As rates rise and market valuations grow overheated, advisors have once more turned back to value stocks—only to find that traditional methods of evaluating company value need to be updated. In today’s markets, stable, strong free cash flow yield may offer a more accurate measure of a company’s actual value.
In the upcoming webcast, A Simple Guide to Common Sense Equity Investing Amid Rising Rates and Inflation, Sean O’Hara, President, Pacer ETFs, will highlight the benefits of high free cash flow yield companies, or “cash cows,” and discuss how financial advisors can identify and evaluate these attractive stocks.
For example, the Pacer US Cash Cows 100 ETF (NYSEArca: COWZ) and Pacer US Small Cap Cash Cows 100 ETF (BATS: CALF) both implement free cash flow yield screens to narrow their investing universes.
Focusing on companies with steady free cash flow can be a better approach to security selection than alternatives. Free cash flow is the cash left over after a company has paid expenses, interest, taxes, and long-term investments. It is used to buy back stocks, pay dividends, or participate in mergers and acquisitions. The ability to generate a high free cash flow yield indicates that a company is producing more cash than it needs to run the business, which can then be invested in growth opportunities.
Free cash flow companies generally have three defining characteristics: productive, reliable, and self-sufficient. The companies generate more cash flow than they spend, which allows them to grow without external financing. The free cash flow is a sturdy measure of profitability, which is, unlike earnings, not subject to manipulation and accounting assumptions. Lastly, as the companies are less reliant on capital markets for financing, they don’t dilute their issued company stocks.
Furthermore, investors can consider the potentially attractive income opportunities in the midstream energy infrastructure segment. Specifically, the Pacer American Energy Independence ETF (USAI), which comprises both corporations and master limited partnerships or MLPs, offers exposure to the growth potential of infrastructure development supporting domestic energy supplies.
Instead of focusing on MLPs exclusively, USAI tilts towards the largest energy infrastructure companies. The ETF follows the American Energy Independence Index, which includes U.S.- and Canada-based energy infrastructure companies, along with high-yielding master limited partnerships and general partners. Since it does not focus exclusively on MLPs, USAI can sidestep some of the tax inefficiencies we may see in the MLP market.
Financial advisors who are interested in learning more about investing strategies for rising rates and inflation can register for the Wednesday, March 16 webcast here.