Why I’d Buy Tesco PLC, Hold GlaxoSmithKline plc & Dump Diageo PLC

Three stocks with three different risk profiles: Tesco  (LSE: TSCO)GlaxoSmithKline (LSE: GSK) and Diageo (LSE: DGE). Here’s why I’d buy the food retailer, but the other two make me feel a bit nervous.

Before we press on, a caveat: I am working under the assumption that the FTSE 100 will rise between 3% and 6% in 2015. 

Tesco: Looking For “Catalysts”

There’s a lot going on at Tesco, whose full-year results are due on 22 April, when it will have to show that its accounts are in good order. Should you snap up the shares before then? 

Well, it’s highly unlikely that the UK’s largest grocer will disappoint investors in the next couple of quarters, in my view. Management has made good progress in the last few months, with the stock up 47% since its rally started in October. At 244p, Tesco can hardly be defined as a bargain based on the value of its assets, which I estimate to be close to fair value at 237p — but it remains an appealing turnaround story.

In April last year, Tesco traded some 50p higher, and by no means did its future look brighter back then.

Its portfolio of assets is being restructured, with rumours suggesting several divestments will be announced in months to come, including a large stake in Tesco Bank, which should be sold only for a top valuation in my opinion. The grocer recently agreed a real-estate swap with British Land, which was good news as Tesco now owns the freehold of a larger number of its stores.

In the 12 weeks ending 1 February 2015, the grocery market grew at 1.1% — the fastest rate since June 2014, according to Kantar Worldpanel — and Tesco returned to growth for the first time since January 2014, increasing sales by 0.3%. If recent trends are confirmed in the next few quarters, and divestment take place, Tesco could well rise to 300p a share — and could also return to a more generous dividend policy earlier than expected…

Glaxo & Diageo

There are risks associated to Glaxo, which reports first-quarter results in early May. 

Unless management give investors a few good reasons to back the company, shareholders will probably experience more volatility going forward — although one could argue that in less stable market conditions the shares of this pharmaceuticals giant could fare relatively well. I don’t buy into such an optimistic view, and I think Glaxo will likely struggle to deliver rising returns to shareholders, particularly in the second half of 2015. 

Its stock has recorded a stronger performance than that of AstraZeneca in recent times, but it’s much less appealing than Shire over the long term, and it appears to me that it may find it more difficult to outperform the FTSE 100 from this level, unless material news such as the massive spin-out of its HIV drugs business emerges in due course. 

Glaxo is a rather mature business whose shares trade at 20x forward earnings, and although they offer a forward yield above 5%, I’d be more interested to bet on a different recovery story in another defensive sector. So, is Diageo the one right now?

Its third-quarter numbers are due on 16 April; I am afraid, but I am not interested in Diageo at this price, and I think upside is very limited from this level, while downside could be up to 12% this year. 

Diageo recently announced that it had agreed to take full control of United National Breweries in South Africa — and that’s the way forward, but the problem is there aren’t may assets available on the market, so one obvious question is where growth will come from. 

As a mature business with operations worldwide, its valuation is in line with that of Glaxo, based on its earnings multiple, but is 20% higher based on its adjusted operating cash flow multiple, which is a warning sign for a value hunter like me.

Finally, the shares of many of its competitors are more attractively priced. 

Of course, Glaxo and Diageo remain safe income investments offering attractive and safe dividends, but if you are after meaningful capital appreciation, I suggest you learn more about three other defensive businesses that are undervalued and are much more likely to reward you with one-year capital gains north of 20% into early 2016.

These three investment proportions boasts strong dividends and could easily beat their competitors and the broader stock market into 2020 and beyond -- just as they have done for years! To find out more about the right investment for you, click here right away! Our report is completely free and comes without further obligations only for a limited amount of time! 

Alessandro Pasetti has no position in any shares mentioned. The Motley Fool UK has recommended GlaxoSmithKline. The Motley Fool UK owns shares of Tesco. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.