Morningstar - Q1 2023 - 6

Dispatches
Timeless Lessons
Wisdom from two of
the world's most
successful investors.
Phillips Curve
8 Variations on a Theme
Ivory Towers
10 When Inflation Surfaced, TIPS Flopped
Policy
13
Global Approaches to Retirement Savings
Sustainability Matters
14 New ESG Rule for Retirement Plans
Global Briefs
16
17
21
Global
Americas
Greater Europe
24 Australia & New Zealand
LETTER FROM THE BOARD
Haywood Kelly
After a 30-year career at Morningstar, research
leader Haywood Kelly retired at the end of 2022.
Before his departure, he wrote about the
influence of Warren Buffett and Charlie Munger.
There's no better introduction to investing and
business analysis than the wisdom of Warren
Buffett and his partner Charlie Munger.
When a group of young equity analysts (myself
included) joined Morningstar in 1991, the
company's founder and then-CEO Joe Mansueto
gave us two reading recommendations.
First was The Money Masters by John Train,
a book that profiled such investors as
Benjamin Graham, Philip Fisher, and Buffett. The
other was the annual shareholder letters of
Buffett's company, Berkshire Hathaway BRK.A
BRK.B. In those days before the internet,
if we wanted our own copies, we had to write
to Berkshire to request them.
Over time, Buffett's thinking became embedded
in the way Morningstar analyzes stocks.
More than 20 years ago, we borrowed the term
moat from Buffett to refer to the competitive
advantages a firm might have. To rate stocks, we
forecast the free cash flows of a company
and discount them back to the present to estimate
the intrinsic value.
On a personal level, it's easy for me to make a list
of ideas from Buffett and Munger that have
influenced my own thinking and that of my fellow
Buffett-heads here at Morningstar. The hard
thing is confining the list to only 12. But here goes.
6
Morningstar Q1 2023
1 Be Skeptical of Exotic Financial Instruments
Buffett and Munger have been consistent
critics of derivatives, catastrophe bonds, crypto,
and other types of financial " innovation. "
The skepticism of Wall Street's creativity in
new-product development has influenced our
analysts over the years when faced with
the latest and greatest product offering from asset
managers or investment banks. To this day, I'll
admit I've never bought or sold an option,
shorted a stock, bought a triple-inverse-short ETF
or 130/30 fund, dabbled in structured notes,
or invested in a variable annuity. Simplicity is good.
It certainly lowers costs.
2 Inflation Is Another Reason to Favor Moats
Until 2022, it had been easy to ignore inflation for
about 40 years. But any student of Buffett's
writings knows that inflation was a regular topic
of his in the 1970s and early 1980s. What he
emphasized then was the difficulty for companies,
especially those most exposed to inflationary
cost pressures, to earn decent returns for
shareholders during periods of high inflation. Very
few companies-only those with strong economic
moats-can raise prices to offset the erosion
of purchasing power. This underlying pricing
power is one reason we like wide-moat companies
so much. They're better able to withstand
what the macro environment throws their way.
3 Volatility Is Not Risk
My longtime boss at Morningstar was a Buffett
and Munger fan, and the first words I ever
heard out of her mouth were: " Beta is bullshit. "
(I knew then that Morningstar would be an
interesting place to work.) Given that writing
massive insurance policies is a significant part of
Berkshire Hathaway's business, it's no surprise
that risk has consumed a large part of Buffett's
and Munger's attention. They have a very
different conception of risk than academic finance
and its emphasis on metrics like beta or standard
deviation. Financial academics like using
volatility as a proxy for risk (largely because it's so
easy to measure), but that has the perverse
effect of implying that an asset becomes riskier
when it drops in price-the exact opposite
of how a rational buyer thinks about a lower price.
Risk, says Buffett, is the chance you suffer a
permanent loss of capital.
https://www.morningstar.com/authors/36/haywood-kelly-cfa https://www.morningstar.com/stocks/xnys/brk.a/quote https://www.morningstar.com/stocks/xnys/brk.b/quote https://www.morningstar.com/articles/735365/the-morningstar-economic-moat-rating
Morningstar - Q1 2023

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