The market shakeout we’re seeing at the moment has hit some smaller stocks quite hard. I’ve been reviewing recent fallers and have found four penny stocks I’m interested in adding to my portfolio this month.
I always aim to add to my portfolio during market corrections. Although it’s uncomfortable to see share prices falling so sharply, over the years these situations have created some of my best long-term buying opportunities.
A bargain retailer with a 7% yield?
The first company I’m interested in is sofa and carpet retailer SCS Group (LSE: SCS). This stock hit an all-time high of more than 300p in August last year, but has since fallen more than 40% to around 185p.
I’m surprised by the size of this fall. SCS has continued to trade well through the winter, even as life has returned to normal and travel and experience spending has increased.
In its latest update, SCS reported a 17% increase in orders for the six months to 29 January, compared to a year earlier. Helpfully, the company also included a comparison with the same period in pre-pandemic 2019/20. This showed new orders are now at the same level as they were before Covid-19 started to cause problems.
The main risks I can see at this time are rising prices and pressure on incomes that could cause people to cut back on home spending. As we head into the main holiday season, people might also be planning trips abroad rather than buying new sofas.
Even so, I think that SCS now looks too cheap for me to ignore. The latest guidance from the firm is that profits should be in line with expectations. That prices the shares on less than seven times 2021/22 forecast earnings, with a 6.9% dividend yield. I’m tempted to add this penny stock to my portfolio at this level.
A defensive business in uncertain times
One area where our shopping habits don’t change much in difficult times is the supermarket. My next pick, Finsbury Food (LSE: FIF), produces a wide range of bread and cakes for retailers across the UK.
Finsbury produces staple everyday items and affordable treats. In my view, shoppers are unlikely to ditch them from their shopping trolleys, even if prices rise slightly.
I think pricing power could be an important consideration over the coming months, unfortunately. The war in Ukraine has pushed up energy costs and commodity prices, notably wheat, which is a key ingredient for Finsbury.
Fortunately, I think Finsbury is in good shape to handle inflationary pressures. The company says it was able to pass on price increases during the second half of 2021. This is expected to result in higher profits in early 2022.
Although this improvement may now be smaller than originally hoped for, I think Finsbury’s share price already reflects this risk. The stock has fallen by nearly 20% since the start of the year, leaving the company trading on a modest eight times forecast earnings. There’s also a useful 3% dividend yield, which looks safe to me.
I already own Finsbury shares, but I’d be comfortable buying more at current levels.
A play on gold
The price of gold has risen 7% over the last month to more than $1,900 per ounce. Although I’m not generally a gold investor, I can see the attraction of owning the metal during uncertain times.
I’m thinking about adding some exposure to my portfolio by buying shares in pawnbroker H&T Group (LSE: HAT). H&T is exposed to the price of gold through jewellery retail and its scrap gold business, which operate alongside its core pawnbroking business.
One risk here is that H&T’s operations have quite a lot of moving parts. Profits from trading gold might rise, but other areas of the business may underperform. Even so, I think this company is well positioned to deliver an improved performance in 2022.
The company says that gold trading volumes improved during the final quarter of last year. Second-hand watch and jewellery sales “exceeded expectations” over the Christmas period, with retail sales in general now back to pre-pandemic levels.
Broker forecasts suggest H&T’s earnings will rise by as much as 50% this year, with further gains pencilled in for 2023. These estimates price its shares on nine times 2022 earnings, with a potential dividend yield of 4.4%. I’m tempted to buy a few for my portfolio.
A penny stock Peter Lynch would buy?
In his book ‘One Up on Wall Street’, famed US growth investor Peter Lynch advised investors to buy what you know. He pointed out examples of high street brands that had gone on to become huge successes, long after they appeared in his local neighbourhood.
I think this remains a useful tip today. One consumer stock I’m considering is discount retailer Shoe Zone (LSE: SHOE). This group sells through stores and online and is focused on the cheaper end of the footwear market.
Although Shoe Zone sells some branded names, the majority of its stock is made directly for the firm by contract manufacturers. This locks in attractive profit margins, despite Shoe Zone’s low pricing points. I’ve bought a few pairs of shoes from my local store and have no complaints, for the price.
I should point out that Shoe Zone survived a near-death experience early in the pandemic. The company’s online presence was lagging and a number of its stores became unprofitable.
One risk I can see is that the group’s recovery will hit a limit and that profits will come under pressure again from rising costs. I believe much of the firm’s stock is made in China so increased shipping costs and delays could cause problems.
However, so far, I think founders John and Anthony Smith have delivered an impressive turnaround. They’ve improved online performance, closed 50 unprofitable stores and updated others to more profitable formats.
Shoe Zone’s share price has doubled since October. The shares aren’t a screaming bargain anymore, but I still think they look good value. A price/earnings ratio of 12 doesn’t seem too high to me for a business that has been very profitable in the past. I’m tempted to start buying this penny stock for my portfolio.
