From the February 2013 issue of Research Magazine • Subscribe!

Volatility Ahead

When it comes to the market’s expected performance in 2013, Morningstar doesn’t see smooth sailing ahead. Instead, the research group says that market volatility “will be a way of life in 2013,” thanks not just to Europe’s efforts to conquer the debt crisis and China’s possible slowdown but a now-you-see-it-now-you-don’t U.S. economy that seems to take two steps forward and one step back.

Volatility, the firm adds, points toward a heightened necessity for stock picking, rather than placing one’s trust in market correlation. With the market close to fair value, the view that “all that mattered was getting the macro calls right and positioning your portfolio accordingly” is no longer the way to go. Picking the right stocks, instead of looking for offsets, becomes paramount.

Opportunity beckons, says Morningstar, in “the ranks of wide- and narrow-moat companies, because we believe these firms will earn excess returns for longer periods of time than their no-moat counterparts.” Among its top-rated selections are a number of European firms, despite the debt crisis; energy companies; and a few large global companies thrown in for good measure, like Apple (AAPL) and Rio Tinto (RIO).

Both energy companies and technology companies are currently undervalued, in Morningstar’s view, with both at 86% of fair value. Overvalued sectors include real estate and consumer defensive stocks, with the former carrying a 4% premium and the latter a hefty 7% premium.

Even though yield has beckoned from both, right now investors are risking losses by pursuing current income. Overvalued stocks pose a danger, since “it is a rare dividend that sufficiently compensates for risk” of converging to fair value and driving down overall returns. 

Marlene Satter contributed to this report.

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