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James Faris
2022-09-24T10:45:00Z
- High quality stocks have lagged their lower-quality peers so far this year.
- History suggests that investors will start to choose quality as financial conditions tighten.
- Goldman Sachs shared 50 quality stocks that appear to have room to rise.
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In theory, this year's ugly market environment should have caused investors to flee to the safety of high-quality stocks. But that hasn't quite been the case, according to Goldman Sachs.
Quality companies with high returns on capital trade at an earnings multiple of 18x, which is just a 5% premium to stocks with low returns on capital, wrote David Kostin, the firm's chief US equity strategist, in a mid-September note. While that rate is higher than the 2% median premium in the past 35 years, it's well below the 10% premium of the past decade, he noted.
"Firms with high returns on capital carry a valuation premium close to historical averages despite elevated current pressures on corporate profitability," Kostin wrote in the note.
That disconnect may present an opportunity at a time when sound investments are hard to come by. Higher interest rates in response to high inflation have hurt both stock valuations and fundamentals, which makes quality stocks all the more attractive, in Kostin's view.
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"Pressure on profitability and tightening financial conditions support owning stocks with high returns on capital, which trade at a lower valuation premium than other 'quality' factors such as strong balance sheets and low volatility," Kostin wrote.
Historically, quality stocks have been a strong bet when financial conditions tighten. Since 1990 firms with high returns on capital have outperformed lower-quality counterparts by 9%, while companies with strong balance sheets and those with low volatility have each topped lesser peers in those aspects by 8%, according to Goldman Sachs.
But this year has been an anomaly. Stocks with high returns on capital have lagged those with low returns on capital by 9% in 2022, Kostin noted.
50 cheap quality stocks to buy
While quality stocks haven't performed as expected in 2022, Goldman Sachs thinks the cream — as in stocks with better returns on equity than their sector peers — should rise to the top.
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Below are 50 such names that Goldman Sachs highlighted, along with each stock's ticker, sector, return on invested capital (ROIC), return on assets (ROA), and return on equity (ROE). The "NM" under some stock's ROIC or ROE means "not meaningful."
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1. Alphabet
Ticker: GOOGL
Sector: Communication Services
ROIC: 26%
ROA: 20%
ROE: 29%
Source: Goldman Sachs
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2. Meta
Ticker: META
Sector: Communication Services
ROIC: 24%
ROA: 20%
ROE: 27%
Source: Goldman Sachs
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3. Netflix
Ticker: NFLX
Sector: Communication Services
ROIC: 14%
ROA: 11%
ROE: 30%
Source: Goldman Sachs
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4. Omnicom
Ticker: OMC
Sector: Communication Services
ROIC: 15%
ROA: 5%
ROE: 45%
Source: Goldman Sachs
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5. Domino's Pizza
Ticker: DPZ
Sector: Consumer Discretionary
ROIC: 47%
ROA: 28%
ROE: NM
Source: Goldman Sachs
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6. Yum! Brands
Ticker: YUM
Sector: Consumer Discretionary
ROIC: 40%
ROA: 25%
ROE: NM
Source: Goldman Sachs
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7. NVR
Ticker: NVR
Sector: Consumer Discretionary
ROIC: 38%
ROA: 27%
ROE: 52%
Source: Goldman Sachs
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8. Home Depot
Ticker: HD
Sector: Consumer Discretionary
ROIC: 38%
ROA: 23%
ROE: NM
Source: Goldman Sachs
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9. Pool Corp.
Ticker: POOL
Sector: Consumer Discretionary
ROIC: 26%
ROA: 23%
ROE: 70%
Source: Goldman Sachs
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10. O’Reilly Automotive
Ticker: ORLY
Sector: Consumer Discretionary
ROIC: 41%
ROA: 18%
ROE: NM
Source: Goldman Sachs
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11. Philip Morris Intl.
Ticker: PM
Sector: Consumer Staples
ROIC: 70%
ROA: 22%
ROE: NM
Source: Goldman Sachs
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12. Hershey
Ticker: HSY
Sector: Consumer Staples
ROIC: 26%
ROA: 16%
ROE: 61%
Source: Goldman Sachs
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13. Colgate-Palmolive
Ticker: CL
Sector: Consumer Staples
ROIC: 33%
ROA: 12%
ROE: NM
Source: Goldman Sachs
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14. APA Corp.
Ticker: APA
Sector: Energy
ROIC: 60%
ROA: 24%
ROE: NM
Source: Goldman Sachs
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15. Devon Energy
Ticker: DVN
Sector: Energy
ROIC: 32%
ROA: 24%
ROE: 57%
Source: Goldman Sachs
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16. MSCI
Ticker: MSCI
Sector: Financials
ROIC: 24%
ROA: 16%
ROE: NM
Source: Goldman Sachs
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17. Moody's
Ticker: MCO
Sector: Financials
ROIC: 18%
ROA: 12%
ROE: 73%
Source: Goldman Sachs
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18. T. Rowe Price Group
Ticker: TROW
Sector: Financials
ROIC: 26%
ROA: 20%
ROE: 27%
Source: Goldman Sachs
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19. FactSet Research Systems
Ticker: FDS
Sector: Financials
ROIC: 14%
ROA: 14%
ROE: 45%
Source: Goldman Sachs
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20. MarketAxess Holdings
Ticker: MKTX
Sector: Financials
ROIC: 23%
ROA: 15%
ROE: 24%
Source: Goldman Sachs
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21. Marsh & McLennan Cos.
Ticker: MMC
Sector: Financials
ROIC: 15%
ROA: 10%
ROE: 32%
Source: Goldman Sachs
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22. CF Industries Holdings
Ticker: CF
Sector: Materials
ROIC: 45%
ROA: 20%
ROE: 93%
Source: Goldman Sachs
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23. Moderna
Ticker: MRNA
Sector: Healthcare
ROIC: 75%
ROA: 57%
ROE: 95%
Source: Goldman Sachs
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24. IDEXX Laboratories
Ticker: IDXX
Sector: Healthcare
ROIC: 50%
ROA: 26%
ROE: NM
Source: Goldman Sachs
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25. Mettler-Toledo Intl.
Ticker: MTD
Sector: Healthcare
ROIC: 46%
ROA: 25%
ROE: NM
Source: Goldman Sachs
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26. Waters Corp.
Ticker: WAT
Sector: Healthcare
ROIC: 39%
ROA: 23%
ROE: NM
Source: Goldman Sachs
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27. Regeneron Pharmaceuticals
Ticker: REGN
Sector: Healthcare
ROIC: 26%
ROA: 22%
ROE: 31%
Source: Goldman Sachs
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28. Eli Lilly & Co.
Ticker: LLY
Sector: Healthcare
ROIC: 31%
ROA: 12%
ROE: 83%
Source: Goldman Sachs
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29. Vertex Pharmaceuticals
Ticker: VRTX
Sector: Healthcare
ROIC: 25%
ROA: 23%
ROE: 30%
Source: Goldman Sachs
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30. Robert Half Intl.
Ticker: RHI
Sector: Industrials
ROIC: 42%
ROA: 23%
ROE: 49%
Source: Goldman Sachs
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31. Expeditors Intl.
Ticker: EXPD
Sector: Industrials
ROIC: 41%
ROA: 20%
ROE: 45%
Source: Goldman Sachs
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32. United Parcel Service
Ticker: UPS
Sector: Industrials
ROIC: 30%
ROA: 16%
ROE: 77%
Source: Goldman Sachs
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33. Illinois Tool Works
Ticker: ITW
Sector: Industrials
ROIC: 28%
ROA: 17%
ROE: 75%
Source: Goldman Sachs
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34. VeriSign
Ticker: VRSN
Sector: Information Technology
ROIC: NM
ROA: 43%
ROE: NM
Source: Goldman Sachs
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35. Apple
Ticker: AAPL
Sector: Information Technology
ROIC: 65%
ROA: 28%
ROE: NM
Source: Goldman Sachs
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36. KLA Corp.
Ticker: KLAC
Sector: Information Technology
ROIC: 41%
ROA: 28%
ROE: 99%
Source: Goldman Sachs
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37. Qualcomm
Ticker: QCOM
Sector: Information Technology
ROIC: 40%
ROA: 29%
ROE: 93%
Source: Goldman Sachs
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38. Texas Instruments
Ticker: TXN
Sector: Information Technology
ROIC: 42%
ROA: 35%
ROE: 66%
Source: Goldman Sachs
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39. Mastercard
Ticker: MA
Sector: Information Technology
ROIC: 50%
ROA: 26%
ROE: NM
Source: Goldman Sachs
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40. Lam Research Corp.
Ticker: LRCX
Sector: Information Technology
ROIC: 40%
ROA: 28%
ROE: 75%
Source: Goldman Sachs
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41. Applied Materials
Ticker: AMAT
Sector: Information Technology
ROIC: 37%
ROA: 26%
ROE: 56%
Source: Goldman Sachs
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42. HP Inc.
Ticker: HPQ
Sector: Information Technology
ROIC: 49%
ROA: 16%
ROE: NM
Source: Goldman Sachs
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43. Microsoft
Ticker: MSFT
Sector: Information Technology
ROIC: 30%
ROA: 21%
ROE: 45%
Source: Goldman Sachs
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44. Teradyne
Ticker: TER
Sector: Information Technology
ROIC: 37%
ROA: 23%
ROE: 36%
Source: Goldman Sachs
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45. Seagate Tech Holdings
Ticker: STX
Sector: Information Technology
ROIC: 32%
ROA: 18%
ROE: NM
Source: Goldman Sachs
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46. Visa
Ticker: V
Sector: Information Technology
ROIC: 28%
ROA: 18%
ROE: 47%
Source: Goldman Sachs
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47. Weyerhaeuser
Ticker: WY
Sector: Real Estate
ROIC: 17%
ROA: 14%
ROE: 25%
Source: Goldman Sachs
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48. Public Storage
Ticker: PSA
Sector: Real Estate
ROIC: 13%
ROA: 12%
ROE: 43%
Source: Goldman Sachs
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49. NRG Energy Inc.
Ticker: NRG
Sector: Utilities
ROIC: 21%
ROA: 12%
ROE: 64%
Source: Goldman Sachs
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50. WEC Energy Group
Ticker: WEC
Sector: Utilities
ROIC: 6%
ROA: 4%
ROE: 13%
Source: Goldman Sachs
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