Use this screen to find long-term-value stocks at good valuations.
This article originally appeared in the April/May 2012 issue of MorningstarAdvisor magazine. To subscribe, please call 1-800-384-4000.
As the current investment environment seems more uncertain than ever, given the day-to-day status of the European Union, we think that investors should focus their attention on the ground-up recovery occurring domestically. Specifically, the U.S. industrials sector contains numerous examples of long-term value stocks at opportunistic valuations. According to the latest industrial production report, the U.S. is actually outpacing China and Europe on the manufacturing side, and there are higher production-growth expectations from the purchasing managers survey. Coupled with strong balance sheets, we believe that industrial companies with 4- and 5-star Morningstar Ratings should do well versus other sector competition. This screen can be used to pick out the best of that bunch.
Sector = Industrials
In light of the positive production news, filtering down to the industrials sector level is a must. After this portion of the screen alone, the stock universe is cut from 14,000 to a little less than 2,500. Although the butterfly effect felt by companies directly related to production won’t be included, there are still plenty of firms to prune.
And Morningstar Rating >= 4 Stars
With the company’s fair value being one of the primary focuses of investors, the Morningstar Rating lets us figure out just how good of a discount we are getting on the potential purchase. Depending the uncertainty rating, stocks with 5-star Morningstar Ratings are trading with discounts of at least 20% for low-uncertainty companies, and very-high-uncertainty companies require discounts of at least 50% from Morningstar’s fair value estimate.
And Credit Rating >= BBB+
If you’re trying to find out whether the companies you’re looking for are in good financial health but don’t want to screen for all the specific metrics on debt and free cash flow, using the credit rating is somewhat of a shortcut to a similar result.