Earnings season in the UK has given investors plenty to digest, from the departure of NatWest’s chief executive to a serious upgrade to Rolls-Royce’s full-year forecasts.
This period has been a busy one for Morningstar analysts, who have the task of pouring over the numbers and making their assessments of their covered stocks.
One key task when they look at financial results is to decide whether the fair value estimate (FVE) for the stock needs to be changed in the light of new information the company has provided. The biggest change in the FVE was seen with Rolls-Royce (RR.), which went from a 105p fair value to 223p, an unusually-dramatic change for shares under our coverage.
Of the 184 stocks globally that Morningstar considers to be 5-star stocks – that is, significantly undervalued – 12 are in the UK. Most have reported in the past few weeks.
Overall, UK shares have missed out on the very focused rally in risk assets this year; the FTSE 100 and FTSE AllShare are mostly unchanged since the start of the year, while equivalent Eurozone and US benchmarks are higher.
This UK cohort of 5-star stocks compares with six in Germany on the XETRA exchange, three on the Borsa Italiana and five on Euronext Paris.
Looking at our list, there are some heavy fallers there in share price terms, most notably Just Eat Takeaway (JET), which has lost nearly 33% of its value this year. The year-to-date figure tells some of the story but there had been an attempt a recovery from late June to late July at which point the half-year results came out.
It said that total orders were down 12% year on year and gross transaction value was 7% lower. Still, there were improvements in adjusted EBITDA. At current levels, the shares trade at £12.46 and have a fair value estimate of £69, according to Morningstar metrics.
Does this mean investors remain downbeat about listed food delivery firms? Not if you look at rival Deliveroo (ROO), whose shares are up nearly 40% since January – although a long way off the IPO price of 390p. We’ll delve further into Deliveroo’s earnings in the Stock of The Week video.
Biggest Share Price Growth
While the stocks above are the 12 that are currently most undervalued, another 11 stocks saw double-digit share price growth over the reporting season, which we (for the sake of this article) have counted from July 1.
Of the 11, there are four stocks that are also on the above undervalued list: FTSE 100 stock Persimmon (PSN) and fellow housebuilders Bellway (BWY) and Taylor Wimpey (TW.), as well as online retailer Asos (ASC), the second-cheapest stock in the UK.
Persimmon reported its earnings on August 10, but its shares started climbing in July, like many in our dataset, on the news that UK’s inflation was lower than expected. The Office For National Statistics' figures seem to have renewed optimism that interest rates could be at or near peak, and that the worst could be over for the housing market. Despite a sharp fall in first-half profits, shares rose on the day of the results after the company maintained its profit guidance and signalled continuing strong demand in the market.
At the other end of the spectrum, BAE Systems (BA.) is the only 1-star stock among these movers, after the aforementioned change to Rolls-Royce’s FVE. The upgrade meant the stock left behind its 1-star designation and is now considered fairly valued, with 3 stars. Rolls Royce’s share price jumped 20% ahead of its results, when the company revealed upgraded forecasts for operating profits and cash flow. From July 1 to the start of this week, its share price grew by 36% to 210p.
The biggest share price jump, however, belonged to Ocado (OCDO). The grocery delivery service’s stock has long traded in a territory far below its FVE, but the price move has lifted it to a 4-star rating. Many investors took increased interest in the company when rumours started swirling that Amazon (AMZN) had expressed interest in the business, and the share price did even better when the company beat earnings expectations. In the first six months of fiscal 2023, both its customer base and average orders per week grew, driving group revenue up 9%. Its average basket value also increased, but this is hardly a surprise with recent inflationary pressures on groceries.
Meanwhile, Wise (WISE), formerly known as Transferwise, is a new company under Morningstar’s coverage. Our analysts initially assigned the company a FVE of £5.20. When the company reported last month, its share price jumped on the news that higher interest rates are driving profits and the active customer base is growing. The price seems to have plateaued, however, after initially jumping about 20%.
Methodology
The price/fair value changes every day with the share price, so this is a snapshot in time; fair value estimates are reviewed regularly but change less often, usually around earnings season, or when there’s a significant change in the company strategy or outlook.
FVE is expressed in relation to the current price; so a stock with a fair value at or around 1 is fairly valued, at 0.50 it’s trading 50% below its fair value, etc. In our current list, Just Eat Takeaway is the most undervalued.
While not strictly a "buy" recommendation, assigning a five-star rating to a stock is a sign of "how attractive the stock is as an investment right now", says Alex Morozov, Morningstar’s director of equity research.
Our analysts talk of a "margin of safety" for investors taking the leap to buy a stock. Investing in a one-star stock, which would be significantly overvalued, for example, carries more risk because of the chance that the share price will fall back. As such, the fair estimate is based on analysis of the company's balance sheet rather than on current market sentiment and should not be seen as a price target.
By James Gard and Sunniva Kolostyak
