Industrial stocks have been on a tear over the past year, with the sector up nearly 20% even after a recent pullback. Buying companies like Eaton(NYSE: ETN) and Emerson Electric(NYSE: EMR) today would mean paying top dollar, or close to it, anyway.
The valuations here make some sense because both have positioned themselves well for the future. But the sharp recent pullback in the industrial sector highlights that the market sometimes gets a little irrational, which could open up a better long-term buying opportunity if there's a deeper stock market pullback. Here's why these two stocks should be on your wish list today.
Eaton manages power
Eaton has a long history in managing power, but the type of power has changed over time. It started in the vehicle space over 100 years ago.
Today, around 70% of its revenues come from its North American and Global electrical businesses. It sells products to manufacturers and construction companies that are looking to control the way in which electricity gets used in their products and buildings. The company also produces products for the aviation industry, the combustion engine space (which is something of a relic from the company's past), and, more recently, for electric vehicles.
The big story here, however, is that managing electricity is an increasingly important issue in a world focused on going green. There are two sides to this story.
First, there's increasing demand from new categories, like electric vehicles and solar and wind farms. But there's a second benefit as well, as companies look to make better use of the power that they are already using. That can be improving the way buildings consume energy or reducing the energy consumption of a specific device, be it a car or a lighting array. Eaton can help all along the spectrum.
What's exciting here is that Eaton has a huge backlog of work lined up, showing the huge demand in this area. At the end of the fourth quarter of 2023, the backlog stood at $9.5 billion, up from $2.8 billion in the same quarter of 2019. Clearly, the company's ongoing business transition is paying off.
That said, the dividend yield is just 1.1% today. That's near its lowest level in decades, but a stock sell-off could see the yield come back into an attractive range. A yield above 2.5% would probably be a very good entry point and worth the wait for value-focused long-term dividend investors.
EMR Dividend Yield data by YCharts
Emerson is automating the future
The story around Emerson is similar to that of Eaton, only with a slightly different focus. Emerson has shed older business lines (like sink disposals) in recent years so it can focus on automation. While Eaton allows companies to manage power more efficiently, Emerson helps customers manage their broader business processes more efficiently. With the advancement of technology, like robotics and the Internet of Things, being able to see and control all aspects of a business is increasingly technical and vital.
The backlog story is similarly attractive as well. At the fiscal first quarter of 2024, the company had $7.6 billion worth of work lined up for the future. But like Eaton, the stock has been performing very well in recent years. The dividend yield is a miserly 1.9%, also near the lowest levels in decades. Something in the 3% range would be a more attractive entry point here as well.
Emerson is a Dividend King, with 67 consecutive annual dividend increases under its belt. You don't build a record like that by accident, which speaks to the company's long-term focus. That might give it the edge with investors, noting that Eaton's dividend streak is "only" 15 years long, which is still good but not nearly as impressive.
Get ready today
The obvious problem with Eaton and Emerson is valuation, using dividend yield as a rough guide. So buying today would mean paying top dollar.
But don't write the stocks off. Both companies have positioned themselves for bright futures, highlighted by their strong backlogs. Get to know them both today so when the market eventually shifts into bear mode, you'll be prepared to buy while others are selling. And as the chart above highlights, both Eaton and Emerson have witnessed drawdowns of 30% to 50% (or more) multiple times in the past. If you don't prepare now, you might not have the fortitude to go against the grain and add these two industrials to your portfolio when they finally have attractive prices again.
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Reuben Gregg Brewer has positions in Eaton Plc. The Motley Fool has positions in and recommends Emerson Electric. The Motley Fool has a disclosure policy.
