Consider This Model “Wide Moat” Portfolio
Yesterday I wrote an article in which I highlight the importance of isolating companies that have wide economic moats as quality investment choices. An economic moat is an intrinsic market advantage that a company has over its competitors in virtue of one or more of the following three qualities:
- The company has infrastructure in place that is extremely expensive and burdensome to replicate.
- The company has brand recognition that gives it an inherent market advantage over its competitors with weaker brands.
- The company has unparalleled knowledge, generally in the form of a patent, that give it the unique ability to produce a product and a de facto monopoly in that particular market.
There are several companies with economic moats, and I think that a quality portfolio needs to be invested in these companies. In this article I point out three that investors should consider. I think that if you buy shares in these three companies that you should be able to do extremely well. Note, however, that I am not alone in this opinion, and the market has bid up shares of these companies. No matter how wonderful an investment opportunity might seem to be it is always a good idea to wait for pullbacks and corrections. Every quality investment sees its share price drop substantially at some time or another. By recognizing the power of economic moats and by understanding why these companies have economic moats, you will have the confidence to buy these stocks when everybody else is selling.
1. CSX Corp. (NYSE:CSX)
CSX is in the rail transport business. Of the above qualities that characterize an economic moat CSX, as well as its peers, have the first one—it has infrastructure that is extremely costly and burdensome to replicate. CSX owns over 20,000 miles of track in the eastern part of the U. S. and in part of Canada. It would cost billions of dollars for another company to replicate CSX’s infrastructure, and for this reason I think it is a quality investment. It only has a handful of competitors, and only one — Norfolk Southern (NSC) competes directly with CSX in this region. Note that I chose CSX over Norfolk Southern because I own shares — I was lucky enough to be able to buy some inexpensively earlier this year when the company reported bad earnings.
CSX is within 1 percent of its all-time high of $29.45/share, so investors may want to wait for another pullback in order to take a position. Still, the stock trades at 16 times earnings, which is well below the 20+ earnings multiple investors are willing to pay for the S&P 500, so buying now may not be such a bad idea.
2. Apple (NASDAQ:AAPL)
Apple has all three qualities that I list as definitive of an economic moat. Apple has an infrastructure that is expensive and burdensome to replicate in its iTunes network. It has an instantly recognizable brand that is associated with quality products. Finally it has a rich portfolio of patents that gives it the sole right to produce certain technologies.
For these reasons Apple is a compelling investment. Furthermore, unlike CSX, Apple stock is nowhere near its all-time high of just over $700/share. This may mean that investors are getting an attractive entry point at $542/share.
One issue I have with Apple is its size. As the largest publicly traded company in the world one has to wonder how much larger it can get. Furthermore Apple has not introduced any new and exciting products since Steve Jobs died. With this being said there is some doubt as to whether or not Apple is a good investment. But if you believe that the company will continue to innovate this doubt has created an excellent long term buying opportunity.
3. Visa (NYSE:V)
Visa is the poster-child of a wide economic moat. While CSX only has the first attribute of the three listed above, and while Apple has all three, but on only some of its products, Visa’s product — cashless payment facilitation — has an extremely strong economic moat that is backed up by an unparalleled infrastructure, a universally known brand, and intellectual property. If we couple this moat with the fact that more and more payments are cashless, Visa becomes one of the most compelling investment opportunities out there.
Unfortunately a lot of other investors have realized this, and the stock trades at twenty-four times 2014 earnings estimates. But the company has consistent earnings growth of 19 percent per year, it is growing its dividend rapidly, and it is buying back its own stock. Still, I think investors would be wise to wait for a pullback before taking a position in Visa. While it has an advantage over virtually every other investment that I can think of it is still a business that needs to generate profits and returns for shareholders. Therefore I think investors need to wait for the stock to trade at about twenty times earnings, which would put the shares at about $180 each, or $34 lower than the current price. But with that being said the company often faces anti-trust litigation and regulatory scrutiny. In the past these headlines have created short term weakness in Visa shares that have proved to be longer term buying opportunities.
Disclosure: Ben Kramer-Miller is long CSX Corp. and Visa.