5 Dirt-Cheap Stocks to Buy in April

Susan Dziubinski: Hello, and welcome to The Morning Filter. I’m Susan Dziubinski with Morningstar. Every Monday morning, I sit down with Morningstar Research Services chief US market strategist Dave Sekera to discuss what and what’s on his radar this week, some new Morningstar research, and a few stock picks or pans for the week ahead. So happy Monday, Dave. Earnings season kicks off this week.

What in general will you be listening for this earnings season?

David Sekera: Hey, good morning, Susan. Yeah, I hope everyone’s ready for the solar eclipse today. I know my son and I were going to take a road trip later this afternoon to go down and view the eclipse, but if you are going to view the eclipse, make sure you’ve got your solar eclipse glasses ready so you don’t damage your eyes. But getting into it

Yeah. First-quarter earnings starting to come up. I think they’re going to be fine. So while we do think that the rate of economic growth is slowing, in fact, Preston Caldwell, our chief US economist, is looking for the rate of the economic growth to slow to 1.8% in the first quarter. But it doesn’t look like it’s slowing any faster than expected.

So I don’t really think that there should be any earnings misses. I think management teams probably already have that incorporated into their view. So really at this point I’m now thinking more about what second-quarter guidance should be. So we do still expect the rate of economic growth is still in that slowing phase. We’re looking for 2Q GDP down to 0.9%.

So just under 1%, but it shouldn’t really be any worse than what management teams should have been expecting at the beginning of the year when they gave us their full-year outlook. So I don’t see a reason for them to lower their second-quarter earnings expectations as well. And of course AI, artificial intelligence, will be the topic du jour. Everyone’s going to want to hear from management teams.

What they’re doing, how they’re going to incorporate it into that business. So I just want to provide a word of caution for investors. I think a lot of companies out there, they’re going to want to be viewed as being a play on artificial intelligence. And to some degree, I think this is going to be a little bit like the mid to late 90s when everyone wanted to be dot-com or an internet play.

So I’d say, you know, just listen with a skeptical ear. A lot of companies are going to talk up AI, but personally, I think what I’m going to be listening for are those companies that have definitive plans that they can give, some specificity on and how they’re going to execute on those plans, and how those plans will specifically drive revenue growth and/or margin expansion.

Dziubinski: So we have banks beginning to report this week. What’s Morningstar’s take on banks today, which is a little more than a year after the regional banking crisis unfolded.

Sekera: It’s one of those things—I would say this is actually a case where the Federal Reserve actually did what it’s supposed to do. It went out there, it provided short-term liquidity for the banks that did see those deposit outflows but otherwise were financially solvent. And it really limited the bank failures. Those banks that did fail really were just those that had mismanaged their balance sheet.

So for example, in the case of New York Community Bank, it was just that they had too much real estate exposure specifically in multifamily in New York. And then they had also bought way too much long duration of fixed-income assets when those were at their lows. And so then when interest rates backed off just caused too large of a hole in their balance sheet with too many expected losses in their commercial real estate.

The end of the day, I really got to commend our analyst team for their work a year ago. When all of this news was coming out, they went through, updated their models as needed, but yet they still really kept their focus on what the long-term implications were and what their outlook was. We lowered our fair value a couple of places where it was warranted.

But they used it as an opportunity to identify a number of regional banks where we thought those stocks had sold off. Now a lot of these stocks are back toward their 52-week highs. So the takeaway here is, I think, US regionals—a number of them are still undervalued at this point but not nearly as undervalued as what we saw a year ago.

Dziubinski: Now you mentioned commercial real estate. Let’s talk a little bit about that. What about losses there? What impact does Morningstar expect that to have on banks overall? And are potential losses being accounted for in Morningstar’s fair value estimates of the bank stocks we cover?

Sekera: Yeah, we do incorporate our estimates for those commercial real estate losses. This is an area that the CRE, or commercial real estate, it’s still playing out. And in fact, it’s going to take at least several years for those losses to get realized on the bank’s balance sheets. And I think what investors need to remember here is that commercial real estate is only a portion of the total amount of loans outstanding for the banks.

And even within that commercial real estate portfolio, urban office space is only still going to be a portion of that. And, of course, it’s really the urban office space where I have the biggest fear that’s where they’re going to take home most of those losses. Other than that, a lot of the other real estate classes are holding up just fine, especially those that have more defensive type of characteristics.

So I think you need to be careful not to overestimate, not to fall into a lot of the fear mongering for commercial real estate losses. And when I think about it, first, again, it’s only a portion of the total loan exposure at the bank. And you have to remember when a bank makes that loan, they have an LTV, a loan to fair value, that they utilize.

So they’re only lending a portion of what they think that real estate is worth. You’re going to have an equity cushion. Sometimes there’s going to be a subordinated debt cushion there as well. And those have to realize the losses to the downside even before the bank takes any kind of hit. And then lastly, over this time period, over next couple quarters, next couple of years, the banks do have time in order to earn interest on those loans.

And that helps offset those potential future losses. And we do know the banks are working and building capital right now to offset those commercial real estate losses for when they are recognized. So in our view, not necessarily a huge concern. It will weigh on earnings over the next couple quarters. But we’ve incorporated that. And we still see a lot of opportunities today.

Dziubinski: So let’s get to some specific banks reporting this week. We have the biggies in Citi, J.P. Morgan, and Wells Fargo all reporting on Friday. So what’s Morningstar think of each of those banks heading into earnings?

Sekera: I’d say first of all my takeaway here is these are not nearly the value that we saw compared to where they were trading a year ago. The things I’m going to be listening for first is just going to be their view for loan growth, watching loan growth, when that starts kind of ramping back up, that’s probably a pretty good indicator that the economy is starting to rebound.

I want to hear what their interest-rate forecast is. When do they think the Fed’s going to start cutting rates? How much do they think the Fed’s going to cut by? And of course what the impact is going to be on their own earnings. For several of these banks, I want to hear what their cost-control initiatives are.

A number of the banks are kind of in the midst right now of putting a lot of different cost measures through, and then of course, loan-loss reserves, are those steady or those building? If they’re building, that could indicate the banks are seeing economic weakness ahead. For the three banks, J.P. Morgan, the highest quality of the mega banks, we rate the bank with a wide economic moat, very strong stock performance

That’s up 16% year to date. But at this point it’s now trading at a 16% premium to our fair value. So that puts it in that 2-star territory. Taking a look here at Wells Fargo. That’s a wide economic moat as well. Now I’d note that Wells still is in the midst of its turnaround stage. This one is kind of the middle of the pack as far as trading at our fair value estimate.

So that’s a 3-star-rated stock. And then lastly Citibank. And as you know this is a stock we’ve talked about multiple times over the course of the last year. We highlighted that one is being a deep-value play. It’s had a very strong rally since the market bottom last October. In fact, that stock is up 20% just this year alone.

Now it is a bank we rate with no economic moat. So maybe not necessarily a buy-and-hold kind of stock, but it trades at a 10% discount. That puts us right in that between 3- and 4-star territory. So right now it is a 4-star-rated stock. And it pays a 3.4% dividend yield.

Dziubinski: So now moving away from banks, we also have the first of the big airlines reporting this week. And that’s Delta. So what’s Morningstar think of Delta going into earnings? And what do we think of the airline industry in general?

Sekera: Yeah. And for those of you that’ve watched our livestream for the past year, this is one that you should remember we’ve highlighted a number of times in 2022 and 2023 as being a pandemic recovery play. It’s been the best performing of the airline stocks. But now we think that stock has run up too far to the upside. It is a 2-star-rated stock. Trades at a 35% premium.

So I think earnings here, they’re going to be a good early indicator for the rest of the airline sector. The entire airline sector we think is overvalued at this point. And I would also note to the airline sector, this is not an area for buy-and-hold type of investors. I think this is a better area where you want to “rent” stocks.

Something that you’re willing to go out, buy that stock when it’s oversold, undervalued, traded too far to the downside. But the airline industry in and of itself is a no-moat industry, very highly competitive. And it’s going to be one where you’re going to see large swings both to the upside and to the downside

Over the course of an economic cycle. So again, I think this is one you can buy when it’s oversold and undervalued. But at this point it’s run up too far. So now I think is a good time to sell, take your profit. Exit that position and put your money to work elsewhere.

Dziubinski: So do we have any other companies reporting this week that you’ll be watching?

Sekera: Constellation Brands is always on my radar. It’s a company I’ve followed for quite a number of years now. It’s currently a 3-star-rated stock, trades at just a hair below our fair value estimate. This is one we highlighted on our March 18 livestream. It’s a company with a wide economic moat, medium uncertainty.

So we have some pretty high-quality characteristics. And I think this is one where if you see some potential pullbacks, it could be a good buy for a good core holding in your portfolio. So again I’m just going to be listening for the indications that they give for the beer industry and even more specifically for their alcoholic seltzer business line.

Dziubinski: So on the economic front this week, we have the March CPI and PPI numbers. What are the markets and Morningstar expecting?

Sekera: So we’re right now forecasting a 3/10 of a percent increase in core CPI, which is the one that we’re going to follow most closely. And that’s on a month-over-month basis. And I believe that’s actually the same as the market consensus forecast right now. So if we do get a print there that would be consistent with our expectations for core PCE, the personal consumption expenditure index, to increase later this month, when it gets reported at 2/10 of a percent on a month-over-month basis, which would be a deceleration from last month.

And some other areas that I know Preston Caldwell, our chief US economist, is watching is, first, going to be housing inflation. You know, that is the area that we’ve seen inflation hold up and be the stickiest. That is an area that he expects to see decelerate as real-time rent indicators have been weakening. If that housing inflation number still stays high, that could be a risk to our inflation outlook.

He’ll also be watching the core services ex-housing. If that comes out higher than about 3.5% on an annualized basis that I think is also a risk to our inflation forecast. Lastly, a couple other kind of more low-probability but still potentially impactful areas would be goods inflation. I do think that there is a risk that we could see some inflation in goods.

We’ve seen number of shipping issues like in the Red Sea and some other areas that could temporarily push that number up. And then lastly, wage inflation—the concern that that could start picking back up after the payrolls print that we saw last week, but not expected at this point.

Dziubinski: So what if these numbers come in a little bit hotter than expected this week? What could that mean for the markets?

Sekera: If it comes in hotter than expected, I’d say “look out below.” But no, all kidding aside, if it does come in hotter than expected. Yeah, I think the market’s then going to assume that the Fed would not be ready to start lowering the federal-funds rate at the June meeting.

And in fact, the market is already doubting that at this point anyways right now. So after last week’s payrolls report, the market implied probability of a June cut is now down to a coin flip. It’s at a 50/50 probability. And that’s down from its 75% probability last month. Now if CPI and PPI both come in line or even better than expected, I do think that could provide some positive momentum to the upside.

So as a reminder, our base case for monetary policy is still we’re looking for that first cut at the June meeting. we’re actually looking for the Fed to cut at each meeting thereafter. And that would take us to a federal-funds rate of 4.00% to 4.25% range at the end of this year.

Dziubinski: So let’s move on to some new research from Morningstar, and we’ll start with Tesla. Tesla’s first-quarter deliveries were lower than expected, and the stock was knocked around a bit after that news came out. Looks like Morningstar trimmed its fair value estimate on the stock a little bit, too. What’s our take on the news and on Tesla stock, which is having a really tough year?

Sekera: It is having a tough year. And I think this is a good one, too, where you really have to remember the value of Tesla isn’t necessarily in the number of cars it’s making today. It’s really the value of the growth over the course of the next decade. What amount of electric vehicles do you assume your total new car production in 2030 is going to be?

So again, we did reduce our Tesla fair value, but only by 2.5%. We took it down to $195 from $200 per share. We did revise our short term expectations for deliveries here in 2024 to 1.8 million vehicles. So that would be flat with the same number we saw last year in 2023. But we didn’t make any change to our long-term forecast for the EV market in and of itself and for the expected market share that we expect Tesla to have.

We’re still looking for Tesla to produce 5 million electric vehicles by 2030. So I would say, in the shorter term, I think the next catalyst is going to be when Tesla gives some more indications of when they’re going to put out a more affordable electric vehicle. That’s expected to be in late 2025.

And when that happens, we do forecast that’s going to help accelerate their sales.

Dziubinski: Now last week, 3M spun off its healthcare business. What changes did Morningstar make to 3M’s valuation after the spinoff? What do we think the stock’s worth today? And what are our assumptions behind that valuation?

Sekera: So 3M today is a 3-star-rated stock. It does trade at a 12% discount. But for dividend investors, it is one to take a look at. It pays a very healthy 6.6% dividend yield. We did bump up our fair value slightly up to $104 a share from $99. And that was really just to incorporate a dividend that’s being paid from its spinoff Solventum to 3M. Solventum is the healthcare assets of 3M. They were spun off as a separate company, I think, on April 1. So I would note here that we don’t currently cover Solventum, but I know Josh Aguilar, who’s our analyst that covers 3M, did some back-of-the-envelope type of calculations.

And he does think that Solventum stock is trading at a 35% discount to fair value. So for those of you that own that stock from the spinoff certainly want to do your due diligence on and really have a good understanding of that business before you decide to keep that stock for the longer term or potentially sell it here in the short term.

Dziubinski: And then just to confirm, is 3M stock a buy?

Sekera: Well, I think it’s going to depend on your portfolio and kind of where you already are today in that stock. To me, it’s actually more meaningful taking a look at what the combination of those two stocks in your portfolio is today, again, for investors in 3M, 3-star-rated stock doesn’t mean sell, doesn’t mean that it’s overvalued.

In fact, it is trading at a bit of a discount. So I do think it’s one that you can keep and hold. Maybe it’s a core holding in your portfolio. But I think the real work you need to do today is going to be Solventum, the spinoff business.

Dziubinski: Got it. So Medicare Advantage issued its final rate notice last week. And that knocked down the stocks of some managed-care organizations, or MCOs. And we’ve talked a bit on the show before about MCOs. Walk through what surprised investors about Advantage’s rate notice.

Sekera: Yeah. So specifically—and this stock is covered by Julie Utterback, and she’s one of our healthcare analysts; she’s really good; she’s followed this stuff for a long time—and what we she noted here is that historically the government has always increased rates in that final rate notice from their initial rate notice. And in this final rate notice, the overall increase in the Medicare Advantage revenue and those repayments remained lower than what the risks or trend should be.

So Julie noted that, for those that sell those plans for Medicare Advantage, it’s going to do a couple of things. It’s going to pressure the benefits going forward. It’s going to put a lot of pressure on pricing as well as insurer profits here in 2025.

So those that are most focused on those Medicare Advantage plans I think are going to have a bit of pressure before they can see them start moving back up over the long term.

Dziubinski: Now, it looks like Morningstar trimmed its fair value estimate on Humana after the announcement but left the fair value estimates of other MCO stocks unchanged. Why?

Sekera: Yeah, so Julie cut the fair value in Humana by 5%. Not a huge cut, but definitely a cut at this point. And really the cut there was just based on the focus that Humana has on the Medicare Advantage programs. It has a much larger percentage of its business there than the other MCOs, whereas the other MCOs have much more diverse underlying lines of business.

And they’re not nearly as reliant as Humana is on that Medicare Advantage plan.

Dziubinski: So what do we think of MCO stocks today? Is there an opportunity here?

Sekera: There is. So Humana sold off the most after the news. It was down 10% on the week. It’s currently rated 5 stars. So even after our fair value cut, it still trades at a 34% discount to fair value. And it is a company that we rate with a narrow economic moat. Centene was down 7% last week on the news.

It’s a 4-star-rated stock. Trades at a 22% discount. If you’re a dividend investor, I’d note this one does not pay a dividend. Let’s see ... UNH, also down 7% last week, but that is a 3-star-rated stock, so not necessarily undervalued at this point. And Cigna stock—looks like that one was essentially unchanged after the news.

That’s also a 3-star-rated stock.

Dziubinski: So moving on to the picks portion of this week’s program, but before we do, I’d like to do a little commercial for Dave’s quarterly webcast, which is taking place on April 10 and during which that time he’ll take a deep dive into his second-quarter outlook. Viewers interested in watching that can register for the free event via a link beneath this video.

And now we are really on to the picks. This week you’re sharing five stock picks from the most undervalued part of the Morningstar Style Box, and that’s small value. So what’s been going on with small-value stocks lately, Dave?

Sekera: Yeah, so specifically that small-cap value category has been the worst-performing category within the Morningstar Style Box year to date. It’s only up 1.3%, whereas the rest of the market is up well over 9% at this point. And I’d also note, too, that, those small-cap value stocks, they lagged the broad market return last year in 2023.

They’re only up 14.5% versus the market, which was up over 26%. So at this point according to our valuations that is where we see the most undervalued opportunities today. That category is trading at about an 18% discount to fair value.

Dziubinski: So now given that these are dirt-cheap stocks of smaller companies, how should investors think about these in terms of their overall stock portfolios? You’re not suggesting that investors hold these names as core holdings or anything, are you?

Sekera: Well, like anything else, it’s always going to depend on your own individual risk tolerance, your investment goal, kind of your overall investment portfolio. So within a larger portfolio, some of these could be a core holding. But personally I’d steer away from these as a core. I’d really look for those that have a narrow or a wide economic moat, stocks with a low or medium uncertainty rating.

So again, maybe even like a high uncertainty stock. But it really has to be for the right type of situation. And I’d also note, too, I do think that small-cap stocks do need to be monitored much more closely than like the large-cap stocks. You know, with the small caps, oftentimes we can see the fundamentals and the prices swing around more than what we might see in the large-cap-stock space.

Dziubinski: So your first pick this pick this week is an auto-parts supplier, BorgWarner. Why do you like it?

Sekera: Yeah. So BorgWarner is an auto-parts supplier. But when we think about this stock, we’re really thinking about it as being more of a play on the long-term growth in hybrids and electric vehicles. So specifically with BorgWarner, we think it actually has one of the best portfolios of products for things like electric motors and components, battery systems—all those things that they’re going to need for the electric vehicles.

So what I like here is that while the other auto manufacturers are going to battle it out for market share in that EV space, BorgWarner supplies these components to all the manufacturers for the EVs. So again, it’s a 5-star-rated stock. Trades at about half of our fair value, although only a 1.25% year dividend yield.

It is a company we rate with a narrow economic moat. But I do have to highlight it is a company that we rate with a high uncertainty. But when I look at our auto-related stocks, they’re all rated with a high uncertainty. And that’s really just due to the cyclical nature of auto sales.

Dziubinski: So your next pick is an inexpensive stock in an expensive sector. It’s Sensata. So why isn’t this stock skyrocketing along with the rest of the tech sector? What’s the market missing here?

Sekera: Yeah, I mean, it is in the tech sector, but Sensata itself is really just a supplier of sensors. And those sensors are used in industrial applications but primarily within the transportation sector. And of course, and we’ve seen, the auto sales struggle in this current economic environment. But I do think this is actually another play on that long-term trend for electrified vehicles.

It’s a 5-star-rated stock, also trades at about half of our fair value. Low dividend yield—only 1.3%. But it is a company we rate with a narrow economic moat and again a high uncertainty. And when I think about both of these stocks—BorgWarner as well as Sensata—yeah, I’d note they have been under pressure. We have seen a slowdown in the rate of growth in electric vehicles here recently. We saw that last week when Tesla reported its auto deliveries were weaker than what was expected. But I think this is an area you really need to focus on long-term growth expectations. Right now, we still expect that 10 years from now we expect two thirds of all new global auto production will be electrified whether it’s a hybrid vehicle or an electric vehicle.

Dziubinski: So your next pick is technically classified as a small-core stock according to its Morningstar Style Box designation, but you’re including it on your list of small-value stocks to buy. Which means, I guess, some rules are meant to be broken. The stock is FMC. Tell us about it.

Sekera: Yeah, so Morningstar has an algorithm that we use in order to classify stocks. And we look at a number of different financial metrics. And based on where those metrics come out, we have a scoring system. So it goes into either value, core, or growth buckets. But, in this case, it really looks more like a value stock to me.

Currently trades at less than 15 times our 2024 EPS forecast. And in fact, based on our growth expectations here, as this underlying business normalizes, it only trades at about 10 times our 2025 earnings estimate. It’s a 5-star-rated stock. Trades at a 46% discount to our fair value and has about a 4% dividend yield right now.

We rate the company with a narrow economic moat. Does have a high uncertainty rating, though. But I’d note FMC is our top agriculture pick right now from our basic materials team. So I just want to give a little bit of the back story here when you think about investing or potentially investing in this stock. So we saw what happened was in 2021 and 2022, a lot of fears of the supply because of Covid as well some supply chain disruption, led customers to buy and hold excess inventory. And that pulled forward a lot of future sales. Now as those fears subsided, customers used up that excess inventory in 2023, resulting in a sales slowdown last year. And we really saw the stock get hammered because of that. Now at this point, our analyst does think that we’re at the end of this destocking

And he expects the sales should return to a much more normalized historical pattern. So that’s why we do have this as one of our top picks for next year.

Dziubinski: So Caesars Entertainment is your next pick. Why should investors bet on this stock, Dave?

Sekera: Well, first of all, I think I do need to disclose: I do have a personal bias on this one. I worked with Tom Reeg, he’s the CEO at Caesars, back in the mid-’90s. You know, we were both analysts at Bank of America at that point in time and he covered the gaming sector.

In fact, I even remember him covering Trump’s casino companies back in the day. But, you know, long story short, I would just say Tom is a really sharp analyst, and he’s had really quite a career at this point, working his way up from being a gaming analyst to now running one of the world’s largest casino companies.

So again, I kind of put a lot of faith in his management ability at this company. The stock is a 5-star-rated stock. Trades at a 44% discount. But it is a company that doesn’t currently pay a dividend. And also highlight we don’t rate the company with an economic moat. And in fact, I don’t think we rate any of the gaming companies with an economic moat.

Again, another company that we do have a high uncertainty rating due to its economic cyclicality, but this is actually one of the few examples, too, of a company that we do rate with an exemplary capital allocation rating. When I take a look at Caesars, it does have one of the largest loyalty programs. It has a very broad portfolio of locations, so it’s able to cross-sell to its customer base.

So again, whether you want to go to Vegas or go to some of the other areas, you can use that loyalty program in a lot of different parts of the country. And then lastly, Caesars is also one of the largest gaming companies with a very strong online gaming system. And so I think that’s going to help benefit the company over the long term from the growth in sports betting in iGaming.

Dziubinski: And then your last pick this week is homegoods internet retailer, Wayfair. Tell us about it.

Sekera: Yeah. So Wayfair is an online retailer sells furniture, home decor, housewares, and those kind of things. And again, I think this is another good example where you can see how the market can overextrapolate short-term swings and fundamentals too far into the future. So in 2020, during the pandemic, people were staying at home. While they’re at home,

They wanted to redecorate or remodel their home so sales were skyrocketing. The stock skyrocketed along with it. But it just rose way too far, well into the 1-star stock rating territory for most of 2020 and 2021. Until we saw that stock start to roll over.

It fell really hard in 2022. Dropped enough to put it deep into 5-star territory. Has moved up—it’s back into that 4-star territory with its rating right now, but still trades at a 37% discount. It is a company we rate with no economic moat, so we don’t see it having out long-term sustainable competitive advantages.

But I do think it is an interesting story. It does have some pretty good momentum here in the short time. But I would caution I do think this is going to be a little bit more on the speculative side for most investors.

Dziubinski: Well, thanks for your time this morning, Dave. Viewers interested in researching any of the stacks that Dave talked about today can visit morningstar.com for more analysis. We hope you’ll join us for The Morning Filter again next Monday at 9 a.m. Eastern, 8 a.m. Central. In the meantime, please like this video and subscribe to Morningstar’s channel. Have a great week!