Morningstar has a message for all those advisors who thought the latest stock market rout created many buying opportunities: You were right.
Almost 38% of the 1700 stocks in its coverage universe are now rated a “buy” or better – the highest percentage seen in almost three years, even after the almost 1,000-point rebound from the closing low during this week’s market swoon.
As of the close on Thursday, 78 of those stocks are “substantially undervalued,” with a 5-star rating from Morningstar.
According to Morningstar, its universe of stocks overall is about 10% undervalued – far less then that 40% to 45% undervalued in 2008 and 2009, but a better buy compared to the last three years, when stocks were fairly to slightly overvalued.
“For those of you who like to buy stocks at a discount to what you think are worth … the last three years have been relatively boring,” said Elizabeth Collins, Morningstar’s director of equity research, North America, during a Webinar this week, titled Finding Buying Opportunities in the Market Sell-Off. “There haven’t been many opportunities to buy companies trading at a discount to what you think is worth. The situation has changed today.”
Morningstar’s stock ratings are based on a company’s earnings potential, over the next 10 or 20 years discounted back to today, using a discounted cash flow model, then compared to current market prices.
In addition to the usual fundamental analysis, companies are rated for their competitive advantage, or “moat,” with those having the widest moat, or largest “sustainable competitive advantage,” having the greatest earnings potential, said Collins.
Then the analysis is overlaid with an “uncertainty” metric – a gauge of how right or wrong its assumptions may be. The greater the uncertainty, the bigger the discount to the fair value of the stock and the wider the margin of safety in the stock market. High quality stocks with the greatest earnings potential are rated five stars.