The outlook for the S&P 500 index is optimistic for the next 12 months. Over this period, the index is likely to trend higher by 9.3%. Without a doubt, there will be undervalued blue-chip stocks and growth stocks that will witness a significant rally. It’s a good time to remain invested in fundamentally strong names that trade at a valuation gap.
In this column, the focus is exclusively on undervalued blue-chip stocks for high returns. Besides trading at attractive levels, the stocks discussed also offer a healthy dividend yield. I would not hesitate to hold these stocks for the next five years. Over this period, total returns can be well in excess of 100%. Even if total returns are at a CAGR of 12% to 15%, the impact on the portfolio is likely to be significant.
Let’s discuss the reasons to be bullish on these undervalued blue-chip stocks.
AT&T (NYSE:T) stock has been depressed for an extended period. However, I believe that the selling is overdone, and the stock looks attractive at a forward price-earnings ratio of 6.3 times. Further, T stock has a robust dividend yield of 7.29%, and dividends are sustainable.
Recently, President Biden announced a $42 billion plan to ensure that every American household has high-speed internet by 2030. AT&T is likely to be one of the key beneficiaries of this plan. The company has invested $140 billion in the last five years to boost its wireless and wireline infrastructure. These investments will yield results with the accelerated adoption of 5G.
It’s also worth noting that AT&T reported an operating cash flow of $6.7 billion for Q1 2023. This implies an annualized OCF potential of $27 billion. The company is therefore positioned to make aggressive investments and deleverage. As credit metrics improve, I expect the stock to trend higher.
In a post-pandemic era, healthcare stocks have been in a downtrend. Pfizer’s (NYSE:PFE) stock looks attractive at a forward price-earnings ratio of 10.8 times. A robust dividend yield of 4.55% adds to the reasons to consider PFE stock at current levels.
An important point to note is that Pfizer has a clear roadmap for growth. With a deep pipeline of drugs in clinical trials, the company expects $20 billion in incremental revenue by 2030 from new molecular entities. For 2023, the company expects to invest $12.4 billion to $13.4 billion in research and development.
Further, Pfizer has been active on the acquisition front. The company expects $25 billion in incremental revenue by 2030 from new business developments. Once sentiments reverse for the sector, PFE stock looks poised for a meaningful rally.
I must add that Pfizer is well-diversified globally. Currently, emerging markets account for 24.5% of the company’s revenue. I would not be surprised if emerging markets are the key growth drivers in the next five years.
Chevron Corporation (CVX)
Chevron Corporation (NYSE:CVX) is another undervalued blue-chip stock to buy for high total returns. The 3.8% dividend yield stock has been subdued by a correction in oil prices. However, it seems that crude will trend higher as the probability of U.S. recession declines. CVX stock is poised for a breakout rally.
A big reason to like Chevron is its low break-even assets and hence, its high cash flow potential. For Q1 2023, the company reported operating cash flow of $7.2 billion. This implies an annual OCF of $29 billion. This visibility comes after a meaningful correction in crude oil.
It’s worth noting that Chevron is targeting annual capital investments in the range of $13 to $15 billion. Reserve replacement is likely to remain robust, and the company is also investing in the low-carbon business. Considering a strong cash buffer, low leverage, and strong cash flows, Chevron seems to be positioned for opportunistic acquisitions. Thus, this is among my top picks regarding undervalued blue-chip stocks.
Albemarle Corporation (ALB)
Albemarle Corporation (NYSE:ALB) stock has trended higher by 13% for year-to-date. However, the stock remains undervalued at a forward price-earnings ratio of 10.3 times. ALB stock is also positioned for robust dividend growth in the coming years.
As an overview, Albemarle produces lithium compounds, which is the key growth-triggering segment. With impending demand for lithium from EVs, Albemarle has clear growth visibility through the decade.
The company is already on a high-growth trajectory and expects revenue growth of 35% to 55% for the year. It’s also worth noting that the company expects an operating cash flow of $2 billion for 2023. This provides ample flexibility for dividend growth and pursuing aggressive capital investments.
Albemarle expects lithium sales volume to increase at a CAGR of 20% to 30% through 2027. With potentially higher realized prices, the company is positioned for sustained upside in free cash flows. ALB stock is, therefore, likely to create value through higher dividends and stock upside.
Rio Tinto (RIO)
Rio Tinto (NYSE:RIO) is my top pick from commodity blue-chip stocks. Currently, RIO stock trades at a forward price-earnings ratio of 8.4 times. Further, the stock offers an attractive dividend yield of 7.6%.
It’s worth noting that the IMF expects global GDP growth to accelerate on a relative basis in 2024. If emerging market growth gains significant traction, the demand for industrial commodities will trend higher. RIO stock is likely to close the valuation gap in a bull scenario.
From a financial perspective, there are two points to note. First, Rio incurred a capital investment of $20.3 billion between 2020 and 2022. Even after significant capital investments, the company reported a free cash flow of $36.1 billion during this period.
While the iron ore segment remains the cash flow driver, Rio has been investing in metals likely to benefit from the global energy transition. This includes lithium, copper, and aluminum. With a diversified portfolio, the company is positioned to benefit in the coming decade, making it among the most undervalued blue-chip stocks in my book.
Altria (NYSE:MO) stock has trended higher by 8% in the last 12 months. Clearly, the stock has been in a consolidation zone, and a breakout on the upside seems imminent. MO stock trades at an attractive forward price-earnings ratio of 9.2. Further, the stock offers a dividend yield of 8.24%.
Recently, Altria completed the acquisition of NJOY Holdings. This will boost the company’s e-vapor product portfolio. Altria expects the acquisition to be accretive to cash flow in 2025. It’s worth noting that Altria continues to make investments in business transformation towards non-smokable products. Having said that, the smokable segment remains the cash flow driver.
The positive point to note is that the company’s oral tobacco has been gaining market share on a consistent basis. The acquisition of NJOY Holdings adds to the positive catalysts for the business transformation segment. Further, Altria has exposure to the cannabis business through a 45% stake in Cronos (NASDAQ:CRON). Potential Federal-level legalization of cannabis in the U.S. can be a game changer.
Lockheed Martin (LMT)
Lockheed Martin (NYSE:LMT) is another undervalued blue-chip stock to buy for the core portfolio. With rising geopolitical tensions, defense spending has been increasing globally. Lockheed Martin is well-positioned to benefit. A forward price-earnings ratio of 17.4 times, therefore, looks attractive.
As of March, Lockheed reported an order backlog of $145 billion. This provides the company with clear revenue and cash flow visibility. For the current year, Lockheed has guided a free cash flow of $6.2 billion. FCF is likely to improve further, considering industry tailwinds.
It’s worth noting that Lockheed expects to return to revenue growth in 2024. That’s another potential catalyst for stock upside. With strong financial flexibility, Lockheed has been investing in next-generation defense technology. This includes hypersonic solutions for the U.S. military. Being ahead of the curve, the company’s order backlog is likely to swell in the coming years.
On the date of publication, Faisal Humayun did not hold (either directly or indirectly) any positions in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.