With China being the most populous country in the world and the second largest economy in the world, there are many companies dependent on the economic growth from that country. Caterpillar (NYSE: CAT), the world’s largest heavy equipment manufacturer, is very dependent on a healthy demand from China for its prosperity. As such, it offers an opportunity to buy on the dips when the share price declines due to bearish conditions in China. When there is improvement in the Chinese economy, as with recent developments, the share price of Caterpillar will rise, as it has in recent market action.
Volatility in Caterpillar Stock
Even though it is a member of the Dow Jones Industrial Average, Caterpillar is a very volatile stock.
The beta for the stock market as a whole is 1. For Caterpillar, its beta is 1.89. That means that the share price of “the big cat” moves up and down almost twice as much as the entire stock market. For long-term profits, investors should buy Caterpillar when it falls in price and hold for the future.
There have certainly been ample chances to buy low over the last year of market action. During this time, Caterpillar has ranged in price from $78.64 to $98.38. While there is no way possible of timing the market, a profitable way to buy stocks that fluctuate a great deal is to set a target price for the dividend. At present, the dividend yield for Caterpillar is 2.80% when the share price around $86.50.
Finding the Right Price Target
Investors could set a buy price for the shares of Caterpillar when the dividend yield is 3%.
That could be accomplished by Caterpillar increasing the dividend or the share price falling so much that the yield reaches 3% again. As the average dividend for a member of the Standard & Poor’s 500 Index (NYSE: SPY) is around 2%, buying Caterpillar when it is offering a 3% dividend income stream provides a yield that is at least 50% higher.
That dividend yield certainly beats what is offered for a checking account or certificate of deposit!
Why Caterpillar is a Long-Term Buy
No matter what the dividend yield is when the shares of Caterpillar are bought, investors can expect it to rise. Caterpillar is a “dividend achiever.” That distinction is earned when a company has increased its dividend for at least ten consecutive years. At present, the one-year dividend growth rate for Caterpillar is 13.7%.
Dividends should not be underestimated in the total return for a stock.
According to legendary investor John Bogle, founder of the Vanguard mutual fund family, dividends have provided more than 40% of the total return of equities for the last 40 years. With Caterpillar’s history of increasing its dividend, its shareholders can look forward to a substantial bump in the total return of the stock for as long as the shares are owned. Also of importance for investing purposes, the dividends are paid even when the stock price falls — so many times it is the only positive return for the shareholders.
Caterpillar is a Buy for More Than Dividends Alone
It is not just the dividend that is appealing for Caterpillar, however.
Earnings are projected to increase for Caterpillar. The price-to-earnings ratio is now about 13.50. The average stock on the Standard & Poor’s 500 Index has a price-to-earnings ratio of about 18, so Caterpillar is priced cheaper than the market. Moreover, the price-to-earnings ratio of Caterpillar is expected to fall to about 11.80, according to professional investors who follow the stock.
The price-to-sales ratio of the big cat is just 0.92. That means that each dollar of sales is priced at almost a 10% discount in the stock. With its sales growth rate of 7.90% for the past five years, that discount becomes even more attractive for long-term investors.
The Wall Street analyst community views Caterpillar that way, too.
Now trading around $86.50 per share, the mean analyst target price for Caterpillar over the next year of market action is $92.51. Coupled with its robust dividend yield, that provides for a potential double-digit return for those who buy Caterpillar at current price levels. Over the last five years, however, Caterpillar has sold for more than $116 per share, so there is tremendous upside. That price point combined with the historic growth rate makes Caterpillar a very alluring long-term buy.
What are your thoughts on Caterpillar as a stock and the growth in China as a market driver?
Editor’s Note: Interested in doing more stock market research? Check out these top investing blogs!
Jonathan Yates is a financial writer with degrees from Harvard, Johns Hopkins and Georgetown University Law Center. While much of his career was spent working for Members of Congress on Capitol Hill, he was also General Counsel for a publicly traded corporation; and worked in the research department of a brokerage house.