The S&P 500 index is currently hovering near all-time highs on optimism about promising COVID-19 vaccines, but the foundations of that rally could crumble as infection rates rise, unemployment claims climb, and the presidential transition remains stuck in the mud.
If you’re getting worried about those challenges, it might be time to buy a few cheap dividend stocks that can weather the incoming storm. Here are three such stocks trading at low valuations: Cisco (NASDAQ:CSCO), Intel (NASDAQ:INTC), and Johnson & Johnson (NYSE:JNJ).
1. The world’s top networking company: Cisco
Cisco, the world’s largest networking hardware and software company, pays a forward dividend yield of 3.5%. It spent just 40% of its free cash flow (FCF) on its dividends over the past 12 months, and it’s raised its payout every year since its first payment in 2011.
However, Cisco’s stock declined nearly 10% over the past 12 months as its revenue declined year-over-year for four straight quarters. It attributed that slowdown to sluggish sales of its infrastructure hardware to data center and enterprise campus customers, as well as COVID-19 disruptions and a loss of contracts in China. Its security business continued to grow, but it couldn’t offset its declining hardware revenue.
Those headwinds have been fierce, but Cisco’s forecast for the second quarter (for a 0% to 2% decline in revenue and a 1% to 4% drop in earnings) exceeded analysts’ expectations, and suggest it’s reaching an inflection point.
Analysts expect Cisco’s revenue and earnings to dip 1% and 2%, respectively, this year. But next year, they expect its revenue and earnings to rise 4% and 7%, respectively, as the pandemic ends and more customers upgrade their networks for new 5G, AI, and cloud services.
Based on that forecast, Cisco trades at just 14 times forward earnings. That low valuation and high yield should limit its downside potential until the crisis passes and the secular networking tailwinds kick in.
2. The world’s largest x86 CPU maker: Intel
Intel, the world’s largest producer of x86 CPUs for PCs and data centers, shed more than a fifth of its value over the past 12 months as its growth stalled out, it lost market share to AMD (NASDAQ:AMD), and it struggled with production problems with its 14nm, 10nm, and 7nm chips.
However, that decline also boosted its forward dividend yield to 2.9%, and reduced its forward P/E ratio to 10.
Intel’s stock is cheap for obvious reasons: Analysts expect its revenue to rise 5% this year but decline 6% next year as it falls further behind TSMC in the “process race” to create smaller chips. Its earnings are also expected to remain flat this year and decline 6% next year.
But despite those challenges, Intel’s dividend remains safe, since it only used up 27% of its FCF over the past 12 months. It’s also raised its dividend annually for three straight years.
Intel is struggling, but it still has plenty of ways to fix its ailing business. It could outsource the production of its CPUs to TSMC to become a “fabless” chipmaker like AMD, which would significantly cut its costs while resolving its foundry issues. It could hire a new CEO with more engineering experience to catch up to AMD. It could also expand its fledging discrete GPU business to challenge AMD and NVIDIA and capitalize on the growth of the gaming market.
If Intel makes those painful changes, it could reset expectations for its stock — which would suddenly seem very cheap relative to its long-term growth potential.
3. A classic dividend play: Johnson & Johnson
Johnson & Johnson, the diversified healthcare giant which sells myriad pharmaceutical products, consumer products, and medical devices, is a Dividend King that’s raised its dividend annually for 58 straight years.
That streak should continue for the foreseeable future, since J&J spent just 56% of its FCF on its dividend over the past 12 months. It pays a forward dividend yield of 2.7%, and its stock trades at just 17 times forward earnings.
The COVID-19 crisis disrupted J&J’s sales of medical devices this year as patients postponed certain surgeries. However, its consumer products business held steady with strong growth in the U.S., and its pharmaceutical sales continued climbing, with its blood cancer drugs Darzalex and Imbruvica leading the way.
Wall Street expects J&J’s revenue to stay flat this year as its earnings dip 8%, mainly due to the headwinds facing its medical devices unit. But next year, they expect its revenue and earnings to rise 9% and 12%, respectively, as those pandemic-related headwinds dissipate.
Investors should always take analysts’ forecasts with a grain of salt, but J&J has weathered wars and economic downturns before. I’ve kept J&J as a core holding in my portfolio since 2015, and I believe it’s still cheaper than many other defensive stocks that have rallied over the past year.