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By Jeremy Glaser | 10-18-2011 11:21 AM

Three Steps to Better Stock Investing

Focusing on competitive advantage, valuation, and margins of safety is a winning strategy for stock-picking, says Morningstar's Heather Brilliant.

Jeremy Glaser: For Morningstar, I'm Jeremy Glaser.

This week on Morningstar.com, we're looking at 5 Days to Become a Better Investor. I'm here today with Heather Brilliant. She's the head of global credit and equity research for Morningstar, for a look at individual stock selection.

Heather, thanks for joining me.

Heather Brilliant: Thanks for having me, Jeremy.

Glaser: So, I know that when you dive into buying individual stocks, it can be kind of overwhelming. You have all of these SEC filings and all this information that can be difficult to sort out the wheat from the chaff.

Can you talk to us a little bit about Morningstar's approach into selecting individual stocks? What's a good place to start?

Brilliant: We really look at three main factors when we're trying to figure out which stocks would make an attractive investment. The first is economic moat or sustainable competitive advantage. This is really a screen or a tool to be able to make sure that you're buying the highest-quality businesses that you can.

Now, some might say, "Oh, that's kind of obvious. Of course you should buy something like a McDonald's or a Coke." But the second element that we really bring into it is the importance of valuation and making sure that the stocks you're buying are trading at a reasonable discount to what we think they're worth, or what you think they're worth as that investor.

And finally, we always look for a margin of safety. So, if you think a given company is worth $50 a share, you might not be willing to pay $50 a share. You might want to pay maybe a 20% discount before you'd be willing to buy it.

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