Susan Dziubinski: Hello, and welcome to The Morning Filter. I’m Susan Dziubinski with Morningstar. Every Monday morning, I talk with Morningstar Research Services’ chief US market strategist Dave Sekera about what investors should have on their radars, some new Morningstar research, and a few stock picks or pans for the week ahead. Before we begin a programming note for our viewers:

Our show on Dec. 2 will be a viewer mailbag episode. So, send us your questions. Email them to [email protected]. All right Dave, good morning. I know you didn’t want to talk elections on last week’s episode of The Morning Filter, but here we are again talking elections this week. And that’s because the stock market rallied hard the Wednesday after Donald Trump won the election.

Why did the stock market respond the way it did?

David Sekera: Good morning, Susan. We saw a stock surge on Wednesday. I think they were up 2.5% just Wednesday alone. And through the end of the week, the market was up about 3.7%. And it’s really just a couple of things. First, just expectations. At this point, the market is pricing in that will most likely see an extension of the corporate business tax that won’t expire next year.

But I think there’s also now some expectations that we may see further tax cuts for earnings as well. That could boost growth going forward. I think from an anticipation point of view, I think people are looking for looser regulations and lower antitrust activity. I certainly wouldn’t be surprised to see a pretty large pickup in mergers and acquisitions next year.

Specifically in the tech space that had been constrained by regulators over the past couple of years. We might see a lot of buyouts there. And then lastly tariffs. Tariffs certainly can be potentially inflationary. That’s our US economics point of view. And they could hamper GDP in the short term. But from stocks’ point of view, that could also be at least valuations specifically for those companies that have pricing power.

Dziubinski: Can you talk a little bit more about that, Dave, because we’re not really hearing about that that much in the media. How could tariffs boost valuations for those companies with pricing power?

Sekera: The expectation is that the cost of tariffs would ultimately end up being passed through to the consumer. And of course, it’s just going to depend on what products are and how fast a company can pass those tariffs through to their end clients. So, companies that have a high degree of pricing power, those are the ones that are able to pass through those cost increases very quickly to their consumers.

And, of course, assuming a similar amount of volumes will end up increasing their revenue by the amount of those tariffs. So, as long as they can pass those through, and their operating margins are the same, that will then result in higher earnings. Those companies without pricing power, they’re going to see their margins contract in the short term until they’re able to pass through all of those additional costs.

And so depending on how much contraction you could see in their operating margin, that actually could then result in earnings pressure for those companies.

Dziubinski: What pockets of the market experienced the biggest postelection day pop, and why?

Sekera: Taking a look in the market and breaking it down by the Morningstar Style Box, we were somewhat up across the board. I mean, everything was up. There was really nothing other than maybe some of the smaller interest-rate-sensitive sectors that were off. But taking a look at it, really the small caps are up the most.

The small-cap stocks are the ones that we’ve noted for a while now, were the only part of the market that was still undervalued in many cases, actually substantially undervalued. The one I really want to highlight is the financials sector. That was just up a crazy amount looking at how much some of those stocks surged.

And that’s just based on the anticipation of a steepening yield curve, which of course would increase their net interest margins, probably the anticipation of less regulatory burdens within financials and even maybe the expectation of a stronger economy, which would result in less defaults.

Dziubinski: There was also a response in the bond market to the Trump win. Bond prices fell and the yield on the 10-year Treasury rose to its highest level since July. So why did that happen? And what’s the takeaway for investors?

Sekera: There’s really no I want to say it other than long-dated bonds just really got crushed. The 10-year U.S. Treasury, it’s already risen 65 basis points since the Fed started to ease monetary policy. And when they cut 50 basis points on Sept. 18. But after the Trump victory, we saw Treasuries back off again.

They rose 15 basis points to 4.4% or 5.0%. Now, a 15-basis-point move in one day is not necessarily unheard of. But over the course of my 30 years in this business, that’s just a very large move for one individual day. And I think that’s all really just based on the expectation of just how inflationary the tariff could potentially be, depending on what gets passed through.

Taking a look at the 10-year this morning, we’re at 4.35%. So, we ended up pulling back a little bit as far as the yield basis go. But still a very relatively high yield compared to where we’ve been over the past couple of years. Taking a look at our Morningstar US economics team’s expectations, they’re still holding their forecasts for interest rates to subside over the course of the next couple of years. As a reminder, our current forecast is for the 10-year to average 3.6% next year, 3.2% in 2026. In our base-case scenario long-dated Treasuries are looking pretty attractive here to us. Personally, I’d still steer clear of corporate bonds.

I’d stick with US Treasuries. But the takeaway here really is for the market from a stock point of view. If the 10-year looks like it’s going to continue to keep moving up from here, and if it starts looking like we’re going to start seeing a five handle, get into that 5% range, I’d actually be pretty concerned at that point in time that it could start to negatively impact the stock market.

And so at that point I could see a lot of asset allocation moving out of what we consider to be relatively high-priced stocks and to the more attractively priced bonds. Again, if we start seeing the 10-year really continue to keep moving up, that’s probably one of my biggest concerns here in the short term as far as potentially being negative for stocks.

Dziubinski: You mentioned the Fed. We also had a Fed meeting last week in addition to the election. And the Fed cut rates by 25 basis points on Thursday, which was kind of expected, right?

Sekera: To be honest, from my point of view with the election, it just took all the oxygen out of the room. The Fed was really kind of an afterthought. Everyone had already priced in the Fed cutting by 25 basis points. So, that was really a surprise to nobody. And at this point, the market-implied probability of a 25-basis-point cut in December. It’s about two thirds right now. So, about 65%-66% of them cutting again and a one-third probability of no cut.

Dziubinski: What’s Morningstar’s expectation for the Fed’s move at that December meeting?

Sekera: Our US economics team is still holding to an expectation of a 25-basis-point cut in December. So, no change there. But, of course, it’s all going to depend on the data coming out between now and then. I think we have your October and November CPI and PPI with those numbers for October coming out this week. We then have PCE for October for the index coming out at month-end. And, of course, November’s unemployment report. And also I think we’ll be keeping a relatively close eye on the revised third-quarter GDP data coming out on Nov. 27 just to see if that could potentially get marked up. And if it does, with the economy running higher, that would put another 25-basis-point cut at risk.

Dziubinski: It’s been an eventful November so far. That’s probably an understatement. And the markets rallied quite a bit since you published your November stock market outlook, which viewers can access the outlook via a link beneath this video. Tell us, Dave, how evaluations changed in the markets since the start of the month?

Sekera: The price to fair value metric has increased. You know, right now it estimates it’s probably between a 5% to 6% premium, you know, over fair value. And I just have to caution investors, you know, the last time we were in this area was about the beginning of 2022, coming out of 2021. Back then, we actually advised investors that they should be underweight equities because the valuations were getting so high.

But really today is a very different environment than what it was back then. Let me just explain that a little bit. In our 2022 outlook, we noted that we had forecast inflation to increase and increase pretty substantially. We were looking for long-term interest rates to increase over the course of 2022. We were looking for the economy to slow, and we had the expectation that the Fed would begin to start tightening monetary policy at that point in time.

Today when I look at the market, macrodynamics, we still think inflation is moderating. Now we did see a bump up here in long-term rates over the past call it two months. But we still think from a multiyear point of view, long-term rates will be headed down. We’ve got the Fed easing. We’ve got the ECB easing. We’ve got a whole bunch of monetary and fiscal stimulus that was announced in China recently. So, a lot of tailwinds to the market, the only headwind is our view that the economy is expected to slow. But even there we’re still looking for that soft landing, no recession. So again, much different environment today than it was back then.

Dziubinski: Given where we are today, from a valuation perspective, how should stock investors be thinking about their allocations to equities today?

Sekera: I still think you need to hold at that market weight position based on your own risk tolerances and your own investment objectives. But when I look at the macrodynamics, the positive tailwinds still are just overwhelming the headwinds, a lot of momentum behind us today. So, I think we’re just in one of these time periods where stocks are priced to perfection.

And they can probably stay elevated until earnings are going to start to catch up over the next year or two. But at this point, I do think that positioning has just become increasingly even more important than it ever has been in the past. And we’re still looking for an overweight in small caps and value stocks.

Dziubinski: Let’s talk about some specific companies. We have Home Depot HD reporting earnings this week. the stock looks pretty overvalued heading into earnings. What’s Morningstar’s take?

Sekera: Home Depot is a 1-star-rated stock, trades at about a 44% premium to fair value. Interestingly, this was one of the few stocks that actually took a bit of a hit after the Trump win. And what happened there is that your higher interest rates will act as a drag on financing, home renovation, and larger projects.

But with the momentum that we’ve seen in the market that stock really just bounced back right with everything else. Taking a look at our model here, I just have to note our five-year forecast period. We’re only forecasting top-line revenue growth on a compound annual growth basis of 3.8%.

Looking for a compound annual growth rate of earnings of 6%. So relatively modest earnings growth. Yet the stock is trading at 27 times this year’s earnings and 26 times next year’s earnings. From our point of view, a pretty pricey stock at this point.

Dziubinski: We ran out of time on last week’s episode to talk about Estée Lauder EL, and several viewers have asked about what happened with that stock. So, let’s face the music on this one. The stock cratered after earnings as the company continues to suffer from worsening trends in China. And management even withdrew its 2025 outlook. Morningstar cut its fair value estimate on Estée Lauder stock by 8% based on continued near-term weakness.

Sekera: Like you said, we have to do a mea culpa on this one. I think this is just one of those instances where we’ve been what they call long and wrong. You know, to some degree, I think we just tried to catch the falling knife here too fast. But ultimately, analyst does still think that she’s going to be right over the long term.

After earnings we did cut our 2025 sales growth forecast to a negative 2% from a positive 2%. We lowered our forecast for Asia, specifically China, to contract by 9%. That’s down from a 1% decline. So, the end-result forecast is our adjusted earnings fall by 5% as opposed to increasing by 7%. So, the net impact as you mentioned was to lower our fair value to $162 a share from $176.

Having said all that, she ended up maintaining her 10-year forecast for a 6% annual sales growth, 15% average operating margins. So, ultimately, her investment thesis here is this is still a China-recovery story. Our five-year operating margin is 14.9%. To put that in context, this year we’re only forecasting 11.2%, and next year we’re looking for 12.7%.

We’re really looking for the company to get back to that historical average but not until fiscal-year 2028. Now, also looking at her model, this year should be the low in earnings. We’re looking for earnings of $2.55 a share. That puts the stock currently at 25 times this year’s earnings. But based on next year’s earnings forecast, that drops to 18 times as we’re forecasting $3.58 per share.

So, again, for readers that do have an interest in this one, I think this is really a good one to go to Morningstar.com to read her write up and get into much greater detail than what I’ve gone over here.

Dziubinski: All right. Now for something kind of completely different. Palantir PLTR stock was up 23% last week after the company beat on revenue and raised guidance. Any fair value changes as a result of the report, Dave?

Sekera: We did. We bumped up our fair value by 10% to $21 a share. And this is another one I kind of want to give our viewers here an idea of what we have in our financial model. So, the company posted $2.2 billion in revenue in 2023. Our forecast for 2024 for revenue is $2.8 billion. And over our five-year compound annual growth rate period where our forecasts are for 23%. That would take revenue up to $6.2 billion in 2028. So, a very large increase from where we’ve seen it in 2023. Now, taking a look at earnings, earnings last year were only $0.25 a share, going up to $0.41 a share here in 2024.

That puts the stock at 142 times this year’s earnings based on where the stock is trading. Even going all the way out to our forecast period of 2028, we’re still only looking for earnings to get to $0.87. So, of course, more than doubling than what we had this year. But at $0.87, that still puts the stock at 67 times 2028 earnings.

Dziubinski: Palantir’s stock is up 240% this year. Just how overvalued does it look?

Sekera: So our analyst noted that this is actually probably the most expensive software company we have under our coverage right now. It’s a 1-star-rated stock. I think our fair value puts it at 178% premium over fair value.

Dziubinski: Novo Nordisk NVO stock slipped after earnings last week. What’s Morningstar’s take on the report?

Sekera: The sales growth was slightly worse than expected but not really by all of that much. Our analyst thinks that we’ll probably see that being made up here in the fourth quarter and noted that the supply issues that led to that worse-than-expected sales growth will probably be resolved. So, bottom line, there was nothing in our earnings release that we saw that caused us to change our long-term assumptions here.

Dziubinski: Any changes to Morningstar’s fair value estimate? And is the stock attractive?

Sekera: Our fair value estimate is unchanged at $86 a share. But it does put it in that 2-star territory as it trades at a 25% premium to fair value. So, again, this is one where the short story is the market is pricing growth of its weight-loss drugs too far into the future.

And looking at some of our write-ups here in this specific sector, our analyst noted she thinks that there could be up to 16 new competitive weight-loss drugs that could be launched by 2029, which would put a lot of pressure on both volume and pricing at that point. We’re going to see great short-term growth here for the next couple of years.

But the stock is really the present value of all of your future free cash flows that once those new drugs hit the street, we could see a big pullback at some point in time in the future once it’s priced in.

Dziubinski: Let’s talk a little bit about a couple of picks of yours that reported earnings last week, starting with Devon Energy DVN. It reported solid results, and Morningstar maintained its $48 fair value estimate. Is the stock still attractive today?

Sekera: It is still attractive, in our view. It’s a 4-star-rated stock, 19% discount to fair value. I would note on this one they have a dividend policy in which they have a small fixed dividend plus a variable dividend policy. So, depending on the type of investor you are, if you’re really looking for those stable dividends, this might not necessarily be the right one for you.

But overall, their capital allocation strategy is to return 70% of their annual free cash flow to shareholders. But you could see some ups and downs in that dividend from quarter to quarter. And I would just note here that following earnings there was no change in our long-term assumptions. We still continue to view Devon as really being a steady low-cost provider.

Dziubinski: International Flavors & Fragrances IFF, that one’s been a pick a couple of times on the show, was down double digits after earnings. The company missed on earnings but beat on revenue and Morningstar maintained its fair value estimate. Why the negative response from the market on IFF?

Sekera: It might just be the fourth-quarter guidance was a little bit light compared to what the market had been hoping for. But I have to note when I take a look at the stock chart here, the stock was up 22% year to date. It’s up 46% from its lows in October 2023.

It also could just be a case that with the stock having run that much, maybe the price just got ahead of itself. And you had some people doing some profit-taking at the end of the day. Reading our analyst note here, he just noted that third-quarter results, in his view, strengthen his recovery thesis.

EBITDA was up 16% year over year saying good volume growth, good utilization getting back to normalized levels. So, overall our fair value was unchanged following earnings. The investment thesis here is that we’re looking for the company to see a full recovery from the cost inflation that they’ve suffered. We’re looking for an end to that inventory destocking. Both of those had weighed on profits back in 2022 and 2023. And we’re now seeing those unwind here in the latter half of 2024.

Dziubinski: IFF stock is still attractive, right?

Sekera: We think so. It’s a 4-star-rated stock, trading at a 29% discount, and it has a 1.7% yield. And I would note here that in our model that dividend is flat over the course of our forecast period. We do expect that the company is going to use some of its free cash flow to pay off debt in 2025 and 2026, but we do see cash on the balance sheet build thereafter.

Maybe we could see some dividend increases over the next couple of years. It’s a company we rate with a wide economic moat, although it does have a High Uncertainty. And then taking a quick look at the operating margin here, it used to be 17% prepandemic. And we’re forecasting that 2023 was going to be the low at 5.0%, doubling this year to 9.8%.

And I think we have relatively conservative estimates here. So we’re only looking for that operating margin to recover to 12% by 2028 compared to the prepandemic era of 17%.

Dziubinski: Kenvue KVUE is also a recent pick of yours. What did Morningstar think of the company’s earnings report? And is the stock still pick?

Sekera: It is. The analyst described the results as “tepid.” We made a few adjustments to the model here and there, but overall they all kind of netted one another out. So, our stock fair value is unchanged at $26 a share, which puts it still in that 4-star range. Now I know it’s only at a 9% discount, but it does have a 3.5% dividend yield. So, not a huge margin of safety, necessarily. But compared to the rest of the market on a relative value basis it looks pretty attractive. The only other thing that I would say I’m really waiting for is to hear additional details as to what activist investor Starboard Value is going to be recommending to the company to help unlock shareholder value.

And of course, once that’s made public, that could be maybe the next catalyst for the stock to move up.

Dziubinski: All right. Well, it’s time for Dave’s stock picks of the week. In a stock market that’s priced to perfection, this week you’ve brought viewers some undervalued stocks of companies with competitive advantages and defensive characteristics. Now, these aren’t the typical “Trump trades.” Instead, they’re companies with economic moats that should hold up well no matter what the new administration does or doesn’t do.

Your first pick is Bio-Rad BIO. Run through Morningstar’s key metrics on this one.

Sekera: It’s a 4-star-rated stock, currently trades at about a 14% discount to our fair value. No dividend. They do use share repurchase to return cash to shareholders. So again, if you’re a dividend investor, maybe not necessarily the right one for you. But it is a company we rate with a wide economic moat, although it does have a High Uncertainty.

Dziubinski: Now, Bio-Rad stock is up 40% since the beginning of July, so it has some momentum. Why does Morningstar think there’s some room to run still on this one?

Sekera: This is actually a relatively new stock for us. We initiated coverage on this company on May 3 with a fair value of $430 a share. The stock has surged, as you mentioned, but it’s only up 14% year to date. It had sold off in April before we picked up coverage of this stock. And this is one that we highlighted as a stock pick on our July 22 show.

Now, for those of you that missed that show, Bio-Rad develops products for life sciences for research and clinical diagnostic markets. And we think it relies kind of on that razor and razor blade business model. Consumable reagents account for 70% of their total sales. And of course those reagents are often sold at a higher margin than what we see for the equipment and for the instruments.

It’s also one of the very few small-cap stocks that we rate with a wide economic moat. That economic moat based on switching costs as it would take a lot to move from the installed equipment base and clinical diagnostic testing into someone else’s instruments. Now, I will kind of caution the stock here in the short term does look kind of pricey.

It trades at 36 times next year’s earnings. But earnings will grow into the valuation. Our analyst is forecasting that the operating margin will expand over time, up to 17.5% as compared to the 11.5% margin we’re expecting this year.

Dziubinski: Now, your second pick this week is Bristol-Myers Squibb BMY. Give us the headline numbers on this one.

Sekera: Bristol-Myers is a 4-star-rated stock, 14% discount to fair value, currently yields about 4.4%. Another company with a wide economic moat and, in this case, a Medium Uncertainty.

Dziubinski: Bristol-Myers is kind of an interesting pick because it’s, of course, a drugmaker. And given that president-elect Trump has suggested that Robert F. Kennedy Jr. might play a role in the administration, there are some who say that that could lead to unpredictable outcomes for drugmakers. What do you think of that?

Sekera: I would highlight in this case to go to Morningstar.com and look up Karen Andersen. She actually put out an article just the other day describing how a Trump administration could possibly increase the range of outcomes on a number of different types of healthcare-related topics. Now, in my opinion, I’m just going to wait and see what more specifically is proposed.

And depending on what is proposed and whether or not we think it has a relatively high probability of being enacted. At that point in time, we’ll evaluate whether or not it could lead to fair value changes both upward as well as downward on those stocks that could be impacted.

Dziubinski: Walk us through Morningstar’s thesis on Bristol-Myers today.

Sekera: I think we first recommended this stock on the May 20 show. The stock had been on a pretty strong downward trend over the course of 2023 and the first half of 2024. I’m not a chartist, but when I look at the chart here, it does look like it has probably bottomed out over the past couple of months.

The big concern to the market on this one is that the company does face one of the largest patent cliffs in the industry over the next five years. However, our analyst team here has looked at their pipeline. They think there’s enough new products out there to potentially mitigate a lot of the pressures from the generic drugs when they come online.

We’re forecasting revenue declining at a 4% average run rate over the next five years to take that into consideration. But I think the market’s underestimating the strength of the firm’s next-generation drugs. I think we need to look past this year’s earnings. They had some accounting treatments for an acquisition that’s temporarily lowering earnings.

I really look to 2025 as being much more of a normalized earnings basis. And taking a look at that, the company is only trading at 8 times our 2025 projected earnings for next year. So, it does look like a big value play to us.

Dziubinski: Your next pick is a longtime Warren Buffett favorite company, and that’s Kraft Heinz KHC. This one’s really undervalued. Walk us through the metrics on it.

Sekera: Sure. It’s a 5-star-rated stock, trades at a 41% discount, and has a 4.9% dividend yield. A company with a narrow economic moat. And I note we actually just upgraded that moat to narrow from none back in June. And the company has a Medium Uncertainty Rating. Just a little bit of background on this one. Now Kraft was bought by a private equity company, 3G Partners.

And at that point in time, in our view anyways, it overemphasized short-term profitability over building long-term economic value. It looked like that worked initially. But then we did see performance drop off, and drop off pretty substantially. So, over the past five years the company has had to really go back to the drawing board, revamp their strategy, get back to focusing on building long-term value.

Our analysts noted that they’ve done a lot of things to improve efficiencies. They’ve been reinvesting back into their brands. They’ve done a lot of things to improve their category management. So, at this point, we think the company is back on track. In fact, on the right track based on the changes it’s made and that’s really strengthening its intangible assets, specifically its brands.

And it’s also strengthened its cost structure over that same point in time.

Dziubinski: Now, Kraft Heinz, the stock is having a kind of tough year. What’s been going on, and what is Morningstar think the market is missing on this one?

Sekera: And this is actually going to be similar to a lot of the food companies under our coverage that we see as being undervalued today. So, of course, over the past couple of years based on the amount of inflation that we’ve seen, it’s really that compound impact of inflation over several years.

Lower-income and even now a lot of middle-income consumers are under a lot of pressure. Wages have failed to keep up with inflation. And that’s taking a toll on branded food companies. So, from a top-line perspective, this is what I would consider to be a normalization play. So, our US economics team does expect that inflation will continue to keep moderating and that wages will catch up over time.

And while that happens, then we’d expect the top line to rebound for a lot of these food companies. Now from a margin perspective, we expect that over that time, you know, the company will continue to realize operating margin expansion as they get the benefits from those cost-cutting programs. So, prepandemic, their average operating margin was 22.6%. We’re forecasting that operating margin expands to 20.7% in 2025, from 20.3% this year, and then ongoing gradual improvement to 21.9% in 2029.

So never even really getting back to that prepandemic margin of 22.6%. Taking a look at the stock where it’s trading, it’s currently just under 16 times this year’s earnings. And then that drops to only 10 times our 2025 earnings estimate.

Dziubinski: Your next pick is Mondelez International MDLZ, which used to be part of the old Kraft Foods, speaking of Kraft. Walk us through the numbers on this one.

Sekera: It’s a 4-star-rated stock, 12% discount from fair value, 2.8% dividend yield. But they also use free cash flow to repurchase stock as well. Company with a wide economic moat and a Low Uncertainty.

Dziubinski: Mondelez’s stock is also having a tough year, kind of like Kraft Heinz. But in this case, are high cocoa prices partly to blame for that?

Sekera: There are some idiosyncratic issues with this company in particular right now. We had a lot of droughts in regions where cocoa has been grown. And then, of course, that just led to cocoa prices just exploding higher over the past year. Taking a look at the futures contracts, they’ve gone from about $2,500 a contract to over $11,000 a contract in April.

Now it’s subsided down to about $7,000. But still, that’s almost triple where they were prior. Now the company did have hedges in place, but those hedges look like they start rolling off next year. Not a huge portion of their cost of goods sold but enough to pressure margins here in the short term.

Dziubinski: Company management warned that inflated prices would cut into earnings next year. So, why does Morningstar like Mondelez anyway?

Sekera: It’s one of these ones that I think you need to take a long-term view of the company and where it’s going, not necessarily just this next year but what we expect over the next five years. So, from a top-line perspective, we’re looking for only 4% compound annual growth rate. Essentially that’s just inflation plus a little bit of new product innovation every year.

We think the margin pressures that they’ll suffer in 2025 will probably be temporary. Over time we expect weather patterns will normalize. Cocoa prices will end up subsiding. And there’s other inflationary pressures that they’ve had, that they’ve suffered the past couple of years, which should ease as well. So, again, just one of these situations where I think the market’s overreacting to the short-term margin pressure.

We expect margins will normalize over time. From an earnings perspective, we’re looking at 7.3% compound annual growth rate over the next five years. But the stock trades a little bit under 20 times this year’s earnings.

Dziubinski: And for your last pick we’re going back to the healthcare sector. The pick is Thermo Fisher Scientific TMO. Give us the essentials on it.

Sekera: I have to note I think this might be the first time you and I have actually talked about this name. And the reason being is that rarely has the stock traded at much of a discount to fair value. So, for those of you that don’t know the company, Thermo sells scientific instruments and lab equipment, diagnostics, consumables as well as life science reagents.

It’s a 4-star-rated stock, trades at a 12% discount, although I would caution it has a very small dividend yield. They use most of their cash for acquisitions, a lot of the tuck-ins that they do. And then what they don’t use for acquisitions oftentimes they’ll do for stock repurchases instead. But it is a company with a wide economic moat and a Medium Uncertainty.

Dziubinski: Thermo Fisher stock has pulled back since the company reported earnings in October. So, what didn’t the market like about what management had to say?

Sekera: I think you need to take a step back and look at what’s happened with this company over the course of the past four years from the pandemic. So, early during the pandemic years, they had just abnormally high revenue growth rates. They had 26% growth on the top line in 2020, 21% in 2021, and even 14% in 2022.

And at the same point in time had very large expansion in their operating margins as they were able to leverage that growth. Now, at this point, revenue actually did contract 4% in 2023. And that brought the margin down. We’re looking for essentially flat revenue and operating margins this year in 2024.

Generally, when we look at earnings, this most recent quarter, I don’t really know why the market was so disappointed. It looks like the results came in line with our expectations. So, my guess is that maybe the market is just a bit disappointed that they haven’t seen that sales rebound really start at this point. And I think maybe traders are just being very overly cautious at this point. And they want to see the rebound before they start giving the company the credit for that in its valuation.

Dziubinski: What’s Morningstar’s long-term take on Thermo Fisher?

Sekera: Over the long term, we are looking for top-line growth of about 5.5% on average per year. We’re also looking for a rebound in its operating margins over that same time period, although the operating margins are still going to be less than what the peak was in 2020 and 2021. But between the top line and some margin expansion, we’re looking for about 10% earnings growth on average. The company trades at 26 times this year’s earnings but 23 times next year’s earnings. So, again, the stock may not necessarily be all that cheap, but in what we consider to be an overvalued market, I’ll take the relative value where I can.

Dziubinski: Thanks for your time this morning, Dave. Viewers who would like more information about any of the stocks that Dave talked about today can visit Morningstar.com for more details. We hope you’ll join us for The Morning Filter next Monday at 9 a.m. Eastern, 8 a.m. Central. In the meantime, please like this video and subscribe to Morningstar’s channel. Have a great week.

Got a question for Dave? Send it to [email protected].