the Dow.
On the date of publication, Will Ashworth did not hold (either directly or indirectly) any positions in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.