The secret to making money from mega-cap stocks such as GlaxoSmithKline (LSE: GSK) is timing, in my opinion.
Companies this large rarely double in size. To beat the market, you need to buy them when they’re cheap and then profit from their recovery. Doing this can also enable you to lock-in an above-average dividend yield – good news for income investors.
In this article I’ll ask whether now is the right time to invest in Glaxo and BAE Systems (LSE: BA).
GlaxoSmithKline
Investors’ patience has been tested by several years of indifferent performance from Glaxo.
Last year’s sales are expected to be 12% lower than those reported in 2011. Post-tax profits for 2015 are expected to be £3.7bn, according to analysts’ forecasts – down from £5.2bn in 2011.
However, 2016 may be the year when chief executive Sir Andrew Witty’s turnaround plan starts to deliver results. Rapid sales growth from Glaxo’s portfolio of HIV medicines is helping to offset falling profits from asthma drug Advair.
Glaxo also hopes that rising sales from the firm’s consumer health and vaccines businesses will help lift earnings. Both divisions were enlarged by last year’s deal with Novartis.
Sir Andrew probably needs to deliver growth soon to secure his position. But the general view among major institutional investors seems to be that Glaxo’s current valuation doesn’t reflect the true value of its product portfolio. According to a recent FT article, big City players are willing to continue supporting Sir Andrew’s plans as long as the firm’s dividend is maintained.
A payout of 80p per share has been promised until 2017, giving a yield of 5.8%. Current forecasts suggest earnings per share could rise by 11% in 2016, with further gains in 2017.
In my opinion, this could be a good time to buy Glaxo shares.
BAE systems
BAE shares rose by more than 10% in November after the UK government announced plans for increased defence spending over the next decade. American defence spending also seems to have stabilised, after the cuts of recent years.
However, spending by one of BAE’s other key customers, Saudi Arabia, is coming under pressure. Low oil prices mean that the Kingdom’s rulers are considering a 14% cut to the state budget.
For the time being, the demands of the war in Yemen and the wider unrest in the region means that Saudi defence spending is likely to escape major cuts. Defence is expected to account for 25%, or $57bn, of the country’s 2016 budget. However, if low oil prices continue for several more years, further cuts may be required.
Analyst forecasts for BAE edged steadily lower last year and are around 5% lower than in January 2015. Earnings per share are expected to rise by around 5% in 2016, but I expect growth to remain slow.
On this basis, I’d suggest that the stock’s current forecast P/E of 13 is probably high enough.
Although BAE’s prospective dividend yield of 4.2% is appealing, I suspect that there will be better buying opportunities in the future.