This is the time of the year that many will be looking at the “Dogs of Dow” strategy in an effort to pick FY20 winners.
We only have a week before the new financial year starts and there are a number of laggards on the S&P/ASX 200 (Index:^AXJO) (ASX:XJO) index that will be glad to see the back of FY19 even though the broader market has delivered a reasonable 7% capital gain over the past year.
For those unfamiliar with the Dogs of Dow theory, it’s the idea that last year’s worst performers on the Dow Jones Industrial Average (the mega-cap US stock index) will stage a turnaround and be next year’s strong performers.
The argument is that businesses move in relatively short cycles and that industries facing a downturn will recover in the following year. We all know this isn’t always true – particularly when the company is facing structural issues.
But I think there are some dogs of the ASX that are worth putting on your watchlist as they look well placed to outperform in the new financial year. My top three choices are listed below.
Top dog to be betting on
The dog I particularly like is Aristocrat Leisure Limited (ASX: ALL). While the Aristocrat share price has bounced this month, it’s barely at breakeven over the past year.
Concerns about growth in its digital business have been put to rest, in my view, after management released its half year results a month ago with group revenue and earnings recording double-digit gains.
I believe the growth momentum will continue and that means the stock is undervalued as it’s trading on a FY20 consensus price-earnings (P/E) multiple of around 20 times. I see another 25% upside from where Aristocrat’s share price is currently at.
In a hole, but not for long
Another laggard I like is diversified miner South32 Ltd (ASX: S32). The S32 share price is behind the ASX 200 by around 15% for the year but I think it will play catch up in FY20.
A downbeat March quarterly production report that showed falling volumes for nearly all the minerals it produces is dragging on sentiment and I think the fact that it produces coal has also put some investors offside on worries of “stranded assets” as institutional investors are increasingly shunning oil and coal.
I won’t get into the climate change debate but I think the stock represents good value, particularly given the strength of its balance sheet and its strong cashflow.
Plugging the leak
The third dog that I think will make a comeback in FY20 is plumbing solutions company Reliance Worldwide Corporation Ltd (ASX: RWC).
The RWC share price has crashed by 35% over the past year as the owner sold stock and management issued profit downgrades. It’s not a good look.
The winter in the US just wasn’t cold enough to burst water pipes and demand for its Sharkbite product disappointed.
However, most of the headwinds buffeting the stock are cyclical and there are signs that these headwinds are easing.
Given the big de-rating in the stock as the sell-off has put it on a FY20 consensus P/E of around 16 times, I think little good news is priced in and that means the Reliance share price could pop if management strikes a more upbeat tone at the August reporting season.
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Brendon Lau owns shares of Aristocrat Leisure Ltd. and South32 Ltd. Connect with him on Twitter @brenlau.
The Motley Fool Australia’s parent company Motley Fool Holdings Inc. owns shares of Reliance Worldwide Limited. The Motley Fool Australia has recommended Reliance Worldwide Limited. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.
The Motley Fool’s purpose is to help the world invest, better. Click here now for your free subscription to Take Stock, The Motley Fool’s free investing newsletter. Packed with stock ideas and investing advice, it is essential reading for anyone looking to build and grow their wealth in the years ahead. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson. 2019