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These Funds Are Counting on Undervalued Sectors

A handful of diversified equity funds are positioned to benefit from companies in two sectors that are trading at discounts.

Adam Zoll, 08/28/2013

This article originally appeared in the August/September 2013 issue of MorningstarAdvisor magazine. To subscribe, please call 1-800-384-4000.

The market’s performance so far this year has left most stock sectors priced at or above our equity analysts’ fair value estimates— but not all. Basic materials and energy stocks are cheap, our analysts say, in part because of concerns about softening demand in Europe and China and a potential glut in global oil supplies.

Yet positive developments, such as growth in U.S. construction and increases in natural gas prices, could help offset these concerns and improve valuations for these sectors. And if that happens, or if fears about these sectors prove to be overblown, a handful of good funds are positioned to take advantage.

In this screen, we look for funds that are overweight in undervalued sectors, and in particular those led by management teams with proven track records. Whether making sector bets, choosing stocks that appear attractive based on fundamentals, or simply executing a consistent value-oriented approach, a good manager knows how to take advantage of what the market is offering—in this case discounts on companies in the basic materials and energy sectors that appear to be worth more than their current stock prices would indicate. We created this screen with Morningstar Office in June.

U.S. Fund Category = All U.S. Equity
And ( % Basic Materials >= 13.59
Or % Energy >= 20.05 )

First, we search for funds with energy and basic materials weightings that are at least 10 percentage points above those found in Vanguard Total Stock Market Index VITSX, a proxy for the U.S. stock market.

And Morningstar Rating >= Bronze
And Distinct Portfolio Only = Yes
And Closed to New Investment = No

To ensure reasonable costs and quality management, we included only funds with Morningstar Analyst Ratings of Bronze or better. We applied the Distinct Portfolio screen to avoid duplicate share classes and screened out funds that are closed to new investors.

Adam Zoll is an assistant site editor with Morningstar.com


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