The stock market sell-off is intensifying heading into the final three months of the year. And while companies can't control the business cycle, they can prioritize capital discipline and maintain strong balance sheets to ensure they outlast downturns.
Cummins (CMI -0.85%), Caterpillar (CAT -0.62%), and Kinder Morgan (KMI -0.26%) have been through plenty of business cycles. And despite the cyclical nature of infrastructure and oil and gas spending, each company is well positioned to grow earnings and dividends over the long term. Investing equal amounts in each industrial stock produces a dividend yield of 4.2%, while exposing your portfolio to three industry-leading businesses. Here's what makes each stock a great buy now.
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A power solutions company with a commanding position
Cummins is known for its diesel and natural gas engines and power solutions. But it's investing in hydrogen and lower emission solutions too.
Cummins benefits from two long-term trends -- increased infrastructure spending and decarbonization. Rising interest rates and slowing economic growth tend to dampen infrastructure spending. However, many of Cummins' customers are oil and companies, one of the few industries thriving right now. Most oil and gas companies have set long-term emission reduction targets. To hit them, the industry is investing more in renewable energy and alternative energy, which supports Cummins' long-term strategy.
Cummins is a balanced investment because it combines an established brand and legacy industries with long-term growth. It isn't an expensive stock, with a price to earnings (P/E) ratio of 14.3 and a dividend yield of 3.1%.
A Dividend Aristocrat that serves several growing industries
Caterpillar is a similar investment to Cummins because it is one of the largest U.S.-based industrial heavy equipment and machinery manufacturers. Like Cummins, Caterpillar is a cyclical company that benefits when growth is high. Economic growth translates to higher spending on new equipment in construction, oil and gas, mining, agriculture, etc.
In addition to performance and efficiency, a big selling point of new Caterpillar products is emissions benefits. And just like Cummins, Caterpillar's customers are improving their environmental efforts in response to stricter regulations, tax credits, and the potential for revenue growth. Caterpillar is a Dividend Aristocrat, which is an S&P 500 component that has paid and raised its dividend for at least 25 consecutive years. It has a P/E ratio of just 13.1 and a dividend yield of 2.9%.
An infrastructure behemoth with a high yield
Pipeline and infrastructure giant Kinder Morgan operates in the midstream portion of the oil and gas value chain. It is responsible for transporting oil, natural gas, carbon dioxide, and other fuels from production to distribution points. Over the ultra long-term, oil and gas demand in North America is facing low to stagnating growth as solar, wind, and alternative fuels make up a larger portion of the energy mix. However, there are still opportunities for U.S. oil and gas supply to grow, both to bring down prices domestically and to export higher volumes to energy-dependent customers overseas. Over the short-to-medium term, it would not be surprising if U.S. oil and gas production and renewable energy capacity grew.
Over the last few years, Kinder Morgan's investments have included a mix of growing its legacy portfolio (through pipeline expansions and buying Stagecoach Gas Services in 2021) and boosting investments in low-carbon solutions like renewable natural gas, renewable diesel, hydrogen, and carbon capture and storage (through its acquisitions of Kinetrex Energy in 2021 and North American Natural Resources in August 2022).
The company's long-term contract model results in consistent free cash flow (FCF), which is used to support the dividend. Kinder Morgan has a P/E ratio of 15.7 and a dividend yield of 6.7%.
An excellent basket of top dividend stocks
Cummins, Caterpillar, and Kinder Morgan are similar in that they depend on the growing demand for industrial and infrastructure spending to support new product sales and long-term investments. Cummins and Caterpillar are aiding the oil and gas industry's push toward lower emissions, but could face an overall slowdown if the economic situation worsens. Meanwhile, Kinder Morgan's long-term contract model reduces variance in its cash flows.
Regardless of the economic situation, all three companies are well positioned to support growing dividends even if business slows down.
CMI Free Cash Flow Per Share (Annual) data by YCharts
In the above chart, notice that all three companies have FCF per share at least 80% greater than dividends per share, suggesting that FCF could come down significantly and the dividend would still be funded with FCF.
What's more, all three stocks have P/E ratios below the S&P 500 average of 18.1 -- meaning earnings could come down and each stock would still be inexpensive relative to the index. However, it's worth mentioning that while Cummins and Caterpillar have mostly kept pace with the S&P 500 earnings growth rate, Kinder Morgan is producing lower earnings than during its heyday before the oil and gas crash of 2014 and 2015. In this vein, Kinder Morgan deserves to trade at a lower P/E ratio than the S&P 500, while Cummins and Caterpillar are looking noticeably inexpensive given their valuations are below the index average and yet they have produced respectable growth over the long-term.
Finally, all three companies are leaders in their respective industries and have track records for outlasting downturns. For investors looking for a reliable passive income stream from companies they can trust to be around for the long term, Cummins, Caterpillar, and Kinder Morgan stand out as three excellent buys now.
