The outlook for the global economy in 2017 is highly uncertain. This means that stocks with wide margins of safety and significant economic moats could prove to be sound buys. In fact, those two aspects of a company are central to the investment philosophy followed by Warren Buffett.
He’s been successful in focusing on those two areas as part of his take on value investing. With that in mind, here are two stocks that have both of those characteristics and could therefore rise in value in the coming months.
The two companies in question both enjoy those wide economic moats because of their brand loyalty, diversity and defensive characteristics. The first stock, Unilever (LSE: ULVR), operates in a wide range of markets and this could provide it with more stable earnings than its peers. Furthermore, it has a number of different brands in multiple niches within its product stable, which means that slow growth in one area could be offset by better performance elsewhere.
Similarly the second stock, Diageo (LSE: DGE), also has a diverse range of brands and operates in a number of different regions. Its business is highly defensive, as demand for alcoholic beverages is unlikely to come under pressure during the year due to them being viewed as staples rather than discretionary items by many consumers. This means that Diageo could be considered a quasi-utility, such is its resilience to a slowing global economy.
With Brexit negotiations set to commence and Donald Trump now in office as the US president, uncertainty could rise in February and through the rest of 2017. The two companies could therefore offer relatively resilient performance at a time when investors are becoming increasingly nervous about the future prospects for the global economy.
Margin of safety
The second area in which Diageo and Unilever may follow Buffett’s ideology is with regard to their margins of safety. This could prove crucial at a time when asset prices may be hurt by geopolitical uncertainty in the US and Europe. Therefore, it would be unsurprising for the valuations of the two companies to improve relative to the wider index.
For example, Diageo is expected to record a rise in its bottom line of 17% in the current financial year. This puts it on a price-to-earnings growth (PEG) ratio of 1.3, which indicates that it offers excellent value for money. Similarly, Unilever is expected to grow its bottom line by 10% this year and by a further 9% next year. Trading on a price-to-earnings (P/E) ratio of 19.2, it seems to be fairly priced by historical standards and could therefore post a sustained rise during the course of 2017.
Since both companies offer wide margins of safety, their risk/reward ratios appear to be favourable. While this is no guarantee of success for their investors, Warren Buffett’s focus on this method has aided his performance over a sustained period. With uncertainty high due to Brexit and the new US leadership, both Diageo and Unilever’s valuations could rise as the stocks become more popular during the course of 2017.
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Peter Stephens owns shares of Unilever. The Motley Fool UK owns shares of and has recommended Unilever. The Motley Fool UK has recommended Diageo. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.