Following the dramatic stock market sell-off in February and March last year, European stocks recovered quickly, gaining a remarkable 30.5% since April 1, 2020, as measured by the Morningstar Europe Index NR.
Nevertheless, Morningstar analysts believe equities in developed Europe are still slightly undervalued today: the median stock in our European coverage universe trades at a 1% discount to our current fair value estimate.
Obviously, the pandemic has created losers and winners in the financial markets, and valuations differ significantly from one sector to another. In aggregate, as observed by our latest European Market Barometer, energy, financial services and real estate stocks look undervalued, meanwhile the technology (in which there is no names trading in 4- and 5-star range) and consumer cyclical sectors are the most overvalued.
Here we look at some undervalued stocks across sectors that are among our analysts’ best ideas.
The communications-services sector outperformed the broader market over the last six months, as measured by the difference between the Morningstar Communication Services Index (up by 23.8%) and the Morningstar Europe Index (+15.7%). According to Morningstar’s research, the median sector’s stock is now trading at a 4% discount to its fair value estimate.
Consumer cyclical stocks enjoyed a robust 2020 and now the median consumer stock in our European coverage universe is trading at a 19% premium to our fair value estimate, suggesting that the sector is definitely overvalued.
Generally speaking, even as Covid-19 vaccines become more widely available, Morningstar analysts expect the erosion of department stores to persist and a preference for local travel to continue into 2021, which may keep hurting airline travel. Investors can find value in the auto industry.
As a whole, the sector looks overvalued, with the median stock in our coverage universe trading 3% above our fair value estimate. However, we still have goods names trading in 4- and 5-star range.
Although energy stocks outpaced the broader market in the fourth quarter of 2020, they finished the year well in the red. Not surprisingly, the energy sector is the most undervalued by our metrics, trading at a 27% discount to our fair value estimate. David Meats, director of research energy and utilities for Morningstar, recently explained that “oil producers are not ready for the recovery yet and without further investment, the current glut could become a shortage in late 2021 or 2022.” Morningstar expects consumption to be near pre-pandemic projections by 2023.
Financial stocks outperformed in the fourth quarter, but this didn’t prevent the sector to trail the broader market by a significant margin last year. The median financial sector stock is now trading at a 14% discount to its fair value estimate.
Healthcare stocks were in the spotlight last year because the “race for a Covid-19 vaccine”. Morningstar expects revenues of $13.7 billion and $8 billion this year for the first two vaccine makers whose treatments have been approved, Pfizer/BioNTech and Moderna.
And while those revenue figures may have boosted share prices, it is not the case that the enormous demand for vaccines and other treatments this year greatly increases the true value of these stocks, according to Morningstar analyst Karen Anderson. Currently, the median healthcare sector stock is trading at a 3% premium to its fair value estimate.
European industrial stocks are overvalued by 11 points according to Morningstar research. Yet few industrials stocks are undervalued today.
The real estate sector fell in 2020, lagging the broader market by a significant margin. Sectors that are more sensitive to the impacts of the coronavirus – including hotels and malls – have struggled most, while those in the industrial and self-storage industries have fared far better. Not surprisingly, the median stock in our real estate coverage universe is trading at a sizable 13% discount to fair value.
The sector closed 2020 behind the broader market. “We expect renewable energy to be the theme for 2021 and beyond, with the winners being those that can execute by completing projects on time and on budget and maintain steady earnings growth”, says Travis Miller, energy and utilities strategist for Morningstar. “However, valuations remain rich for the highest-quality utilities with the best earnings and dividend growth; the best opportunities can be found among less obvious beneficiaries of the renewable energy movement with strong balance sheets and solid dividends.”