Caterpillar Stock Is A Better Buy Compared To PACCAR After The Recent Rally

CAT: Caterpillar logo

Caterpillar stock (NYSE:CAT) has rallied close to 50% since the March 23 lows, while PACCAR stock (NASDAQ:PACR) has gained over 75% of its value. The spread of Covid-19 in various parts of the world has had a negative impact on the industrial companies, including Caterpillar and PACCAR, especially due to shutdown of plants, or plants working at a limited capacity. That said, while both the companies look poised for steady growth over the coming years, given the gradual opening up of economies, and overall growth in the construction and mining sector as well as increased freight demand, we believe Caterpillar will likely fare better than PACCAR in the near term primarily because of its current valuation.

Our conclusion is based on our detailed dashboard analysis, ‘Caterpillar Looks Like It Can See More Upside Compared To PACCAR‘, wherein we compare trends in key metrics for the two industrial companies over the years to determine their relative valuations under the current circumstances. We summarize parts of this analysis below.

Why Caterpillar Is A Better Bet Compared To PACCAR?

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While PACCAR has seen better revenue growth over the last 5 years, and posted earnings growth in-line with that of Caterpillar, we believe Caterpillar is now at an attractive valuation. Caterpillar’s P/E based on 2019 earnings has declined from over 13x in 2019 to 12x currently, while PACCAR’s multiple has seen marginal growth from 12x to about 13x. While multiples for both the companies are largely in-line, the decline in Caterpillar’s multiple can be attributed to weak construction outlook in the near term.

Caterpillar’s business is susceptible to the current crisis, considering that the company’s revenues and margins are at risk with the overall decline in construction, mining, as well as energy sector. The infrastructure spends are being cut, as governments face budget deficits, a trend which will likely continue in the near term. Moreover, coal production is expected to be lower given the trends in natural gas prices. These trends will adversely impact Caterpillar’s business. That said, valuation-wise, Caterpillar’s P/E multiple is now at the lower end of the range seen over the recent years, indicating that the market has likely priced in the negative impact of weaker revenues and margins on the company’s stock.

PACCAR’s P/E is at the mid-point of the range seen over the last 5 years, and its business is also at risk, as demand and revenues will likely be lower than last year. Looking forward, with economies opening up gradually, demand for both trucks as well as industrial equipment is likely to fare better, boding well for the stocks. Given that Caterpillar stock has thus far underperformed PACCAR since the Mar 23 lows, and it is trading at lower end of the range seen over the recent years, this makes it an attractive buying opportunity compared to PACCAR in the near term.

But How Long Will Markets Remain Under Pressure?

  • The expected timeline for recovery in global economic conditions, and in CAT’s stock, hinge on the broader containment of the coronavirus spread. Our dashboard forecasting US Covid-19 cases with cross-country comparisons analyzes expected recovery time-frames and possible spread of the virus.
  • Further, our dashboard -28% Coronavirus crash vs. 4 Historic crashes builds a complete macro picture and complements our analyses of the coronavirus outbreak’s impact on a diverse set of Caterpillar’s multinational peers, including Deere. The complete set of coronavirus impact and timing analyses is available here.
  • We believe there will be a recovery in demand for most sectors in the near term, with gradual lifting of lockdowns and a gradual rise in number of Covid-19 cases remaining within the manageable capacity of hospitals and care providers.
  • Although several companies have reported poor Q2 sales, market expectations will be buoyed by a visible improvement in the situation on the ground.

Overall, we believe Caterpillar stock price at levels of $132 provides a buying opportunity for investors willing to be patient.

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