We recently compiled a list of the 10 Cheap and High-Quality Stocks Picked by Former SAC Capital Analyst. In this article, we are going to take a look at where Diageo plc (NYSE:DEO) stands against the other cheap and high-quality stocks.
Jonathan Tepper, the chief investment officer of little-known hedge fund Prevatt Capital, has an interesting approach towards investing. Tepper, whose stock picks generally focus on quality and value of firms, believes that investors would be better served learning about the modern history of finance, as it relates to the rise and fall of big businesses as well as financial meltdowns, instead of being bogged down by economic theory based on mathematics that might not play out in the real world as it does in books. Tepper leads Prevatt Capital which had a 13F stock portfolio worth more than $296 million at the end of the first quarter of 2024.
Tepper is the author of The Myth of Capitalism, a book that dives deep into the public policy surrounding industrial concentration in the United States and the rise of powerful monopolies. Tepper, in a recent appearance on Capital Allocators with Ted Seides, a finance podcast, underlined that his investing thesis was based on his studies about powerful monopolies that were owned by investors he admired. Tepper noticed how a lot of these monopolies were businesses that, if they did not exist, somebody would have to invent them. He remarked that he thus learned to invest in firms that had a natural reason for existing.
His comments can be seen in action if we look at the latest financial disclosures of his hedge fund. More than 60% of the stock portfolio of Prevatt Capital is concentrated in the consumer goods and services sectors. Tepper has doubled down on many of his long bets, increasing stakes in four of the top ten stocks in the portfolio of Prevatt Capital during the first quarter of 2024. The total value of the 13F portfolio has increased by more than $25 million in the first three months of the year due to this buying activity, compared to the previous quarter. His top ten holdings comprise nearly 80% of the total portfolio.
There are several reasons why Tepper prefers the value-based long term investing approach of his mentors to create wealth, as opposed to the shorting strategy adopted by many other hedge fund managers on Wall Street. Some of the reasons include short squeezes, lots of hype around new firms, high borrowing costs, and several funds shorting the same firms. In contrast, a value-based approach creates wealth at a healthy pace and avoids permanent loss of capital or significant drawdowns. Buying quality firms also comes with the added benefit of strong cash flows, steady dividend payouts, and thoughtful share buybacks to increase value.
Our Methodology
For this article, we scanned the stock portfolio of Prevatt Capital according to the 13F filings submitted at the end of the first quarter of 2024. We selected the top 10 stocks from this portfolio. Why are we interested in the stocks that hedge funds pile into? The reason is simple: our research has shown that we can outperform the market by imitating the top stock picks of the best hedge funds. Our quarterly newsletter’s strategy selects 14 small-cap and large-cap stocks every quarter and has returned 275% since May 2014, beating its benchmark by 150 percentage points (see more details here).
A close-up of bottles of whisky and other alcoholic beverages from a winery.
Diageo plc (NYSE:DEO)
Number of Hedge Fund Holders: 30
Prevatt Capital’s Stake: $23,054,700
Diageo plc (NYSE:DEO) produces, markets, and sells alcoholic beverages. It is placed sixth on our list of top stock picks of Prevatt Capital. Hedge funds are bullish on Diageo plc. (NYSE:DEO) as the firm has significant market presence and consumer loyalty due to a lot of strong brands, like Johnnie Walker, Guinness, Smirnoff, and Baileys. The firm is also well-positioned to benefit from the trend towards premiumization in the alcohol industry. Diageo plc (NYSE:DEO) is a typical Tepper stock, offering stable dividend payouts, a healthy return on equity, and has a high operating margin.
Despite having a high level of debt, Diageo plc (NYSE:DEO) remains a value champion. The earnings of the company are estimated to grow at nearly 5% and the revenue at more than 3% per year over the next three years. The company has a growth history to back up these numbers. In the past five years, earnings have grown 7% every year. The dividend yield of Diageo plc (NYSE:DEO) is above 3% with a stellar payout history. Compared to peers in the alcohol space, the stock is trading at a reasonable value for shrewd investors who understand the value proposition of the firm.
In its Q4 2023 investor letter, Artisan Partners, an asset management firm, highlighted a few stocks and Diageo plc (NYSE:DEO) was one of them. Here is what the fund said:
“One of the areas that hasn’t participated in the year’s rally has been consumer staples. We identified two staples stocks that meet our three margin of safety criteria (attractive business economics, sound financial condition and attractive valuation), purchasing Diageo plc (NYSE:DEO) and Kerry Group.
Diageo is a global leader in alcoholic beverages with an impressive collection of brands across spirits and beers. The company’s portfolio of over 200 brands provides diversification and allows it to meet consumer trends. A key focus for growth has been premiumization, and today, Diageo’s portfolio is now more heavily weighted toward premium segments. Shares are trading at multiyear trough multiples on fears of growth normalizing after a COVID-induced bounce and premiumization headwinds as some markets are showing consumers trading down to value alternatives. In the near term, margin expansion will likely be constrained, but the company generates meaningful free cash flow and returns it to shareholders through dividends and share repurchases. Over the past five years, Diageo generated £12 billion FCF and returned £16 billion to shareholders. Although spirits are more cyclical than other staples, the company’s growth prospects are better long term, and we believe the current situation has provide us an attractive investment opportunity.”
Overall DEO ranks 6th on our list of the cheap and high-quality stocks picked by former SAC Capital Analyst Jonathan Tepper. You can visit 10 Cheap and High-Quality Stocks Picked by Former SAC Capital Analyst to see the other cheap and high-quality stocks that are on hedge funds’ radar. While we acknowledge the potential of DEO as an investment, our conviction lies in the belief that AI stocks hold greater promise for delivering higher returns, and doing so within a shorter timeframe. If you are looking for an AI stock that is more promising than DEO but that trades at less than 5 times its earnings, check out our report about the cheapest AI stock.
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Disclosure: None. This article is originally published at Insider Monkey.