Morningstar's 33 US stocks for 2022
Here are our analysts' top ideas in each sector for the new year.
Despite the ongoing pandemic and rising inflation, US stocks finished 2021 with an impressive 24% return, as measured by the Morningstar US Market Index. Not surprisingly, we think stocks are overvalued today: The median stock in our North American coverage universe traded at a 5% premium to our fair value estimate at year's end.
Dave Sekera, Morningstar's chief US market strategist, observes in his latest stock market outlook that the energy sector remains the most undervalued at the start of 2022, with the communications sector the next cheapest.
Here are some specific undervalued stocks across sectors that are among our analysts' best ideas.
Basic materials
After outperforming the broader market in 2021, we see limited opportunities across the sector, reports senior analyst Seth Goldstein. He argues that lithium is a smart way to play electric vehicle adoption; we expect prices to remain high over the next several years as demand outpaces new supply.
Industrial gas firms are well equipped to manage inflation and energy price volatility, says Goldstein, and we see growth opportunities for specialty chemicals producers. “As 5G and the 'Internet of Things' technologies require more-advanced semiconductors and electronic components, specialty chemicals products should be able to sell more content per device, generating revenue growth at a mid-to-high-single-digit annual average rate,” he concludes.
Communication services
The communications-services sector was roughed up in 2021’s fourth quarter, with more than half of the stocks we cover declining during the period, remarks director Mike Hodel. Though most subsectors struggled, smaller social media firms in particular were pummeled.
“The market appears to have lost confidence in the growth opportunities facing these firms as pandemic-fueled trends moderate and Apple’s privacy changes force advertisers to change their approach,” he argues.
Media firms suffered as well, as have traditional telecom stocks. We believe the US telecom industry will deliver consistent (if perhaps modest) growth, maintains Hodel.
Consumer cyclical
Consumer cyclical stocks enjoyed a strong fourth quarter, leaving the median consumer stock in our coverage universe is trading at a 3% premium to our fair value estimate. But nearly a third of the stocks we cover are trading at 4- and 5-star levels, points out director Erin Lash. "We think travel and leisure is ripe for investment, as we don’t expect rising case counts will permanently depress consumers’ desire to travel," she notes.
We expect spending on goods to slow in 2022 with a commensurate increase in spending on services, which should benefit leisure travel and gaming. We forecast the travel market to reach pre-pandemic levels by 2023, reports Lash. That being said, a tight labor market and hourly wage hikes will challenge restaurants, which can pass along increased costs only so much before pricing out diners.
Consumer defensive
Consumer defensive stocks performed in line with the broader market during 2021’s fourth quarter. And while we think the sector looks overvalued, we see some opportunities, observes Lash. In particular, consumer packaged goods stocks look undervalued. “Despite chalking up decelerating sales, we don’t think the market appreciates the strategic enhancements CPG manufacturers made prior to the pandemic,” she argues.
Of course, inflation has posed a threat to the sector, but competitively advantaged operators in the space can withstand it. “Operators have a number of tools at their disposal to buffer profits, including raising prices, pursing cost savings initiatives, and employing revenue management opportunities,” she concludes.
Energy
Although energy stocks outpaced the broader market in 2021, the sector is the most undervalued by our metrics, trading at a 14% discount to our fair value estimate, reports director Dave Meats. The oil services segment is particularly attractive, trading at an average discount of 32%.
We don’t expect the omicron variant to significantly disrupt the energy market. “We do not see enough appetite around the world for sustained lockdowns, and without such restrictions the impact on global crude consumption will be limited,” says Meats.
Financial services
Though they underperformed in the fourth quarter, financial-services stocks bested the broader market last year. The sector appears to be fairly valued according to our metrics, reports director Michael Wong.
Interest rates are a key driver of financial sector earnings, reminds Wong, and they’re expected to move higher this year. Indeed, the unemployment rate and inflation point to a tightening of monetary policy. During the last Federal Open Market Committee meeting, a majority of participants noted that three interest-rate hikes in 2022 to between 0.75% to 1% would be appropriate.
Healthcare
Healthcare stocks slightly lagged the broader market last year. “We believe already high valuations in the devices/diagnostics industry combined with U.S. drug policy concerns lingering around biopharma stocks have both contributed to the lower relative performance of the healthcare segment,” says sector director Damien Conover. The sector is slightly overvalued: The median healthcare stock we cover is trading at a 9% premium to its fair value estimate.
We think the larger biopharma group is attractive. While changes in U.S. drug pricing policy to reduce out-of-pocket costs is likely, we don’t expect changes that will significantly disrupt the profits of the group, says Conover. “Despite the uncertainty on drug policy, the outlook fundamentally for biopharma firms remains strong with low patent exposure and several new innovative drugs launching and gaining market share,” he concludes.
Industrials
The industrials sector lagged the broader market in 2021, hampered by supply-chain disruptions and inflation. The sector looks overvalued heading into 2022, trading at a 10% premium to our fair value estimate, says sector director Brian Bernard.
“While a handful of firms have defended profit margins in the inflationary environment, most have been unable to increase prices fast enough to outpace inflation and offset additional costs associated with raw material shortages,” maintains Bernard. We expect some supply-chain issues to ease in 2022, but future variants could hamper recovery in some industries, such as aerospace, says Bernard.
Real Estate
The real estate rebounded in 2021, outperforming the broader market by a significant margin. The sector is about fairly valued coming into 2022, reports analyst Kevin Brown.
Despite the short-term disruptions that coronavirus variants may cause, we see years of strong growth ahead for the hotel and healthcare sectors, says Brown. “Meanwhile, the industrial and self-storage sectors, the sectors that performed best during the pandemic, have significantly outperformed as demand for shipping and storage space has continued to surge,” he concludes.
Technology
The technology sector outlegged the broader market through most of 2021. We think the sector overall is overvalued, with the median stock in our coverage universe trading at a 9% premium to intrinsic value at year's end. “We remain bullish on the key secular tailwinds within technology, such as cloud computing, 5G, and the Internet of Things,” reports director Brian Colello.
Software stocks have pulled back and aren’t as rich as they were. “We still see some attractive margins of safety for investors in large-cap software but also some of the high-flying remote software stocks that ripped higher in 2020 but have fallen out of favor more recently,” says Colello.
Utilities
Utilities enter 2022 at robust valuations, suggests strategist Travis Miller: We think the sector is about 4% overvalued today. "Either the worst is yet to come for utilities as inflation weighs on earnings, balance sheets, and real yields, or inflation will prove to be a fast-passing fad," he adds.
That being said, utilities enter the new year in a strong position, with solid balance sheets and aggressive growth plans. Plus, they remain one of the few attractive options for income-seekers, reminds Miller. “If higher rates can ward off inflation, utilities should continue producing 7%-9% total returns for investors in 2022 and beyond,” he concludes.