Moat Stock Valuations Dictate 2022 Positioning
January 06, 2022
The Morningstar® Wide Moat Focus IndexSM (the “Moat Index” or “Index”) finished 2021 strong, outpacing the S&P 500 Index (4.85% vs. 4.48%, respectively) in December. Unfortunately, it wasn’t enough to overcome a challenging October and November. The Index gave up the sizable excess return advantage it accumulated through the first nine months of the year in October and November due to its value overweight and its growth and blend underweight. The Index posted a total return of 24.81% in 2021 vs. 28.71% for the S&P 500 Index.
Moat Index Positioning into 2022
The Moat Index underwent its quarterly review on December 17, 2021. Each quarter it systematically targets the most attractively priced wide moat companies in the U.S. The December review resulted in seven companies added and removed from the Index. Here are a few takeaways from this review:
Health Care Moat Exposure Hits Five Year Low
Health care, a long-time Moat Index overweight, is now at its lowest weighting since December 2015 following a 3% decrease in exposure. The sector represented over 30% of the Moat Index for the better part of 2016 through 2018.
First Time Moat Index Members
Two companies were added to the Moat Index for the first time in December:
Honeywell International (HON)
Morningstar views Honeywell as one of the highest-quality companies in the diversified industrials space and attributes its wide economic moat to intangible assets, switching costs and, to a lesser extent, cost advantages. Well known for its building technologies history, Honeywell is far more than a heating and cooling company. Its aerospace division is its widest-moat business, according to Morningstar.
Honeywell has long traded at a premium to Morningstar’s fair value estimate, which has excluded the company from the Moat Index in years past. However, following the release of the company’s third quarter results, Morningstar raised Honeywell’s fair value estimate to $225 per share from $211, opening an opportunity for Honeywell’s price/fair value ratio to qualify for inclusion in December. The increase to Honeywell’s fair value estimate was somewhat contrarian at the time, given that the company’s share price moved in the opposite direction as market participants reacted to short-term supply chain issues impacting the company. Morningstar’s long-term perspective left them unconcerned with the implications of supply chain disruptions on Honeywell’s long-term prospects.
MercadoLibre operates the largest e-commerce marketplace in Latin America. Despite its regional revenue base, the company is incorporated in the U.S. and trades on Nasdaq, making it eligible for the U.S.-focused Moat Index. While some view MercadoLibre as an emerging markets company, it is not uncommon to see the e-commerce giant in U.S. indexes. For example, MSCI includes MercadoLibre in many of its U.S. factor indexes.
The company benefits primarily from a network effect. Its platform grows stronger as new users are onboarded to both sides of the marketplace. Sellers benefit from quicker inventory turnover and access to a larger pool of potential customers, while buyers benefit from better search engine optimization, breadth of selection, and lower shipping costs.
Similar to Honeywell, Morningstar raised MercadoLibre’s fair value estimate in November, opening the door for its inclusion in the Moat Index in December. Shortly following the early November fair value estimate revision, MercadoLibre announced a one million share equity issuance, which drove selling pressure on the stock. Unlike the broader market, Morningstar did not view the announcement as negative, but rather as similar to a historical pattern from MercadoLibre and maintained its increased fair value estimate.
Value and Growth Exposures Increased
Both value and growth style exposures increased following the December review. This drove “core” exposure lower. These are companies that display characteristics of both growth and value according to Morningstar, with neither characteristic dominant. The Moat Index remains significantly overweight to value stocks relative to the S&P 500 Index, modestly underweight growth stocks and increasingly underweight core stocks.
Moat Index’s Value Prominence Remains in Place
Source: Morningstar. Data as of 12/17/2021. Prior Exposure represents the Moat Index prior to the index review as of 12/17/2021. Rebalanced Exposure represents the Moat Index following the Index review effective after the close of markets on 12/17/2021. Past performance is no guarantee of future results. Index performance is not illustrative of fund performance. For fund performance current to the most recent month-end, visit vaneck.com.
Hear It from the Horse’s Mouth
Lastly, I encourage you to join me on our quarterly moat investing webinar on January 11. I’ll be joined by three Morningstar analysts, who will touch on Moat Index performance and quarterly review, and we’ll take a deep dive into a few unique materials and consumer goods companies in the Index. Register for the webinar here.
VanEck 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.
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