Wednesday, February 8, 2023
HomeMarketThese Stocks May Look Cheap. Don’t Be Fooled.

These Stocks May Look Cheap. Don’t Be Fooled.

MGM Resorts International’s recession-adjusted price/earnings ratio is well above the stock’s 10-year average. Here, a statue stands in front of the MGM Grand Hotel and Casino in Las Vegas.

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Roger Kisby/Bloomberg

Some beaten-down stocks are worth buying. Others, the potentially dangerous ones, just look cheap on the surface. 

This year, many stocks have dropped enough in the market’s broad rout to reflect the risk that earnings will fall as a result of the Federal Reserve’s efforts to fight inflation by jacking up interest rates. Higher rates reduce demand for goods and services, but it isn’t easy to tell how badly companies will be hit, and whether their stock prices reflect the potential damage.

That is why strategists at
UBS,
led by Keith Parker, developed a screen to find those that look like buys and the ones that likely aren’t finished dropping. They looked at companies’ shares prices relative to the earnings expected for the coming year, adjusted lower to reflect the average decline in profits for each firm during recession years.

The outcome is higher recession-adjusted price/earnings ratios, given the same stock prices and potentially lower profits.

UBS then drew a line dividing companies whose recession-adjusted P/E ratios are lower than the stocks’ unadjusted 10-year averages from those whose P/Es are higher. Those who fall below the line are potentially worth buying, the strategists say, because those stock prices already reflect a darkening profit picture. The ones with recession-adjusted P/Es above the long-term average could theoretically drop more if analysts reduce their profit forecasts.  

Here are 10 stocks that the UBS screen indicates likely haven’t yet priced in a recession: 

Alcoa (AA) has seen its stock fall about 23% this year, but its forward recession-adjusted P/E ratio is around 25.9 times, more than 300% above its 10-year average. 

Freeport-McMoRan (FCX) stock has lost 5% this year, for a recession-adjusted P/E of 27.4 times, more than double its 10-year average. 

Gap (GPS) stock is down 24%, with a recession-adjusted P/E of 32.5, more than twice its 10-year average. 

Take-Two Interactive Software (TTWO) is down 42%, with a recession-adjusted P/E of 29.4 times, 31% above its average. 

Xerox Holdings (XRX) has lost 28%, giving it a recession-adjusted P/E of 14 times, 69% above its average. 

Hexcel (HXL) has gained 12% for a recession-adjusted P/E of 42.2 times, 90% above its average. 

Quanta Services (PWR) has gained 35% for a recession-adjusted P/E of 31 times, 68% above its average. 

General Motors (GM) is down 37%, giving it a recession-adjusted P/E of 11 times, 40% above its average. 

Air Products and Chemicals (APD) has lost 28%, for a recession-adjusted P/E of 28.8 times, 39% above its average. 

MGM Resorts International (MGM) is down 19%, with a recession-adjusted P/E of 35.3 times, 31% above its average. 

Write to Jacob Sonenshine at jacob.sonenshine@barrons.com

Credit: marketwatch.com

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