By Mike Coop, chief investment officer of Morningstar Wealth EMEA
US stocks once again outpaced the rest of the world in 2024, rising over 25%, fuelled by the performance of stocks that benefit from the AI boom and the prospect of lower interest rates.
Yet, after the rally, valuations for US stocks appear expensive, based on Morningstar’s stock-level valuation models and top-down expected return estimates. Our asset-class valuation models point to low single-digit returns in the US, while we expect some of the most attractive opportunities to deliver double-digit returns over the next decade.
Thus, as we look for opportunities heading into 2025, our focus naturally shifts to regions outside the US, where investors may achieve better risk-adjusted returns.
Here we outline six opportunities for investors who are prepared to be contrarian. The first is the biggest stock market amongst emerging markets – China.
Past performance and a few false dawns have painted a bleak picture in recent years, but the potential upside remains. There are structural issues and key cyclical challenges that will take time to resolve so the road is likely to remain bumpy.
Aging demographics, deleveraging, and weak consumer spending represent the core of the challenges. We are encouraged by signs that the authorities are prioritizing policy support to shore up the economy and we expect stimulus measures to continue evolving in the coming months.
A more benign regulatory backdrop, compared with a few years ago, is also constructive. Strong returns from the Chinese market toward the end of September and early October illustrated how the picture only needs to become ‘less bad’ to provide a tailwind to returns.
As a cyclical recovery takes shape, we anticipate moderate earnings growth from Chinese companies – but it will take time.
We also maintain a positive outlook on several of the major Chinese technology firms as consumers regain their footing.
However, careful management of total portfolio exposure is crucial, including sizing aggregate positions to account for the various regulatory, geopolitical, and economic risks in China.
The second opportunity is Korean equities. Samsung Electronics makes up around 23% of the Morningstar Korea Index. Softer memory demand for non-AI products and doubts over whether the company will qualify as a supplier to Nvidia, the world’s largest AI company, have led to shares underperforming recently.
But with shares trading at roughly 1.1 times book value, near the low end of Samsung’s historical range, these concerns look more than priced in. In its third-quarter 2024 earnings call, Samsung stated that it cleared an important phase in the qualification process for an undisclosed customer, likely Nvidia.
A ramp-up in shipments of its latest high-bandwidth memory chips could significantly improve Samsung’s fundamentals and catalyse a rerating.
Our third opportunity is closer to home and has been through the wringer in recent years – UK homebuilders.
At one point, they lost two thirds of their value from the 2021 lockdown highs. Share prices have rallied over the past year, but we still believe names in this space could rise by as much as 50%.
Lower interest rates are leading to more affordable mortgages, and supportive government policy should help pave the way in 2025.
Just as out of favour, if not more so, are European auto manufacturers. They face what seems like the perfect storm currently with an influx of Chinese electric vehicles, a weak Chinese consumer, and potential tariffs on exports to the US.
We see huge discounts on many of the big European names. We also believe that with so much negativity baked in, it doesn’t take much good news to move share prices in a positive direction
The 5th and 6th opportunities are in Latin America, the worst performing major region this year.
Mexico plummeted almost 22% in 2024 through to the end of October. Three catalysts have prompted the plunge, the first being profit taking after the huge outperformance over the prior 2 years.
The second catalyst was concerns about the future independence of the courts and rule of law following the presidential election in June. The third and more recent sell trigger, is anticipation of protectionist US trade policies and tensions related to border controls.
Upon closer inspection, the Mexican share market is actually sheltered from many of these issues due to its defensive sector mix, strong balance sheets and the more domestic nature of its revenues.
With prices and the currency reflecting excessive pessimism, it’s a good time to consider taking exposure.
Brazil is a higher-octane, more cyclical prospect, with deep discounts on offer after investors marked down asset prices on concerns about persistently high inflation, higher interest rates and the new regime meddling in the corporate affairs of behemoths Vale and Petrobras.
At current prices, Brazilian companies now offer generous yields, and a margin of safety not often found for those who can ride out short-term volatility.
All these opportunities flag the need for investors to tap into global research and build portfolios that can go beyond 2024’s best performing stocks and markets.