By Brandon Rakszawski, Senior ETF Product Manager, VanEck Global
Morningstar strategist Andrew Lane recently published a research paper examining the performance of the Morningstar® Wide Moat Focus IndexSM in periods following market drawdowns. I’ve often written of the long-term nature of Morningstar’s moat investing philosophy, and this piece hammers home the potential benefits of the strategy’s systematic focus on valuations. The strategy’s March 2020 index review coincided with one such period, and we’re tracking the dynamics of many of the companies selected for inclusion at that time, including Boeing (BA), Bank of America (BAC) and Constellation Brands Inc (CTZ).
Focus on Valuations Has Driven Outperformance versus Broad Market
Investing in companies with sustainable competitive advantages, or wide economic moats, is a popular investing strategy. So popular, particularly in times of uncertainty, that demand for these companies can drive share prices higher relative to those companies that lack a discernible economic moat. That is what makes valuation research so important. Identifying when these well-positioned companies’ share prices are trading below fair value and then allocating at attractive entry points can make the difference between outperformance and underperformance.
Investing in wide moat companies alone hasn’t always generated excess returns relative to the broad market as measured by the Morningstar US Market Index and has even underperformed the market in some instances. This is where valuations may make a difference. As evidenced by the paper, Wide Moat Focus Index: Strong Performance After Market Declines, Morningstar’s regular assessment of valuation dislocations has contributed to the Morningstar Wide Moat Focus Index’s impressive average excess returns relative to the broad market in periods following a month of any market return profile. Even more impressive is that average excess returns relative to the broad market in periods following months in which the market is down more than 5% were even more pronounced. While not every period in the study features outperformance, on average the index has a track record of success.
Sizeable Market Declines Have, on Average, Preceded Excess Returns
2/28/2007 – 3/31/2020
|Number of Occurrences|
|1 Year Periods||15||11||21||51||30||17|
|3 Year Periods||13||9||21||37||26||15|
Source: Morningstar. Data as of 3/31/2020. Morningstar Wide Moat Focus Index vs. Morningstar US Market Index. Performance data quoted represents past performance. Past performance is not a guarantee of future results. Index performance is not illustrative of fund performance. Prior to 4/24/2012, VanEck Vectors Morningstar Wide Moat ETF had no operating history. For fund performance current to the most recent month-end, visit vaneck.com.
Talk about Timing
Though we didn’t know it at the time, the Morningstar Wide Moat Focus Index rebalanced on the market’s recent bottom, March 20 – 23. Big name companies trading at big time discounts to Morningstar’s fair value estimate were added.
Boeing (BA) was added to the index for the first time when it was trading at a 70% discount to Morningstar’s fair value. At the end of April, Morningstar reduced Boeing’s fair value estimate approximately 15%, citing its debt burden associated with the continued 737 MAX grounding. Despite this reduction in fair value estimate, Boeing ended the month of May trading at nearly a 50% discount to fair value and has returned 53.51% since being added to the index.
Constellation Brands (STZ) has also posted an impressive 44.94% return in the short time it has been in the index. The beverage company—which derives its moat from its intangible assets, one of Morningstar’s five sources of moat—finished May at a 20% discount to fair value.
Other new entrants have lagged the broad market in that period, such as American Express (AXP, 29.98%), Bank of America (BAC, 22.62%), Corteva (CTVA, 21.89%), Blackbaud (BLKB, 13.63%), and US Bancorp (USB, 10.46%). As mentioned earlier, this strategy is built for the long-term and time will tell how the March 2020 rebalance will impact index performance.
VanEck Vectors Morningstar Wide ETF (MOAT) seeks to replicate as closely as possible, before fees and expenses the price and yield performance of the Morningstar Wide Moat Focus Index.
Source of stock returns: Morningstar. All returns quoted from 3/23/2020 through 5/31/2020.
The information presented does not involve the rendering of personalized investment, financial, legal, or tax advice. Certain statements contained herein may constitute projections, forecasts and other forward looking statements, which do not reflect actual results, are valid as of the date of this communication and subject to change without notice. Information provided by third party sources are believed to be reliable and have not been independently verified for accuracy or completeness and cannot be guaranteed. The information herein represents the opinion of the author(s), but not necessarily those of VanEck.
This commentary is not intended as a recommendation to buy or to sell any of the sectors or securities mentioned herein. Holdings will vary for the MOAT ETF and its corresponding Index. For a complete list of holdings in the ETF, please click here: https://www.vaneck.com/etf/equity/moat/holdings/.
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. Certain indices may take into account withholding taxes. 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 is maintained by Morningstar, Inc. Morningstar, Inc. does not sponsor, endorse, issue, sell, or promote the VanEck Vectors Morningstar Wide Moat ETF and bears no liability with respect to that ETF or any security. Morningstar® is a registered trademark of Morningstar, Inc. Morningstar® Wide Moat Focus IndexSM is a service mark 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® US Market IndexSM represents 97% of the total US stock market cap.
Effective June 20, 2016, Morningstar implemented several changes to the Morningstar Wide Moat Focus Index 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.
An investment in the VanEck Vectors Morningstar Wide Moat ETF (MOAT®) may be subject to risks which include, among others, investing in equity securities, consumer discretionary, financials, health care, industrials and information technology sectors, medium-capitalization companies, 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.
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