The researchers concluded that long-lasting moats tend to fall in several categories. Some companies simply thrive by keeping costs low. Businesses gain cost advantages by developing superior management systems or attaining a size that competitors cannot duplicate. A prime example of a low-cost champion is Wal-Mart ( WMT). Other businesses maintain advantages because they hold well-known brands or patents. Pharmaceutical companies such as Pfizer ( PFE) have long delivered rich profits by developing patented drugs that competitors cannot sell. To pinpoint winning companies, the analysts evaluate 1,500 stocks and assign a moat rating to each. At the top of the list are companies with wide moats. These have histories of generating solid returns on capital. Because of their moats, the businesses seem poised to continue performing at high levels for the next two decades.
A step down the scale come companies with narrow moats. While these have some competitive advantages, they may not maintain an edge for the next two decades. Finally there are companies with no moats. About 120 companies qualify for wide-moat ratings. From this group, the analysts assemble the 20 stocks that sell at the biggest discounts to their fair values. The low-cost group makes up the Morningstar Wide Moat Focus Index. Current holdings in the index include Weight Watchers ( WTW), Microsoft ( MSFT) , and Western Union ( WU), the leading provider of money transfer services. The index makes no attempt to be diversified, and sector weightings often shift. The assets in consumer discretionary stocks dropped from 30% of the portfolio at the beginning of 2010 down to zero two years later. Morningstar argues that the index approach works because short-term Wall Street investors fail to appreciate the value of wide-moat stocks. Champion companies may temporarily slip out of favor, but they rebound eventually because of their persistent advantages. Follow @StanLuxenbergThis article was written by an independent contributor, separate from TheStreet's regular news coverage.