Build a Moat in Your Portfolio ×
Matthew Coffina, CFA Editor, Morningstar StockInvestor
Disclosure × I own
many of the stocks that will be discussed today, both personally and in StockInvestor’s Tortoise and Hare portfolios. × None of this presentation is intended as investment advice. × Please consult a financial advisor for questions about the suitability of any investment strategy or product for your particular circumstances.
Invest in companies with strong and growing competitive advantages, trading at reasonable prices.
Five Morningstar Ratings Drive Stock Selection × Economic
Moats × Moat Trends × Stewardship × Price/Fair Value Ratios × Uncertainty/Star Ratings
Why Moats Matter × Wide-moat
firms’ ability to invest incremental capital at high rates of return = faster earnings growth and/or higher free cash flow. × Wide-moat firms are able to sustain excess returns longer than firms without moats. × Morningstar’s fair value estimates are more accurate for wide-moat firms because future cash flows are more predictable.
Star Ratings Performance* Wide Moat
15.3% *Annualized Returns, 6/26/2002-2/28/2014
The Tortoise and Hare Strategy × Real-money
portfolios focused on buying wide- and expanding-moat stocks at discounts to Morningstar’s fair value estimates. × Tortoise Portfolio invests in more conservative stocks. × Hare Portfolio takes on greater risk for higher total-return potential. × About 20 stocks in each portfolio. × Inception date of June 18, 2001.
Tortoise and Hare Performance Annualized Total Returns as of 2/28/14 Combined Tortoise & Hare
Other Benefits to a Wide-Moat Approach* × The
Tortoise and Hare have experienced low turnover (18% per year versus 89% for the average equity mutual fund). × Standard deviation of returns (14.1%) below the S&P 500 (15.2%). × Beta below one (0.87). × Greatest outperformance realized during down markets. *All figures represent averages since inception for the combined Tortoise and Hare.
Definition of a Moat × Sustainable
competitive advantage(s). × Enables a company to earn positive economic profits (ROIC>WACC). × At least one identifiable moat source.
Moat Ratings: Wide/Narrow/None × Width
of moat determined by duration of competitive advantage. × Narrow moats: Excess returns more likely than not in 10 years. × Wide moats: Excess returns nearly certain in 10 years, more likely than not in 20 years.
Wide Moats Are Rare × We
assign a wide moat rating to 14% of our global coverage universe. × However, we intentionally try to cover high-quality companies. × The share of wide moats in the overall economy/market would be much lower.
Prevalence of Moats by Sector
The Five Sources of a Moat × Network
Effect × Intangible Assets × Cost Advantage × Switching Costs × Efficient Scale
The Network Effect × The
value of a company’s service increases as more people use it.
Intangible Assets × Patents,
brands, or regulatory licenses that protect excess returns.
Cost Advantage × Economies
of scale, access to a unique asset, etc.
Switching Costs × It