It’s a debate that’s almost as old as the stock market itself: Growth versus value — which is better?
Since the end of the Great Recession, growth stocks have run circles around value stocks. That’s because historically low lending rates have allowed fast-paced companies to borrow cheaply to hire, innovate, and acquire.
However, it’s value stocks that have the edge over the long run. A Bank of America/Merrill Lynch report released in 2016 found that value stocks averaged an annual gain of 17% over a 90-year stretch (1926-2015), while growth stocks delivered an impressive, but nevertheless lower, 12.6% annualized return over the same time span.
What’s more, value stocks significantly outperformed growth stocks during the early stages of an economic recovery, which is where we’re at right now.
With this being said, there are three value stocks that have all the tools needed to make you richer in April, and well beyond.
Beyond just being profitable among a sea of unprofitable biotech companies, what allows Vertex to stand out is the company’s focus on treating cystic fibrosis (CF). CF is a genetic disease characterized by thick mucus production that can obstruct the lungs and pancreas of a patient. There aren’t any cures for CF, but Vertex has been able to develop multiple generations of gene-specific treatments that are improving the quality of life for CF patients.
Back in October 2019, the U.S. Food and Drug Administration (FDA) approved combination therapy Trikafta as a treatment for CF patients with the most common mutation, F508del. Around 90% of CF patients have this mutation. This approval came after Trikafta easily met its primary endpoint in late-stage trials of a statistically significant improvement in lung function, as measured by forced expiratory volume in one second. Further, it was approved five months ahead of its scheduled FDA review date.
How much of a hit has Trikafta been? In its first full-year on pharmacy shelves in 2020, it generated almost $3.9 billion in sales. Wall Street analysts believe it could hit $6 billion in peak annual revenue.
Vertex is also rolling in the dough. It ended last year with $6.66 billion in cash, cash equivalents, and marketable securities, and it’s generating considerable cash flow from its portfolio of CF products. It’s likely to go shopping over the next couple of years to diversify its portfolio beyond CF.
With a healthy double-digit growth rate and a price-to-earnings-growth ratio (PEG ratio) of well below 1, Vertex has all the look of a value stock worth buying.
Annaly Capital Management
The operating model for mortgage REITs might sound intimidating, but it’s really quite simple. These are companies that borrow money at lower short-term lending rates and buy assets that have higher long-term yields. The assets they buy are usually mortgage-backed securities (MBS). The point is to generate the highest long-term yield possible while paying the lowest borrowing rate imaginable. The difference between these two rates is known as the net interest margin (NIM), and the wider it is, the more profit companies like Annaly Capital Management are raking in.
What makes the current environment so attractive for mortgage REITs is that the yield curve is steepening. When the yield curve flattens out, the yields on long-term and short-term rates tighten. But when it expands, Annaly can often purchase MBSes with higher yields, thereby widening its NIM. It’ll also rely on leverage to pump-up its funds from operations.
Something else unique about Annaly Capital Management is that it almost exclusively owns agency assets. These are securities backed by the federal government in the event of a default. As you might imagine, having this added protection means yields on agency assets are considerably lower than non-agency securities. However, this protection allows Annaly to use leverage to its advantage.
Since REITs pay out the vast majority of their income as a dividend to avoid the normal corporate income tax rate, investors are netting a pretty consistent 10% annual yield from Annaly Capital Management. Plus, it’s still trading just a hair below its book value.
With the yield curve naturally steepening during an economic recovery, Annaly’s share price and income potential are pointing higher.
Investors eager for value stocks can find plenty in the gold industry. In particular, Toronto-based Kinross Gold (NYSE:KGC) stands out as an undervalued gem with the numerous catalysts in its sails.
To begin with, the lustrous yellow metal it mines has plenty of reason to move higher. The Federal Reserve has pledged to keep lending rates at or near historic lows through 2023, and the nation’s central bank is buying Treasury bonds and MBSes on a monthly basis. When coupled with ongoing fiscal stimulus from Washington, the U.S. dollar is likely to be under significant pressure. Since the dollar and gold move inverse to one another, this has all the makings of a green light for a higher physical gold price.
In addition to a higher gold price, Kinross should benefit from improved operating efficiency and a healthier balance sheet. Last year, the company’s eight mines yielded 2.37 million gold ounces, which was only modestly lower than the 2.51 million produced in 2019, before the pandemic struck. What’s important here is that production at Tasiast continues to climb, with operating improvements at Fort Knox also lifting output. Between 2021 and 2023, Kinross expects annual output to climb from approximately 2.4 million gold ounces to 2.9 million gold ounces.
Benefiting from gold’s lustrous run, Kinross also generated an all-time record $1.04 billion in free cash flow in 2020. Despite ending the year with $1.9 billion in debt, it expects to pay its $500 million in debt due later this year in full. If the company eliminates this $500 million in debt and continues to build up its $1.21 billion cash and cash equivalents position, it could be net-cash positive by the end of 2021.
But what allows Kinross to really shine is its forward-year price-to-earnings ratio of 7 and its price-to-forward-year cash flow multiple of 3.7. Most gold stocks, in my view, are fairly valued at a multiple of 10 times cash flow. This implies Kinross offers ample upside to patient investors.
This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium advisory service. We’re motley! Questioning an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.