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By Jeremy Glaser and Heather Brilliant, CFA | 08-29-2012 02:30 PM

August Runup No Forecast for Autumn Growth

Morningstar's Heather Brilliant isn't optimistic about the market's--or Europe's--prospects for the rest of the year, though several stocks currently present buying opportunities.

Jeremy Glaser: For Morningstar, I'm Jeremy Glaser. I'm pleased to be joined today with Heather Brilliant, global director of equity and credit research, to get an update on the valuation in the market and where she is seeing the best ideas.

Heather, thanks for joining me.

Heather Brilliant: Thanks for having me, Jeremy.

Glaser: I know that this August it seems like the market actually is taking a vacation compared with some of the Augusts we've seen in the past few years. But what's happening in the market, and where does your staff really see valuation levels shaking out?

Brilliant: Generally, we have seen the market tick slowly up in August, which is nice to see. I think a lot of people really did finally go on vacation this August unlike the past few years as you've said, and that's given the market the opportunity to rally a little bit. But the volumes have been really light, and so we actually are not overly optimistic about the rest of the year. And we don't think that [the current] valuation makes the market a screaming buy right now either. On average, we're looking at a median price/fair value ratio of 0.93, which means that we think the market is slightly undervalued, but not materially so. We don't really think that equities look like a screaming buy at these levels.

Glaser: For a lot of those valuations, it's obviously lumpy, where there are probably some areas of the market that look cheap and others that look horribly overvalued. Where do you see the different sectors on that scale?

Brilliant: Interestingly, there hasn't been a lot of change in how the sectors stack up on a valuation basis. Even as the market has rallied, we thought several months ago that basic materials and energy were the cheapest sectors, and that's still where we are seeing the greatest amount of value. There is just a little bit less value than there was before.

And on the overvalued side, we had said that we thought that real estate was the most overvalued sector, and that is still the case. It's actually a little bit less overvalued than it was. It's at about 5% ahead of what we think the companies are worth.

Glaser: What are some of the big trends that you're seeing in terms of opportunities?

Brilliant: One of the reasons why we think basic materials looks so cheap is because there is a lot of concern around what's going to happen with commodity prices which have been falling out of bed lately. So one of the areas within basic materials that doesn't necessarily get overly impacted by that is steel. And there's a lot of companies in the steel sector that we think look pretty interesting. ArcelorMittal, for example, has been so beaten up that it's trading at a mere 30% of what we think it's worth. And so when you're looking at that kind of a discount, it looks pretty scary. Frankly, we're not overly optimistic about Europe for the rest of this year, but assuming that the global economy does not fall out of bed, we think that steel companies could end up doing pretty well over the long run. There's a lot of valuation opportunity there.

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