While global stock markets have been performing strongly in 2024 so far, Morningstar analysts believe that European equities are still undervalued. The 10 stocks highlighted include those with wide or narrow moats, exceptional capital allocations and are screening as below their fair value.
In the last months of 2023 – thanks to the recession that never arrived and the end of the interest rate increasing cycle – optimism returned among equity investors, which pushed international markets, including Europe, to rebound. The positive sentiment continued in this early part of 2024, with the Morningstar Global Markets NR index up 7% since the beginning of the year (in euros, as of March 15).
European equities also gained ground, albeit at a slower pace than their US counterparts, with the Morningstar Europe NR Index up 5.4% from January 1 to mid-March. Top-performing sectors included consumer discretionary, industrials and information technology. Real estate and utilities, sectors that had surged late last year on hopes of an imminent rate cut, lagged.
In the area of consumer discretionary goods, gains were recorded by luxury and automotive companies, following some solid results from key companies in these sectors. In information technology, enthusiasm for the potential of artificial intelligence continued to drive demand. The sector was also supported by some solid results from local and global technology companies.
However, Morningstar analysts believe that European equities are still undervalued: the median stock in our European coverage universe trades at a 7% discount to its estimated fair value (as of March 18), making Europe the cheapest developed region currently to invest in in terms of stock market valuations.
Cheap Stocks, High Ratings
Of course, paying a low price is important, but market discounts should not make us lose sight of another very important aspect when picking stocks: quality. Here are the 10 most undervalued European equities with:
• A wide or narrow economic moat
• An exemplary Morningstar Capital Allocation Rating: this rating, which used to be known as the Stewardship Rating, is a judgement on how well the company's management is able to increase shareholder return through good capital allocation
• Morningstar Rating of 4 or 5 stars
These are therefore companies to which Morningstar analysts assign a stable competitive advantage and which are currently traded on the market at particularly advantageous prices, compared to our estimate of their fair value.
Among these 10 companies, there are two showing a 5-star Stock Rating (the highest) and a Wide Economic Moat (again the highest rating).
Two Undervalued European Stocks
Morningstar Metrics for Anheuser-Busch InBev SA/NV Stock (ABI)
Fair Value Estimate: €85
Morningstar Rating: ★★★★★
Morningstar Economic Moat Rating: Wide
Morningstar Capital Allocation Rating: Exemplary
Beer maker Anheuser-Busch InBev, or AB InBev, ended a difficult year with earnings per share of $3.05, in line with our forecasts, although volume was again slightly below our estimates. “We believe the stock still has significant upside to market value and that current low valuations and the boost from the falling dollar could provide the triggers to capture some of this upside this year,” said Morningstar strategist Philip Gorham in an analysis dated February 29, 2024.
In the markets where it exists, AB InBev's cost advantage is very strong and helps to keep its market shares high. Beer is a scalable business, with scale advantages in raw material sourcing, packaging, distribution, advertising and fixed cost leverage. “AB InBev has by far the largest global scale in the beer industry,” adds Gorham.
"Although these implied multiples are above the level at which AB InBev has historically traded, we believe the company is undervaluing its earnings relative to its peers due to its high degree of exposure to the US dollar and high interest expenses, which we believe will decrease as debt is reduced, despite the increase in refinancing rates.”
Morningstar Metrics for Roche Stock (ROG)
Fair Value Estimate: 379 Swiss francs
Morningstar Rating: ★★★★★
Morningstar Economic Moat Rating: Wide
Morningstar Capital Allocation Rating: Exemplary
Morningstar lowered the estimate of Roche's fair valueto SFr379/$55 from SFr414/$59 after incorporating the company's 2023 financial results and 2024 outlook into our valuation model, explains Karen Andersen, Morningstar's healthcare strategist.
Pharmaceutical company Roche, which has a wide range of products, is facing relentless pressure from the strength of the Swiss franc against other major currencies. Thus, although the company produced sales growth of 1% at constant exchange rates in 2023, despite pressure from the decline in covid diagnostic and therapeutic care products (and above the single-digit decline forecast), the official reported result (i.e. at current exchange rates) was a 7% decline in sales.
However, Morningstar analysts continue to believe that Roche shares are undervalued. "Fundamentally, Roche's core business (excluding the post-xovid effect and foreign exchange setbacks) grew by 8% in 2023, driven by 9% growth in pharmaceuticals and 7% growth in diagnostics," Andersen said in a report published on February 2, 2024.
