Time is ripe for a comeback of quality stocks

While the broader market is flourishing, many traditional quality stocks are in the doldrums. Many analysts believe that the low valuation of quality companies presents buying opportunities. History also shows that quality prevails in the long run.

The stock market indices have had an excellent year. But not all stocks had a grand cru year in 2025. Many companies that we usually define as top quality lagged behind. In Europe, the index of quality stocks compiled by index calculator MSCI yielded 8.6 percent. Not bad, but the broad MSCI Europe Index did more than twice as well. The global MSCI Quality Index, comprising 300 stocks, gained 16.5 percent last year, which is less than the 21.1 percent gained by the broad MSCI World Index.

On Wall Street, the return on quality companies was only one-seventh that of loss-making tech companies. In emerging markets, quality stocks lagged behind the indices by 17 percentage points, the worst performance ever.

"The market environment has been unfavorable for quality companies over the past two years," explains Tilo Wannow, portfolio manager at Oddo BHF Asset Management. "Investors ignored robust companies with stable business models, high returns on invested capital, and reliable cash flows. The boom was mainly driven by a handful of very large companies in AI infrastructure such as semiconductors, data centers, and cloud computing."

In addition, value stocks from banks, utilities, some highly cyclical companies, and defense performed exceptionally well. Traditional quality sectors, such as healthcare, consumer goods, and software, experienced a period of weakness, despite often posting respectable results.

In Europe, names such as consumer giant Unilever, tire manufacturer Michelin, stock exchange operator Deutsche Börse, engineering firm Arcadis, IT group Capgemini, and information specialist Wolters Kluwer underperformed. On Wall Street, 38 percent of S&P 500 members ended the year in the red. Among others, pharmaceutical giants such as Pfizer, consumer giants such as Procter & Gamble, food companies such as Campbell's and Mondelez, and rock-solid companies such as the consulting firm Accenture lost significant ground.

"Quality stocks performed poorly relative to the stock market indices, particularly in the second half of 2025," says Pieter Slegers, founder of the popular newsletter Compounding Quality, about long-term investing in quality companies. "Since 1999, they have never performed so poorly compared to the broader market. As a result, the valuation of what we call quality stocks has fallen by 20 percent compared to the stock market average. Investors opted for a more sentiment-driven strategy, preferring risky stocks, which consequently performed well."

In the long term, quality stocks outperform the broader market.

But over the past two years, they have lagged far behind.

European quality stocks in particular are lagging behind

Small shares

"The underperformance of quality is even more evident in small-cap stocks," says Jon Eggins, chief strategist at Russell Investments. "Since Liberation Day (April 2, the day Donald Trump announced high import tariffs, ed.), small, profitable companies on Wall Street have performed about one-fifth worse than their loss-making peers in the Russell 2000 Index of small caps. This is mainly due to sentiment among retail investors. They are looking for a short-term boom. For them, responding to a trend has become more important than fundamental criteria for selecting stocks. We call this the quality paradox. They ignore strong fundamentals in their rush to take as much risk as possible, hoping for substantial short-term gains."

"That's nothing new," Eggins continues. "It's rooted in the way markets pursue cyclical movements. In 'risk-on' periods (when investors take more risks, ed.), investors often overestimate short-term earnings growth and underestimate the power of stable profitability. Passive money flows via trackers and overcrowding in some sectors with many investors taking the same positions have magnified the rotation towards speculative growth stocks.’

The result is that professional fund managers, who pay more attention to fundamentals, underperform the market. "Since April, 85 to 90 percent of active fund managers in small caps have been unable to beat the market," Eggins emphasizes. "Not only in the US, but also in Europe and in the growth markets."

Part of the weaker performance of quality stocks is due to the economic environment, explains Slegers. "The broader US economy is weaker than many investors think. Growth is mainly driven by big tech and the AI boom. But many ordinary Americans are struggling. In such a climate, traditional goods producers and service providers perform less well."

Specifically for Europe, many high-quality European companies have become more dependent on the US, suggests Thorsten Winkelmann, chief strategist at Alliance Bernstein. "In Europe, many high-quality companies have looked outside the old continent in recent years to stimulate growth. US import tariffs and the decline of the dollar have driven many investors away from those companies in 2025."

What is quality?

What exactly is a quality stock? According to the index calculator MSCI's manual, these are companies with a sustainable business model and lasting competitive advantages. Specifically, MSCI looks at three financial indicators when deciding whether to include a company in one of its 'Quality' indices: a high return on equity (RoE), stable profit growth that is not overly sensitive to economic cycles, and a low debt ratio. For RoE and debt ratio, MSCI only takes the most recent year into account, while for profitability it considers the most recent five years.

MSCI then assigns quality scores to the stocks. There are no fixed thresholds, as these fluctuate over time and between sectors. If all companies are performing well, the high-quality companies must score slightly higher to be eligible for an index seat. By using a relative score, MSCI filters out the highest-ranked companies in the market. In general, a return on equity of 15 to 20 percent is very good, while above 20 percent is exceptional. Ideally, the debt ratio (a company's debt expressed as a percentage of its equity) should remain below twice the gross operating profit (EBITDA) or half the assets, although this depends heavily on the sector.

"Quality companies demonstrate high and consistent profitability, have strong balance sheets, and experienced, disciplined management," emphasizes Winkelmann. "Like Ryanair. The Irish budget airline is gaining market share through a proven business model, enjoys much lower costs than its competitors, and has a net cash position. What's more, Ryanair owns all its aircraft. Its financial strength allows it to invest against the cycle. For example, during the coronavirus pandemic, Ryanair purchased 300 new aircraft at a huge discount. More recently, the company invested in its own engine maintenance centers."

The quality stocks also include many growth companies, but only those that are profitable and do not have excessive debt. In the MSCI World Quality Index, the IT sector is the most important, with a weighting of 29 percent, followed by the healthcare sector (17%), communications (13%) and industry (13%). Five of the Magnificent Seven (the seven star stocks of big tech) are included in the index, with the exception of car manufacturer Tesla and e-commerce giant Amazon. Wall Street accounts for 76 percent of the index. It is followed by Switzerland (6%), the United Kingdom (4%) and Japan (4%).

The headwinds have led to quality companies trading at low prices. "The S&P 500 index is expensive. As a result, the expected return is barely 0 to 2 percent," explains Slegers. "In contrast, many quality companies are trading at their lowest level in ten years. This was also the case in 1999. We all know what happened next (the bursting of the dot-com bubble, ed.). For the quality companies in my portfolio, I expect annual growth in intrinsic value of almost 14 percent over the next three years. In the long term, the share price will follow the intrinsic value. I'm not worried about that."

Slegers cites the Danish pharmaceutical group Novo Nordisk, the Canadian holding company Constellation Software, the credit card issuer Visa, and the insurer Brown & Brown as examples of high-quality companies. "They have all had a difficult time on the stock market, but they are rock-solid companies that haven't been this cheap in ten years."

Moat

Slegers emphasizes that the "moat," the defensive barrier that gives the company its competitive advantages, must remain intact. 'For the quality investor, that question is of vital importance. The world is constantly changing. You have to ask yourself whether companies can remain as strong in that new world. For example, there is a lot of concern about whether the business models of information specialists such as Wolters Kluwer and Relx, or software companies such as Adobe, will remain viable in the AI world. To be honest, it is still too early to say. But the market has already punished such stocks heavily, even though their results remain strong for the time being."

In the past, similar neglect of quality stocks usually presented a buying opportunity. "When markets chase excitement, they undervalue staying power. Quality stocks have proven to deliver the best performance throughout the cycles," explains Eggins. "They perform best when investors pay the least attention to them. Once the candy has been sorted, we expect investors to rediscover the value of what they already know: quality quietly accumulates, and then suddenly everyone wants it. The current gap between price and fundamentals is an opportunity to bet even more strongly on it."

A study by Charlotte Ryland, Joseph Hawkes, and Frank Mampaey, researchers at the CFA Institute in London, proves that quality always prevails in the long run. They examined the performance of various stock categories since 1998. The longer you wait, the more the MSCI Quality Index has outperformed the global index in recent decades. Since 1998, the MSCI World Quality Index has yielded 769 percent, compared to 501 percent for the MSCI World. Over a ten-year horizon, quality stocks have outperformed in 85 percent of the periods.

Their conclusion? "Some star investors claim they can time the market. But evidence shows that trying to time the market usually ends in poor returns. If you look at the long-term data, quality stocks have outperformed any other type of stock."

High-quality companies also offer greater protection during crises. Their share prices fall less sharply and recover more quickly afterwards. During the financial crisis in 2008, their share prices fell by 30 percent and took three years to recover. Growth stocks plummeted by more than 40 percent and took five years to recover.

"Over the past three decades, there have been only three occasions when quality stocks have underperformed the market average as badly as they did in 2025," says Nicolas Deblauwe, head of Benelux at JPMorgan Asset Management. "This makes large dividend payers, among others, particularly attractive. In terms of price-earnings ratio, dividend stocks are almost a quarter cheaper than the broader market."

"We see many similarities with 2022," says Mark Denham, head of equity strategy at French asset manager Carmignac. "Back then, many top-quality companies were also 'oversold' and the market ignored qualitative earnings growth. Afterwards, there was a rapid shift towards quality, especially from value stocks. That is why we have bought additional shares in companies such as industrial suppliers Kion and Spie, chemical distributor IMCD, and building materials manufacturer Kingspan. They are trading at very attractive valuations and combine this with strong growth prospects. In the healthcare sector, we have strengthened our positions in names such as Beiersdorf and Sartorius."

Brussels Stock Exchange

On the Brussels stock exchange, we also attempted to select a number of high-quality stocks. Only a handful meet all of MSCI's strict criteria, such as the pharmaceutical group UCB, the biscuit manufacturer Lotus, the insurer Ageas, the construction company Moury Construct, and the washing system manufacturer Jensen. We therefore occasionally made exceptions to expand the list to 20 names (see table).

Some companies have too much debt to make it into the top list, such as brewer AB InBev and utility company Elia. The latter scores highly on all other criteria. Moreover, its high debt ratio of seven times EBITDA (gross operating profit) is not a problem, because Elia, as a monopoly, is assured of its cash flows. Nevertheless, the ratio is too high to place the share in the top 20. In real estate, too, companies were excluded due to their relatively high debt ratio, even though they are performing well operationally, such as the student accommodation provider Xior or the retail property landlord Ascencio.

At other companies, debt is not a problem and profits are growing strongly, but the return on capital employed is too weak to be included in the top selection. This is the case, for example, with the plantation group Sipef.

The most important finding is that quality stocks in Brussels did not underperform the broader market. The average price increase of our twenty stocks was 19 percent in 2025, which was the same as the gain for the Bel20. It is therefore difficult to speak of a lagging sector in Brussels. The only notable laggards are Lotus and D'Ieteren, although both have been working on a strong comeback since New Year's Day. The recovery of quality seems to have already begun on the Brussels stock exchange.

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References

• Source: The Time
• Link: https://www.tijd.be/markten-live/analyse/tijd-is-rijp-voor-comeback-kwaliteitsaandelen/10643885.html
• Authors: Serge Mampaey, Thomas Roelens
• Photo: Filip Ysenbaert. Historically speaking, quality stocks are catching up after a prolonged period of relatively poor performance compared to the indices.
• Date: January 16, 2026