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The Morningstar® Wide Moat Focus IndexSM (the “Moat Index” or “Index”) stood out in February, finishing ahead of the S&P 500® Index by more than 3% (6.11% vs. 2.76%, respectively). It was certainly a big month for value stocks as the Russell 1000 Value Index posted a return of 6.04% compared to the Russell 1000 Growth Index’s -0.02% return. Although there was a value story at play for the Moat Index, it wasn’t quite as simple as you may think.
I’ve discussed the Index’s shift to value throughout 2020, but the Index is far from a pure value strategy. Its focus on valuations often results in exposure to value stocks, but growth stocks have and continue to play an important role in its strategy. For example, the largest sector contribution to the Index’s return in February came from financials, generally a value-heavy sector. Unsurprisingly, financials are also the largest sector overweight in the Index. But, the second highest sector return contribution came from information technology–the Index’s largest underweight and generally synonymous with growth investing. The bigger story may be how the Index’s positioning through the pandemic is now playing out.
Source: Morningstar. 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.
Large banks and brokerages, many of which became Index members or increased in exposure in March 2020, have earned their moment in the spotlight. Led by Charles Schwab (SCHW) and Wells Fargo (WFC), four of the five top contributors to Index performance in February came from the financials sector.
Schwab is off to a strong start to 2021. Its stock has consistently traded above Morningstar’s fair value estimate of $51 per share in January and February for the first time in years. Some concerns lingered following the dramatic price movements in several heavily shorted stocks in late January, as brokerages can be exposed to losses related to customers trading on margin. But those fears were dissuaded following management’s disclosure that any losses were not material. Morningstar also noted that Schwab’s winter business update pointed to better than expected merger synergies with TD Ameritrade. Its fair value estimate has remained stable since the beginning of the year.
WFC announced in late February the intended sale of their asset management business to two private equity firms. The deal size came in lower than Morningstar’s expectations, but the unit represents only about 2% of WFC’s overall revenue. Morningstar has maintained its $45 per share fair value estimate that has been in place since October 2020. The bank has recovered from discounts to Morningstar’s fair value estimate of greater than 50%, but remains undervalued according to Morningstar.
Bank of American (BAC) and US Bancorp (USB) were both added to the Moat Index following the market turmoil of March 2020. BAC managed to remain profitable through the pandemic, and USB saw its fair value estimate raised at the end of February 2021. Both now trade above their Morningstar fair value estimate—a stark contrast to when both stocks entered the Index at approximately 25% discount to fair value in March 2020.
Apple (AAPL) is one tech company that has never been a member of the Moat Index, owing to its narrow moat rating from Morningstar’s equity research team. Truth be told, lack of exposure to AAPL has been to the detriment of the Moat Index’s returns for the better part of the last several years. However, it certainly helped relative performance in February though the Index’s tech exposure was more than an AAPL story. Three of the top 10 contributors to Index return were chip companies: Applied Materials (AMAT), Lam Research (LAM) and Intel (INTC). All three finished February trading above or very near Morningstar’s fair value estimate.
This isn’t the first time chip companies left their mark following turmoil in the markets. In late 2018 amidst U.S./China trade tensions, the tech sector sold off, resulting in increased Index exposure to chip makers as valuation opportunities presented themselves in the industry. Some were top contributors to the Index’s strong 2019. Most recently, chip companies took a more prominent position in the Moat Index starting in September 2020, with the introduction of LAM and increased weighting of AMAT in addition to several other chip companies already in the Index at the time.
Periods greater than one year reflected annualized returns. Source: Morningstar. 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.
Health care was the only sector causing a notable drag on Index returns. Cerner Corp (CERN), Gilead Sciences (GILD), Pfizer (PFE), and Merck (MRK) were among the worst performing members of the Moat Index in February.
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