It can be hard to invest in unpopular stocks. But done successfully, it can be a great way to generate market-beating returns.
Today I’m going to take a fresh look at two well-known-but-unloved stocks. Does either company offer a contrarian buying opportunity?
A diamond in the rough?
FTSE 100 bank Barclays (LSE: BARC) needs no introduction. But the company’s increasingly successful turnaround hasn’t been enough to win round investors. Barclays’ stock has fallen by around 25% over the last two years, despite the bank returning to profit and settling most of its misconduct issues.
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Former Barclays boss Bob Diamond was quoted in the Financial Times this week saying that “banks, insurers and broker-dealers” look cheap. Mr Diamond said that financial services is the only sector where valuations are lower than they were in 2008.
As I discussed recently, some investors believe there are good reasons why banking stocks should be cheap. But Barclays’ latest accounts certainly suggest to me that the shares may deserve a higher price tag.
A hat-trick of cheapness
Barclays’ shares score highly on three key measure of value. At a last-seen price of 165p, the stock trades at a 36% discount to its tangible net asset value of 260p per share.
The shares look cheap relative to earnings as well. Broker forecasts put the bank on a 2018 forecast P/E of 7.4, falling to a 2019 P/E of 7.1. These forecasts have risen in recent months, which is often a sign of positive momentum.
Finally, after years of below-average dividends, this year’s planned payout of 6.5p per share gives the shares a tempting 3.9% dividend yield. Analysts expect the payout to rise again in 2019.
An economic downturn would probably put these forecasts at risk. But if you share my view that banks are finally recovering from the financial crisis, then I believe Barclays shares are a buy at current levels.
One stock I’m avoiding
Back in July, I said that TalkTalk Telecom Group (LSE: TALK) could be “a tempting turnaround”. Does that view still hold?
Last week’s half-year results seemed broadly positive, with customer numbers up by 104,000 to 4.2m and customer churn down to 1.2%. The number of customers opting for fibre broadband rose and average revenue per user — a key metric — was said to be “improving”.
However, expansion of the group’s full fibre network seems to have stalled. An agreement with planned funding partner Infracapital has been terminated, and the group has not yet found a replacement.
With net debt of £760m, TalkTalk is in no position to fund the rollout by itself. The group’s borrowings represent nearly 3x EBITDA (earnings before interest, tax, depreciation and amortisation). I’d prefer to see a figure of 2x or lower, especially as TalkTalk’s underlying operating margin remains slim, at just 3.6%.
I’m staying away
TalkTalk shares trade on 19 times forecast earnings for 2018/19. This falls to a P/E of 16 for 2019/20, but the group’s high level of debt means the shares look far too expensive to me.
I suspect that executive chairman and founder Sir Charles Dunstone will turn this business around successfully. But I don’t think the stock is cheap enough to buy.
