The US indices have performed strongly in 2023, with the Dow Jones delivering a return of 13%, the predominantly tech Nasdaq delivering a return of 43% and the S&P 500 index, which includes stocks from both the Dow and the Nasdaq, delivering a return of 24%.
This leaves the US stock market with very few undervalued or cheap stocks. Here we look at 5 stocks that we think are still cheap even after the S&P 500 nears record highs and provide reasons why we think it’s still cheap.
| Company | Ticker | % from 2021/2022 highs | P/E |
| Citigroup Inc | NYSE:C | 36% | 8.2 |
| Tapestry Inc | NYSE:TPR | 25% | 9.5 |
| Occidental Petroleum | NYSE:OXY | 15% | 13.1 |
| Target Corp | NYSE:TGT | 45% | 18.2 |
| Airbnb Inc | NASDAQ:ABNB | 36% | 16.6 |
1) Citigroup (NYSE:C)
Citigroup, or Citibank, has finally begun its huge and long overdue restructuring, aiming to repair the bank’s poor returns by cutting thousands of jobs. Layers of management will be removed to reduce unnecessary duplication and the uncertainty for staff will last well into 1Q24.
Citibank has also wound down or sold various parts of the businesses. Citibank shuttered its UK, Russia, Indonesia and municipal bond underwriting business and sold its Taiwan consumer business and the consumer wealth portfolio in China.
In its most recent 3Q23 earnings, it recorded earnings per share of $1.63 and a ROE of 6.7%, far below most of its peers, causing it to trade at nearly half its book value of $99.28.
Citibank’s CET1 ratio stood out as one of the more robust ones among the wall street banks at 13.5% which allowed the bank to slightly increase its dividend payout as well as return value to shareholders by way of share repurchases.
Revenues increased a mere 9% YoY, largely driven by strength across Services and Markets in Institutional Clients Group (ICG) and US Personal Banking within Personal Banking and Wealth Management (PBWM), as well as growth in Banking in ICG.
Net income increased 2% from the prior-year period. The increase in net income was primarily driven by the higher revenue, partially offset by higher expenses and higher cost of credit. A performance considered as lacklustre when compared to its peers.
A staff restructuring is only one part of the CEO Jane Frasers’s turnaround plan. Citibank plans to focus on its most profitable and strongest growth segments of its business such as the debt capital markets which is poised for a strong 2024 as a possible Fed pivot will lower cost of funds, allowing many companies to carry out long overdue refinancings.
With cost cutting measures in place and a surgical growth approach, should Citibank deliver on its turnaround plan, its low valuation makes the stock look cheap.
2) Tapestry Inc (NYSE:TPR)
Tapestry is known for being the owner of luxury brands Coach, Kate Spade and Stuart Weitzman. It recently announced the acquisition of Capri for $8.5 billion. Brands under Capri include Versace, Jimmy Choo and Michael Kors.
Together, the company will have the size and scale to better compete in the luxury market, with a presence in more than 75 countries and drive over $12 billion in annual revenue.
With the acquisition, Tapestry expands its customer base across ages and incomes. Michael Kors draws younger, more diverse shoppers, and Versace and Jimmy Choo attract wealthier customers.
Tapestry has pushed to elevate its brands and appeal to a new generation of shoppers. At Coach, for example, it has collaborated with popular brands and celebrities and debuted handbags that have resonated with Gen Z customers who discover items on TikTok.
Coach also narrowed the number of items it carries to the focus on bestsellers, keeping price points high by reducing markdowns. Tapestry has also started to run a similar playbook with Kate Spade.
Tapestry has also looked to other parts of the world to drive growth, such as chasing higher sales in China.
The synergies between the brands and the potential recovery of consumer spending both in the US and China makes Tapestry a cheap stock based on its current valuation.
3) Occidental Petroleum (NYSE:OXY)
Occidental Petroleum is a Buffett favourite, with Berkshire raising its stake in the company numerous times to a near 28% holding currently. Berkshire has regulatory approval to acquire up to 50% of the shares.
Buffett’s affinity toward Oxy may stem from his admiration of the CEO and the company’s carbon capture strategy. Oxy owns a company called Carbon Engineering which builds plants using direct air capture technology to strip carbon dioxide from the atmosphere to bury underground or for use in making products. Oxy has sufficient carbon credits to offset its own emissions as well as sell them in the open market.
Oil prices crashed in 2020 during covid but quickly recovered and stayed strong in recent times amidst geopolitical conflicts and a somewhat robust global economy.
Oxy recently announced the acquisition of US shale oil producer CrownRock in a cash and stock deal valued at $12 billion including debt which will generate immediate free cash flow accretion, expecting to deliver increased free cash flow of $1 billion in the first year based on $70 per barrel of WTI.
CrownRock’s well-positioned assets expand Oxy’s scale in the Midland Basin and development-ready inventory increases the quality of Oxy’s premier Permian Basin portfolio and increases Oxy’s inventory of low-breakeven production.
To pay for this acquisition, Oxy plans to divest $4.5-$6.0 billion of assets within 12 months, reducing its debt and retaining its investment grade credit ratings.
The divestments will also underpin Oxy’s intention to increase the quarterly dividend by $0.04 to $0.22, beginning with the February 2024 declaration, consistent with the company’s shareholder return priorities.
Oxy is a company with growth potential as it improves its quality of assets, reducing its portfolio’s cost of production and at the same time divest older lower quality assets to deliver on its total shareholder return.
4) Target Corp (NYSE:TGT)
Target has fared much poorer than its rivals Walmart and Costco in the recent year, facing a boycott after its merchandise angered some of its customers and its stock fell 20% in the aftermath.
In part due to the boycott, Target also started facing elevated levels of theft and violence and ended up closing at least 9 stores which works out to a total of 2% of stores. While this may seem like a small number, one has to take the perspective that a net decline is substantial when compared to its competitors who are increasing the number of stores.
Target’s merchandise mix is also more discretionary than its rivals, carrying a higher proportion of goods such as apparels, home décor, toys, and electronics. These are goods that people tend to buy less as they have less discretionary spending amidst rising inflation, fuel costs and higher mortgage interest rates.
Target’s same-store sales fell 4.9% YoY in 3Q, while Walmart’s were up 4.9% and Costco’s grew 3.1%. Declines in discretionary categories were partially offset by continued growth in frequency categories, most notably in Beauty. Same-day services grew more than 8%, led by more than 12% growth in drive up services.
Target’s income is up this year despite revenue being down, reflecting lower costs. Given the ongoing improvements in expense management, look for profit margins to continue widening on the heels of renewed sales growth.
The Company’s 3Q23 gross margin rate was 27.4%, higher than 2022’s 23.6% but lower than the 2019 to 2021’s 28.3% to 28.9%.
Additionally, to better manage its balance sheet and working capital, Inventory at the end of Q3 was 14% lower than last year, reflecting a 19% reduction in discretionary category inventory.
With interest rates likely to reduce, discretionary consumer spending will likely increase and with Target already focusing its cost base and inventory, Target is a play for catching up to its rivals who are both at new highs while Target is languishing at 45% below its 2021 highs.
5) Airbnb Inc (NASDAQ:ABNB)
Airbnb has been on a tear since the world moved into the endemic phase and consumers look towards a different way of traveling. Airbnb’s 3Q23 revenue was up 18% YoY while operational net income increased 33%. Gross Booking Value also increased by a similar 17% with a 14% increase or 113.2 million nights and experiences booked.
Hosting has also taken another step to becoming mainstream with active listings growing 19% in 3Q23 relative to 3Q22. At last count, Airbnb has at least 4 million hosts with 7 million listings.
Despites its tremendous progress, Airbnb is still trading 40% below its high in November 2021.
Still, Airbnb isn’t without its issues. Many worry about municipalities taxing, banning short-term rentals or allowing them only under strict rules. For example, San Francisco, Melbourne and Sydney has made the huge decision to introduce a cap on the number of days per year properties can operate as short-term rentals, such as an Airbnb.
This is amidst a housing shortfall arising from the delays in new builds as a result of the pandemic as well as low interest rates in 2021-2022 leading to many investors buying numerous properties for short-term rentals, adding competition to long-term homes for people.
To placate authorities, Airbnb proposed a series of measures which included the introduction of statewide registration schemes and codes of conduct in every state and territory plus support for a tourism levy which amounts to 7.5% in Melbourne.
We think fundamentally Airbnb serves a target market that is different from the hoteliers and regulation and paying its fair share of taxes would only serve to develop its ecosystem in the long run.
Airbnb is the market leader in a nascent industry and is another play that will benefit from increased consumer spending and with the stock 34% below its high in November 2021, could be poised for further upside.
Closing statements
These 5 stocks are cheap for reasons such as potential growth, a possible turnaround, and expectations of increased spending by consumers. Potential growth in the company and a possible turnaround are internal factors while increased consumer spending is an external factor which are subjected to macroeconomic conditions. Although these stocks have the potential to recover its highs, our preference would be to go for stocks whose share prices are further from its highs to reduce potential downside risks.
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