7 Bargain Stocks You Can Feel Good About Now

published 19 August 2010

A volatile market can be stressful for buy-and-hold investors but a blessing for opportunists. At its low in July, Standard & Poor’s 500-stock index had fallen 16% from its April high. Although the market has recovered a bit, plenty of high-quality stocks remain in the bargain bin. If you’ve been looking to capitalize on the market’s current funk, consider scooping up one or more of these names on days when the jittery market drags their prices down to even deeper discounts (share prices and related ratios are as of the August 19 close).

Paychex (symbol PAYX; $25.26)

The biggest worry for Paychex shareholders is that there will be little or no growth in demand for its payroll-processing services as long as the unemployment rate remains elevated. Paychex targets small businesses -- 99% of the firms it serves employ fewer than 100 people. But companies are typically reluctant to switch payroll providers, so Paychex has plenty of pricing power. That has helped the firm generate an average return on invested capital of 70% over the past ten years and average growth in free cash flow (the amount of cash profits left after the necessary capital outlays needed to maintain a business) of 14% annually over the past five years. Plus, Paychex has no long-term debt, says Jeff Auxier, manager of Auxier Focus Fund (AUXFX), which holds the stock. The shares, which are 21% off their late-March high, trade for 19 times estimated profits of $1.36 for the fiscal year that ends in May 2011 and yield a hefty 4.9%.

If you don’t already own shares of Wal-Mart, or if you’d like to boost your stake, buy while the price is attractive. The retail giant’s place as the ultimate beneficiary of bargain-seeking shoppers is unchallenged, and the stock trades for just less than 12 times the $4.01 per share the company is expected to earn for the fiscal year that ends in January. More than half of Wal-Mart’s revenues now come from groceries, a characteristic that, as Auxier points out, might appeal to investors concerned about higher inflation over the long term. “Grocery stores were a great inflation hedge in the 1970s,” he says, because the stores can pass rising food costs directly to consumers. Year-to-date the stock is lagging the S&P 500 by nearly three percentage points. It yields 2.4%.

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Abbott Labs is practically a one-stop shop for health-care products. It runs a booming drug business, with leading arthritis, HIV and cholesterol drugs; it makes a wide variety of diagnostic tools and tests; and is the global market-share leader for drug-eluting stents, which are used in heart surgery. Abbott also makes a range of infant and adult nutritional supplements. Plus, the company’s executives have shown an aptitude for making smart acquisitions. Abbott has raised its dividend in each of the past 38 years, and “because the company generates so much free cash flow, you can really count on that dividend,” Auxier says. The stock currently trades for 12 times estimated 2010 profits of $4.16 per share and yields 3.6%. The stock trails the S&P 500 by about four percentage points this year.

Consumers may be cutting back on discretionary spending, but toilet paper is essential. Kimberly-Clark’s roster of recognizable brands includes Kleenex tissues, Huggies diapers and Scott bathroom tissues. Those brands and other staples account for more than 75% of Kimberly Clark’s sales; the remainder comes from its smaller, but growing, businesses in medical devices and cleaning and air-filtration products. “The company should hold up relatively well if the economy were to weaken,” says Tom Forester, manager of Forester Value Fund. And Kimberly’s growing presence abroad -- more than 30% of its sales now come from emerging markets -- can only be a boon. The stock trades for 13 times estimated 2010 earnings of $4.83 per share and yields 4.1%.

ConocoPhillips might sound out of place on a list of defensive stocks, given the cyclical nature of the energy business. But its stock price grants you a comfortable margin of safety -- the shares trade for nine times estimated 2010 profits of $6.19 per share. And, says Morningstar, the stock trades at 5.7 times cash flow, compared with an industry average of 7.1 times cash flow. Why so cheap? Forester says profit margins on the firm’s refining, retail and wholesale businesses, which together account for more than 70% of sales, have been below average and are expected to fall further in the current quarter. But this is just a short-term hurdle, says Forester, who thinks the firm’s planned stock buybacks could boost the share price. A 4.0% dividend yield is yours for the taking.

This is two distinct yet related businesses rolled into one. In 2007, CVS, a drugstore chain, purchased Caremark, which administers prescription-drug benefits for employers and health insurers. About 55% of the combined entity’s sales now come from its drugstores, with the remainder coming from its pharmacy-benefits business. The stock trades for just 11 times estimated 2010 earnings of $2.71 per share. That’s lower than the price-earnings ratio of Walgreen, CVS Caremark’s closest competitor among drugstores. And it’s also lower than the P/E of CVS’s peers in the pharmacy-benefits group: Express Scripts (ESRX) and MedcoHealth Solutions (MHS). “CVS should have a much higher P/E,” Forester says. The stock has fallen 23% from its mid-April high.

Cash is king when the market is in a free fall, but in times of stability cash is trash. Investors seem to be focusing on the latter right now -- otherwise, Microsoft and its $37-billion pile of the green stuff (net of debt the company holds $31 billion worth of cash) would command more respect. Yet the stock sells for just ten times estimated earnings of $2.36 per share for the fiscal year that ends June 2011. Microsoft’s June quarter was spectacular, with earnings per share up 50% from the same period a year earlier. Windows 7 has become the fastest-selling operating system in history, the Office 2010 software suite is selling well, and the Xbox video-game console is gaining market share. The company’s cash hoard grows by about $1 billion each month. “That gives Microsoft a lot of flexibility,” says Forester. The stock has given up 21% from its mid-April high.

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Elizabeth Leary (née Ody) first joined Kiplinger in 2006 as a reporter, and has held various positions on staff and as a contributor in the years since. Her writing has also appeared in Barron's, BloombergBusinessweek, The Washington Post and other outlets.