The energy sector remains the only undervalued area of the Australian equity market while consumer cyclical is the most overvalued, according to Morningstar.
The research house’s latest equity market outlook for Q4 2021 revealed Woodside Petroleum, Beach Energy and Santos as its picks from the sector.
“Energy remains the only undervalued sector, with constituents trading on an average price/fair value estimate ratio of 0.84 as the higher spot oil price has yet to be fully factored in to share prices,” Morningstar analysts said.
Morningstar believes Woodside is trading at nearly a 45% discount to its own fair value of $40 and Beach Energy is trading at a 53% discount to its fair value of $2.50 while Santos is trading at a 33% discount to fair value of $9.70.
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Comparatively, consumer cyclical stocks were found to be the most overvalued, trading on an average price/fair value of 1.26, as retailers benefit from tailwinds like the redirection of travel spending.
“Share prices of most retailing names imply a continuation of elevated sales, rather than the return to our long-term trend as our intrinsic valuations suggest. The median consumer discretionary stock is trading at a 12% premium to our fair value estimate, and we view the sector as significantly overvalued overall,” Morningstar analysts said.
Financials performed well in the last quarter and profit growth is expected to be weak in the short-term due to credit growth and cost-cutting, but rising interest rates are set to increase interest margins and profits for major banks.
From the sector, Morningstar’s top picks were Westpac for its high-quality loan book, Challenger as it trades at an attractive discount to fair value estimate and Magellan Financial Group for being highly reputable, retaining clients and winning mandates.