Slumping U.K. Market Continues to Offer Bargains

As my colleague, Morningstar Equities Strategist Allan Nichols pointed out in the inaugural issue of the Morningstar InternationalInvestor newsletter, the United States holds less than half of the world's equity market capitalization. Great investment opportunities are hard to come by, and investors ignoring half the world are needlessly passing up a lot of potential bargains. At Morningstar, we cover nearly 400 non-U.S. stocks and are doing our best to highlight promising international investments, most recently with the launch of the aforementioned newsletter.

While our coverage is geographically broad, it is also deep in certain markets. We cover nearly 75% of the market capitalization of the FTSE 100 index, an effort that has uncovered a growing number of undervalued stocks. After running at a brisk pace for several years, the FTSE 100 limped into December 2007. We noted at the time that 11 wide- and narrow-moat FTSE 100 stocks traded below our fair value estimates, including five cheap enough to earn a 5-star rating. Since then, the index has fallen another 9%, and the number of stocks trading below our fair value estimate has climbed to 17, including nine rated 5 stars.

The FTSE 100's slide reflects, in part, a gloomier outlook for the British economy. The United Kingdom faces some of the same problems as the United States--higher inflation, slower home sales, and exhausted consumers--only to a milder degree thus far. We think that investors willing to look past the present economic rough patch can pick up some topnotch companies at low prices.

The five stocks we highlighted in December� Barclays (BCS),  Wolseley ,  Carnival (CUK),  Diageo (DEO), and  Rexam �are still trading below our fair value estimates. We think they're well worth considering, as are the following 5-star stocks.

Some 5-star Picks from Across the Pond
 BT Group PLC 
Moat: Narrow | Price/Fair Value Estimate Ratio*: 0.62
Although slower sales in the wholesale and traditional phone-service businesses have trimmed top-line growth, BT's higher-margin technology-services operations are gaining traction and driving improved profitability. From the  Analyst Report: "BT is transitioning from a highly regulated provider of basic telephone services into a full-fledged supplier of technology services. After several acquisitions, the firm is now a global force in information, communications, and technology services."

 Cadbury Schweppes PLC (CSG)
Moat: Wide | Price/Fair Value Estimate Ratio*: 0.72
Cadbury is separating its confectionery and beverage businesses. We think it's a good move that will enable management to focus on the confectionery unit's attractive long-term growth prospects. From the  Analyst Report: "Cadbury's confectionery business reigns as the world's largest, holding about 10% market share and competing strongly in all confectionery segments: chocolate, sugar, and chewing gum. We believe its scale and breadth of product offerings position it to take advantage of a fragmented global marketplace."

 Lloyds TSB Group (LYG)
Moat: Wide | Price/Fair Value Estimate Ratio*: 0.71
Lloyds TSB has avoided most of the fallout from the credit crisis but must still contend with a shaky British economy. Over the long term, however, we think this solid bank will do very well. From the  Analyst Report: "Lloyds TSB is plugging away at what it does best--providing traditional banking services in the United Kingdom--and is producing very high returns on equity for investors in the process. Lloyds' scale and scope, combined with high customer switching costs, bestow it with a wide economic moat, in our opinion."

 AstraZeneca PLC (AZN)
Moat: Wide | Price/Fair Value Estimate Ratio*: 0.73
AstraZeneca's heartburn drug Nexium has struggled lately, and cardiovascular drug Toprol faces generic competition. Crestor, a cholesterol-lowering drug, and antipsychotic drug Seroquel, however, continue to do well. We also think the firm will continue to bring promising new drugs to market. From the  Analyst Report: "We think the company's strong late-stage pipeline puts AstraZeneca in the upper half of the industry. We see seven potential blockbuster compounds that will likely seek regulatory approval over the next two years."

*Price/fair value estimate ratios calculated using fair value estimates and closing prices as of Monday, March 10, 2008.