The Shiller CAPE Ratio is at its second-highest reading in 150 years. The last time it was this high was right before the dot-com bubble burst, with the S&P 500 Index (^GSPC -0.17%) crashing nearly 50% over the next two and a half years. That elevated market valuation indicator has me looking for more safe investments.
I came across Pfizer (PFE +0.00%) while screening for quality dividend stocks to buy amid the current market environment. While its high 6% yield initially looked like a trap, the more I dig into Pfizer, the more I see a potential safety net for a looming market storm.
Image source: The Motley Fool.
What is the CAPE ratio?
American economist Robert Shiller invented the CAPE ratio (cyclically adjusted price-to-earnings ratio) to gauge whether the S&P 500 is currently undervalued or overvalued relative to its inflation-adjusted earnings over the last 10 years.
This ratio peaked in December 1999 at 44.2. The S&P 500 would go on to peak shortly thereafter and endure one of the biggest stock market crashes in history.
Its next-highest point before this year came in October 2021, when it hit 38.6. The following year, the S&P 500 tumbled 25% from peak to trough.
Given this historical precedent, I’m looking for safe investments to hold during a potential market downturn.
What makes Pfizer a potential trap?
I’m going to start with the negatives. Pfizer is facing several headwinds, including patent expirations, tariffs, and declining sales of its COVID-19 products. Through the first six months of this year, its revenues have only risen 4% to $29.5 billion, while its adjusted earnings fell 10% to $1.52 per share.
Today’s Change
(0.00%) $0.00
Current Price
$28.72
Key Data Points
Market Cap
Day’s Range
$28.26 – $28.76
52wk Range
$23.62 – $29.21
Volume
32.5M
Avg Vol
38M
Gross Margin
64.83%
Dividend Yield
5.99%
The company isn’t currently covering its dividend with cash flow. Last year, Pfizer generated $11.7 billion in net cash provided by operating activities, while paying $9.8 billion in dividends. However, it also invested $2.6 billion in capex, leaving it with a $700 million shortfall to cover with its balance sheet. Pfizer also spent $6.9 billion on acquisitions, which it funded with its balance sheet. Meanwhile, it has generated only $3.4 billion in cash from operating activities through the first half of this year, not nearly enough to cover the $4.9 billion it paid in dividends. The company’s declining earnings and cash flow shortfalls certainly put the dividend at risk.
What makes Pfizer safe?
Healthcare stocks are typically recession-resilient investments because people can’t defer most healthcare spending. As a result, healthcare companies generally generate more durable cash flows and have strong balance sheets.
Pfizer has a fortress balance sheet. It currently has A/A2 credit ratings with a stable outlook from both rating agencies. The company ended the second quarter with $11.7 billion of cash and short-term investments on its balance sheet against $63.2 billion of debt, a comfortable level for a $163 billion company by market cap.
Meanwhile, the company is taking actions to improve its cash flow and reinvigorate growth. Pfizer currently plans to deliver $9.7 billion in total net savings through 2029 via its cost realignment and manufacturing optimization programs. Additionally, it’s investing heavily in R&D and acquisitions to drive growth. Recently launched or acquired products drove an 18% increase in operational revenue last quarter. These initiatives are part of Pfizer’s strategy to deliver high-single-digit five-year compound annual revenue growth after 2028. This strategy supports its plan to maintain and grow the dividend while deleveraging its balance sheet over time.
Pfizer’s current struggles have weighed on its valuation. It trades at just 9.5 times forward earnings. That’s a bargain compared to the S&P 500, which trades at nearly 20 times forward earnings. Pfizer’s low valuation is why it has such a high dividend yield.
A value in a historically expensive market
Pfizer looks like a value in today’s pricy market. Meanwhile, investors are well paid while they wait for the company to turn around its operations, which is already underway, as recently acquired and launched products are driving growth. While Pfizer’s turnaround makes it riskier than other dividend stocks, its low valuation means it offers more ballast and long-term upside potential than most stocks in today’s seemingly overvalued market.
