Market Rotation Propels Moat Stocks

In September, U.S. equity markets extended their gains, with the S&P 500 reaching new heights, buoyed by Federal Reserve Chair Jerome Powell’s signal of a more dovish stance on monetary policy. Powell's commitment to sustaining economic health through the start of rate adjustments fueled optimism, overshadowing geopolitical concerns. This environment saw a significant rotation into value stocks, particularly in undervalued sectors, as investors sought balance amid a backdrop of easing monetary policy and a resilient, yet cooling, labor market. September's performance capped a strong quarter, setting a positive tone for market expectations into year-end.

The Morningstar Wide Moat Focus Index (the “Moat Index”) finished up 1.8% in September, capping off what was a notably strong third quarter where the Index gained 12.1% compared to the S&P 500’s return of 5.8%. The broadening out of the market, away from the Magnificent 7 and toward more value-oriented areas, provided a strong tailwind during the quarter. Year-to-date, the Moat Index still has some ground to make versus the S&P 500, but falling interest rates and the potential continued rotation away from mega-caps may prove supportive in the final months of the year.

Companies on the smaller end of the market cap spectrum also gained in September, but to a lesser extent. The small- and mid-cap benchmarks were up 0.9% and 1.2% during the month, respectively. The Morningstar U.S. Small-Mid Cap Moat Focus Index (the “SMID Moat Index”) fared better however, benefiting from strong stock selection leading to a 2.3% gain in September. During the quarter, small- and mid-caps bounced with market participants keying in on attractive valuations relative to large-caps and economic conditions that remain stable as we head into the start of a rate cutting cycle.

Moat Stocks Surged in Third Quarter | As of 9/30/2024

Source: Morningstar. As of 9/30/2024. Past performance is no guarantee of future results. Index performance is not representative of fund performance. It is not possible to invest directly in an index. Fund performance current to the most recent month end is available by visiting vaneck.com or by calling 800.826.2333.

Moat Index Quarterly Review Highlights: Core Shift and Fresh Faces

Both the Moat and SMID Moat Indexes underwent quarterly reviews on September 20, 2024. Each quarter they systematically target the most attractively priced, high quality U.S. companies within their respective universes. Below are a few takeaways from the reviews and how the indexes are now positioned. Full results of the most recent quarterly reviews are available here: Moat Index and SMID Moat Index.

Additionally, in our moat investing webinar, we provide more information on current positioning and recent performance, and members of Morningstar’s equity research team shared their perspectives on market trends and the companies they cover.

During the September review, the Moat Index saw 14 stock positions change within the portfolio. This reshuffling resulted in a slight shift towards core/blend stocks. Despite the shift toward blend, the Moat Index’s value posture remains in effect as its contrarian nature has led its exposure toward attractively priced companies in more value-oriented areas relative to the S&P 500 Index. Sector wise, the index's composition remained largely stable with industrials, health care, and consumer staples being overweight, while technology remained the most significant underweight.

Although the overweight to value stocks reduced slightly this quarter, several first-time index constituents were added at this quarter’s review reaffirming this value posture. The first timers added this quarter include industrial gas supplier Air Products and Chemicals (ADP), medical imaging leader GE HealthCare Technologies (GEHC), and industrial fluidics systems manufacturer Idex Corporation (IEX), among others, each bringing unique competitive advantages that have recently earned them 'wide moat' status from Morningstar. More information on these new entrants, and others, can be found in our recent blog covering the reconstitution in more detail.

Moat Index Sector Shifts Following 3Q 2024 Review | As of 9/20/2024

Source: Morningstar. As of 9/20/2024. Index performance is not representative of fund performance. It is not possible to invest directly in an index.

U.S. Equity Exposure Without the Lofty Valuations

The price/fair value ratio of the S&P 500 Index currently sits at 1.05. This implies that the companies in the S&P 500 are, overall, trading at approximately a 5% premium, according to Morningstar. This presents a challenge for investors looking to deploy cash into U.S. markets that are, again, reaching all-time highs. The Moat Index represents high quality companies currently mispriced by the market, in Morningstar’s view. It allows investors to consider a mix of well-positioned companies with upside potential. Currently, the Morningstar price/fair value ratio of the Moat Index is 0.86, implying a 14% discount to fair value.

SMID Moat Index Highlights: Electrifying Surge in Utilities

The latest quarterly reconstitution of the Morningstar US Small-Mid Cap Moat Focus Index (SMID Moat Index) showcased notable shifts, emphasizing adjustments in sector and size exposure based on evolving market valuations and opportunities. A prominent change was the exit of four electric utilities companies from the index, prompted by a roughly 20% surge in their stock values during the quarter. This rotation out of utilities, which had become the largest industry overweight following the prior June Index review, made room for increased allocations in financials, materials, and health care sectors, all of which saw an uptick this quarter.

Additionally, the reconstitution highlighted a continued trend towards increasing small-cap exposure, which rose by 2.4% this quarter, bringing it to about 34%, a notable increase from the 23% small-cap exposure at the start of the year. This shift signifies a tactical move towards valuation opportunities that are present in the small-cap segment of the market. In terms of style exposure, there was minimal shift; the index continues to maintain an underweight stance on growth stocks, preferring tilts towards value and core stocks.

SMID Moat Index Sector Shifts Following 3Q 2024 Review | As of 9/20/2024

Source: Morningstar. As of 9/20/2024. Index performance is not representative of fund performance. It is not possible to invest directly in an index.