While the FTSE 100 may have gained 7% in the last month to trade within 250 points of its all-time high, not all stocks have enjoyed such a strong performance. In fact, in the last year a number of large-caps have experienced falling valuations for a variety of reasons.
Therefore, there could be an opportunity for investors seeking to buy potential recovery plays. Although they may continue to underperform in the near term, stocks such as ITV (LON:ITV) and British American Tobacco (LON:BATS) could offer significant turnaround prospects over the coming years.
While the FTSE 100 has made gains in recent weeks, a return to the volatility seen in the earlier part of 2018 cannot be ruled out. The world economy faces a variety of threats, including higher inflation, the impact of rising interest rates and geopolitical risks in the Middle East and North Korea. All of these areas could impact negatively on global GDP growth and lead to further uncertainty for companies in a variety of industries.
Therefore, buying shares which now lack a margin of safety could be a risky move. Although they may offer improving growth prospects, long-term investors may be able to generate stronger risk/reward opportunities through ‘unloved’ shares. While recoveries can take time, they can also prove to be highly profitable in the long run.
In the last year, ITV and British American Tobacco have seen their share price decline by 27% and 25% respectively. This is significantly behind the FTSE 100’s 4% growth in the same time period.
In British American Tobacco’s case, investors have become increasingly concerned about the prospects for the wider tobacco industry. Cigarette volumes have been under pressure in recent years, and this trend looks set to continue. Recent currency fluctuations may also have hurt investor sentiment in the company, while defensive stocks have largely been unpopular among investors in the last couple of years.
While recoveries can take time, they can also prove to be highly profitable in the long run.
However, with British American Tobacco expecting to double revenue from next generation products in 2018, it seems to be in a strong position to deliver growth within the reduced risk products segment. It also has a forward dividend yield of 5.5%, while EPS growth of 7% per annum over the next two years could help to ease investors’ concerns about its profitability.
A new era?
Likewise, ITV may also offer turnaround potential. Its financial performance has suffered in the last couple of years after a period of strong growth. It is due to post a fall in EPS of 4% this year, with an uncertain outlook for the UK economy and the prospect of a refreshed strategy under a new CEO acting as a drag on investor sentiment.
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With the company now having a P/E ratio of around 11, it seems to be relatively cheap. It also has a CEO who was able to kick-start a recovery at easyJet (LON:EZJ), while a strong operational performance in 2017 means it could compete effectively in what remains a competitive marketplace. As a result, it could offer turnaround potential for the long term.