Morningstar Magazine - August/September 2017 - 57

how that's become part of the discussion we have
with managers. I talk with a lot of managers,
and oftentimes they use the wide/narrow moat
terminology. Some of that, of course, is
Warren Buffett's influence, but I also think it's
coming from the work that Morningstar's equity
analysts are doing.

Using Moats as an Investor
Collins: I want to zero in on some details of the moat
methodology and how it relates to investing. Do
you use moats as a screening tool only? When does
valuation come into play?

Lane: The moat ratings that we assign are not
necessarily indicative of the attractiveness
of an investment opportunity. Instead, we contend
that analyzing long-term, forward-looking
competitive dynamics helps us more accurately
forecast cash flows at the company level.
So, it's not enough to say that all wide-moat stocks
should outperform over time or that all nomoat stocks should underperform over time.
It's the valuation overlay and the insight we glean
from applying our moat methodology that
helps us home in on attractive investment
opportunities, This is reflected in the Morningstar
Wide Moat Focus Index. (See "Moats Stake
Their Claim" on Page 27.) The index uses inputs
from the equity research team such as moat
ratings and price/fair value estimates. The
strategy aims to highlight moat-rated stocks that
are trading at a discount to intrinsic value.
Hodel: In Morningstar Investment Management,
it's similar. We use moat rating as a first
screen to identify companies that are wellpositioned competitively. Valuation is an extremely
important next step in the investment
process, as we view stocks and companies
differently. Sometimes a great company can
be a bad stock, and vice versa.
Collins: What do you all think is the most commonly

It's not enough to say that all widemoat stocks should outperform....
It's the valuation overlay and the insight
we glean from applying our moat methodology
that helps us home in on attractive
investment opportunities.
Andrew Lane

grasp at straws. The phrase competitive advantage
is thrown around a lot, but our methodology
helps investors cut through the noise and separate
companies that enjoy durable competitive
advantage from those that don't.

misunderstood aspect of economic moats?

Lane: Something that is often misunderstood
is just how rare wide moats are, based on
our definition of them. It seems as though just
about every publicly traded company argues
that it enjoys a competitive advantage. Often, they

Hodel: One of the most commonly misunderstood
things about the moat methodology is the
belief that a moat rating is infallible and static,
both of which are not true. There's not
always going to be consensus and agreement

among analysts and portfolio managers.
Sometimes, the best investment opportunities
are in those fields where there's no consensus, where some folks believe a company's
competitive advantage is waning rapidly
and others believe the opposite. Again, this
idea that a moat is a static data point is
just not the case. These are fluid, debatable
things that make markets at the end
of the day. There's room for disagreement
and debate.

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Table of Contents for the Digital Edition of Morningstar Magazine - August/September 2017