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Can a monopoly be good for investors? Assuming the monopoly isn’t exploitative, companies with a commanding position in their respective industries that are not trading at too high a premium to the market are the ones to hold for the long-term, according to the author of the recent Wall Street Journal article, Playing Monopoly Pays Off for Investors.
Monopoly or not, the idea of investing in companies with defensible businesses or “moats” that protect them and investing in these companies at the right price is not a new concept. Long a basic tenet of successful investors like Warren Buffett, moat investing provides a simple guideline for how investors should approach their portfolios.
Easier Said Than Done
The difficulty of abiding by this maxim, especially if you aren’t a securities analyst, is first identifying the moat stocks worthwhile of including in your portfolio, and secondly, regularly reevaluating whether those companies remain worthy of inclusion.
Successful companies earning excess profits are competitive targets for rivals, and technological innovation has the potential to disrupt the norms in any industry. More important, however, than a company’s competitive position is its valuation. As the author asserts, “overpaying for a stock is an even bigger threat to future returns than competition.” Do you have a process for assessing the proper valuation of a company in the context of its future prospects? Things change, and reassessments and reallocations may be necessary to keep a portfolio relevant.
Moat Stocks: Process Is a Success Factor
At VanEck we are big fans of Morningstar’s Equity Research—not only because their analysis informs moat-oriented indices that underlie the moat mutual fund and ETFs that we offer globally. Morningstar’s moat-oriented index methodologies apply a consistent process to identifying companies with durable competitive advantages and assessing their value.
With over 100 analysts globally helping to identify dominant players in different industries, perhaps the most powerful attribute of Morningstar’s process is the price-to-fair value metric. This forward-looking assessment provides a view of the current valuation of a company in the context of its future prospects and helps increase the probability of finding mispriced stocks.
As an example of how this process can play out, consider Campbell Soup, General Mills, and Kraft Heinz, several of the companies mentioned in the article. These are food and drink companies that have had to fend off assaults on their moats by technological disruption in distribution and brand-building. Campbell Soup and General Mills are currently “wide moat” companies, according to Morningstar, meaning they expect the firms’ returns on invested capital to remain above its cost of capital over the next 20 years. However, according to Morningstar’s price-to-fair value metric, their stock prices had been overvalued since early 2016. Not until their price fell below fair value earlier this year did Morningstar select the stocks for inclusion in the Morningstar Wide Moat Focus IndexSM.
Companies may also have “narrow moats” meaning their competitive advantages could reasonably be expected to defend them for at least 10 years. Kraft Heinz sported a narrow moat until August 2018, and would not have been in the Wide Moat Focus Index to begin with. Now, lacking a meaningful edge from scale and no significant pricing power, it no longer has a moat. Things change.
Overall, the Morningstar process has historically demonstrated the ability to provide long-term excess returns. The Morningstar Wide Moat Focus Index, for instance, has outperformed the broad market by 3.65% annually through July 2018 since its inception in February 14, 2007. Over that time period, it has also outperformed the broad market 81% of the time over 3-year rolling periods and 94% of the time over 5-year rolling periods.1
A Moat for Your Castle
Today, there’s no shortage of strategies for equity investing to confuse even seasoned financial professionals, be they factors that distill stock selections into various definitions of quality, momentum, volatility, etc., or some gimmicky weighting scheme that rearranges exposures and potential returns. The idea of “buying good companies at a good price” is easy to understand in concept, and with funds following Morningstar’s moat index methodology, putting it into practice can be easier than managing it yourself.
VanEck offers two ETFs and one mutual fund based on the moat philosophy. VanEck Vectors Morningstar Wide Moat ETF (NYSE Arca: MOAT), VanEck Vectors Morningstar International Moat ETF (NYSE Arca: MOTI), and VanEck Morningstar Wide Moat Fund (MWMIX, MWMZX).
1Source: Morningstar. Broad market represented by S&P 500 Index.
This commentary is not intended as a recommendation to buy or to sell any of the named securities. Holdings will vary for the MOAT and MOTI ETFs and their corresponding Indices.
An investor cannot invest directly in an index. Returns reflect past performance and do not guarantee future results. Results reflect the reinvestment of dividends and capital gains, if any. Index returns do not represent Fund returns. The Index does not charge management fees or brokerage expenses, nor does the Index lend securities, and no revenues from securities lending were added to the performance shown.
Fair value estimate: the Morningstar analyst's estimate of what a stock is worth.
Price/Fair Value: ratio of a stock's trading price to its fair value estimate.
The Morningstar® Wide Moat Focus IndexSM was created and are maintained by Morningstar, Inc. Morningstar, Inc. does not sponsor, endorse, issue, sell, or promote the VanEck Vectors Morningstar Wide Moat ETF or VanEck Vectors Morningstar International Moat ETF and bears no liability with respect to the ETFs or any security. Morningstar® is a registered trademark of Morningstar, Inc. Morningstar Wide Moat Focus Index and Morningstar Global ex-US Moat Focus Index are service marks of Morningstar, Inc.
The Morningstar® Wide Moat Focus IndexSM consists of U.S. companies identified as having sustainable, competitive advantages and whose stocks are attractively priced, according to Morningstar.
The Morningstar® Global ex-US Moat Focus IndexSM consists of companies outside of the U.S. identified as having sustainable, competitive advantages and whose stocks are attractively priced, according to Morningstar.
The S&P 500® Index consists of 500 widely held common stocks covering industrial, utility, financial and transportation sector; as an Index, it is unmanaged and is not a security in which investments can be made.
The S&P 500® Index is a product of S&P Dow Jones Indices LLC and/or its affiliates and has been licensed for use by Van Eck Associates Corporation. Copyright © 2018 S&P Dow Jones Indices LLC, a division of S&P Global, Inc., and/or its affiliates. All rights reserved. Redistribution or reproduction in whole or in part are prohibited without written permission of S&P Dow Jones Indices LLC. For more information on any of S&P Dow Jones Indices LLC's indices please visit www.spdji.com. S&P is a registered trademark of S&P Global and Dow Jones® is a registered trademark of Dow Jones Trademark Holdings LLC. Neither S&P Dow Jones Indices LLC, Dow Jones Trademark Holdings LLC, their affiliates nor their third-party licensors make any representation or warranty, express or implied, as to the ability of any index to accurately represent the asset class or market sector that it purports to represent and neither S&P Dow Jones Indices LLC, Dow Jones Trademark Holdings LLC, their affiliates nor their third-party licensors shall have any liability for any errors, omissions, or interruptions of any index or the data included therein.
The MSCI All Country World Index ex USA Index captures large and mid-cap representation across 22 of 23 developed markets countries (excluding the U.S.) and 24 emerging markets countries.
Effective June 20, 2016, Morningstar implemented several changes to the Morningstar® Wide Moat Focus IndexSM construction rules. Among other changes, the index increased its constituent count from 20 stocks to at least 40 stocks and modified its rebalance and reconstitution methodology. These changes may result in more diversified exposure, lower turnover, and longer holding periods for index constituents than under the rules in effect prior to this date.
Effective June 20, 2016, Morningstar implemented several changes to the Morningstar® Global ex-US Moat Focus IndexSM construction rules. Among other changes, the index increased its constituent count from 50 stocks to at least 50 stocks and modified its rebalance and reconstitution methodology. These changes may result in more diversified exposure, lower turnover, and longer holding periods for index constituents than under the rules in effect prior to this date.
An investment in VanEck Vectors Morningstar Wide Moat ETF (MOAT®) may be subject to risks which include, among others, investing in the health care, consumer discretionary, industrials, financial services sectors, medium-capitalization companies, equity securities, market, operational, index tracking, authorized participant concentration, no guarantee of active trading market, trading issues, passive management, fund shares trading, premium/discount risk and liquidity of fund shares, non-diversified, and concentration risks, which may make these investments volatile in price or difficult to trade. Medium-capitalization companies may be subject to elevated risks. The Fund's assets may be concentrated in a particular sector and may be subject to more risk than investments in a diverse group of sectors.
An investment in VanEck Vectors Morningstar International Moat ETF (MOTI®) may be subject to risks which include, among others, equity securities, investing in the financial services, health care, industrials and telecommunication sectors, medium-capitalization companies, foreign securities, foreign currency, emerging market issuers, special risk considerations of investing in Asian and European issuers, depositary receipts, cash transactions, market, operational, high portfolio turnover, index tracking, authorized participant concentration, no guarantee of active trading market, trading issues, passive management, fund shares trading, premium/discount risk and liquidity of fund shares, non-diversified, and concentration risks, which may make these investments volatile in price or difficult to trade. Foreign investments are subject to risks, which include changes in economic and political conditions, foreign currency fluctuations, changes in foreign regulations, and changes in currency exchange rates which may negatively impact the Fund's returns. Medium-capitalization companies may be subject to elevated risks. The Fund's assets may be concentrated in a particular sector and may be subject to more risk than investments in a diverse group of sectors.
You can lose money by investing in the VanEck Morningstar Wide Moat Fund (the “Fund”). Any investment in the Fund should be part of an overall investment program rather than a complete program. An investment in the Fund may be subject to risks which include, among others, investing in concentration, equity securities, index tracking and data, consumer discretionary, financial services, the health care, industrials, information technology, underlying fund, market, medium-capitalization companies, new fund, non-diversification, operational, portfolio turnover and replication management risks, which may make these investments volatile in price or difficult to trade. Medium-capitalization companies may be subject to elevated risks. The Fund's assets may be concentrated in a particular sector and may be subject to more risk than investments in a diverse group of sectors.
ETF shares are not individually redeemable and will be issued and redeemed at their Net Asset Value (NAV) only through certain authorized broker-dealers in large, specified blocks of shares called "creation units" and otherwise can be bought and sold only through exchange trading. Shares may trade at a premium or discount to their NAV in the secondary market. You will incur brokerage expenses when trading ETF shares in the secondary market. Past performance is no guarantee of future results.
Investing involves substantial risk and high volatility, including possible loss of principal. An investor should consider a Fund's investment objective, risks, charges and expenses carefully before investing. To obtain a prospectus and summary prospectus for VanEck Funds and VanEck Vectors ETFs, which contain this and other information, call 800.826.2333 or visit vaneck.com. Please read the prospectus and summary prospectus for VanEck Funds and VanEck Vectors ETFs carefully before investing.